Finance Bill amends Sections 44BB & 44DA but purpose is not served!

By TIOL News Service

NEW DELHI, MAR 02, 2010: FEES for technical services (FTS) are taxed as per the rate provided under the respective DTAA. When there is no DTAA, domestic law provides the rate of taxation in Section 115A. Section 115A came into the statute book along with section 9(1) (vii), which deemed FTS to accrue or arise in India when the payer is in India. This rate was concessional as compared to the general rate of taxation applicable to foreign companies. Currently, the rate stands at 10%.

By the same Finance Act, 1976, section 44D was introduced which specifically provided that the ordinary deductions provided for computation of business income will not apply to income received by foreign companies in the form of FTS. The result was taxation of gross receipts but at a concessional rate.

By the Finance Act, 1987, section 44BB was introduced which contained special dispensation for computing profits in the case of foreign companies engaged in the business of providing services or facilities in connection with extraction or production of mineral oils. In such cases, the income was deemed to be 10% and normal rate of tax was to be charged. Assuming a rate of tax of 40%, the income would then be charged @4% only.

The proviso to the section, however, stated that the cases covered by section 44D stood excluded. In other words, if it was a case of fee for technical services, per se, it stood excluded.

The problem not envisaged was that there may be cases where provision of services relating to exploration of oil could also comprise fees for technical services. The issue came up for consideration before the AAR in the case of P/6 of 1995 [2002-TIOL-02-ARA-IT]. Of course, in that case the effort was mainly to show that the nature of the services rendered were not fee for technical services, an argument not finally accepted by the AAR. The AAR pointed out that Section 44D starts with an overriding expression 'notwithstanding anything to the contrary contained in sections 28 to 44C' meaning thereby that section 44BB was also superseded. It was also pointed out that the proviso in section 44BB would be meaningless if royalty and technical service fees arising out of a business could not at all fall within the purview of section 44D.

The problem, however, got compounded by the change in the method of computation of income form royalty, FTS etc introduced by the Finance Act, 2003. A new section 44DA was introduced and it was provided that if the FTS etc were effectively connected with a PE, then in terms of the principles of taxation of PE, such FTS income would be calculated on a net basis and maintenance of books by the PE was also made compulsory. Necessary amendment was also made in section 115A so that fees for technical services etc when rendered through a PE was taken out of the regime of low taxation on gross basis. The proviso to section 44BB, however, continued to make a reference to section 44D alone with the result that it was now possible to argue that preferential taxation as given in section 44BB could be claimed in cases where fees for technical services were related to prospecting for or extraction or production of mineral oil.

The matter in fact came up before the AAR, in Geofizyka Torun SP [2009-TIOL-31-ARA-IT]. In this case, a Polish company providing seismic data to ONGC sought a ruling from the AAR on the taxability of its income from rendering such services. The AAR ruled that the services rendered were definitely in connection with oil exploration and that section 44BB would apply. One of the reasons for the AAR to come to this conclusion was the fact that the proviso to section 44BB makes no reference to section 44DA. It was also held that the income received by a non-resident businessman for the technical services provided in relation to prospecting and extraction of mineral oil will be wholly governed by S.44BB for the purposes of computation. The AAR observed that if all the services that are in the nature of technical services within the meaning of Explanation 2 to Section 9(1)(vii) are to be computed in accordance with 44DA, very little purpose will be served by incorporating a special provision in 44BB for computing the profits in relation to the services connected with exploration and extraction of mineral oils. The provision will then operate in a very limited field.

Substantial revenue is involved in the cases involving oil exploration contracts and difference of 6% rate in the calculation of tax amounts to substantial revenue. The Finance Bill, 2010, therefore, supplies the omission by including a reference to section 44DA in the proviso to section 44BB. At the same time, it also proposes an amendment to section 44DA to provide that the provisions of section 44BB shall not apply to the income covered under section 44DA. It is not clear what purpose is served by this reference. Section 44DA will apply when services are rendered through a PE. But, if there is no PE and services are rendered from abroad, section 44DA will not apply and in such an event an argument can still be taken that if the technical services were rendered in connection with prospecting, exploration etc of oil, the lower rate as envisaged in section 44BB should be applied.

The Memorandum explaining the Budget mentions that if the income of the non-resident is in the nature of fee for technical services, it shall be taxable under the provisions of either section 115A or section 44DA irrespective of the business to which it relates. That intention does not seem to be clearly brought out by the proposed amendments. Considering the litigations involved, the easiest thing would have been to specifically state in section 44BB in clear terms that the provisions would not apply to fees for technical services as defined in section 9(1)(vii).