Force of Attraction rule not applicable if services are rendered outside India
The Mumbai Income Tax Appellate Tribunal (“Tax Tribunal”) recently held in the case of WNS North America Inc.1 (“WNS US”) that where a US tax resident has a permanent establishment (“PE”) in India, profits attributable to activities carried on by the US non-resident outside India directly (i.e., activities not attributable to the PE) cannot be subject to tax in India. It held that the limited force of attraction rule in the India-US double tax avoidance treaty (“India-US Treaty”) does not extend to such activities carried out outside India.
Under most of India’s tax treaties, if a non-resident has a PE in India, its business profits are taxable in India only to the extent attributable to the PE. However, under the India-US Treaty, in addition to the profits attributable to the PE, profits attributable to sales/ other activities in India carried on by the non-resident directly (i.e., without the intervention of the PE) are also taxable in India if the sales / other activities are same as or similar to the goods sold / activities carried out by the PE. This is referred to as the ‘force of attraction’ rule.
WNS US was providing marketing and managerial services to WNS Global Services Pvt. Ltd. (“WNS India”), which is its associated enterprise in India. WNS US was entitled to receive fees at its cost plus 10% mark up. In 2006-07, WNS US received INR 681.5 million (about USD 10.9 million) as fees for its services. WNS US’s employees visited India to provide a part of such services. WNS US treated the presence of its employees in India to constitute a PE in India and in its return of income, declared INR 65.2 million (about USD 1.04 million) attributable to such employees’ presence in India as its income in 2006-07.
The Assessing Officer (“AO”) held that the entire sum of INR 681.5 million constituted 'Fees for Included Services' (“FIS”) under the India-US Treaty, which is taxable at 15%. On appeal, the Commissioner (Appeals), following the decision of the Tax Tribunal in WNS US’s own case in earlier years, held that: (i) the services rendered by WNS US did not constitute FIS; (ii) WNS US had a PE in India; and (iii) the remaining sum of INR 616.3 million (about USD 9.86 million) that were not attributable to the PE in India was not taxable in India.
The tax department argued that the benefit of the services rendered by WNS US (in its entirety) was received in India and that consequently, the services should be deemed to have been rendered in India. Therefore, the entire fee should be taxable in India as per the force of attraction rule in the India-US Treaty.
The Tax Tribunal, following its earlier rulings in WNS US’s own case, held that the services did not constitute FIS under the India-US Treaty as the services did not ‘make available’ the knowledge/ experience underlying the services to the recipient in such a manner that enabled the recipient to apply the knowledge/ experience on its own in similar circumstances.
Further, as the existence of a PE was not the major issue in dispute2, the key issue was whether the force of attraction rule in the India-US Treaty extended to services rendered outside India. The Tax Tribunal held that, even where there is a PE, services rendered directly (without the PE playing any role) are taxable in India only if the services either have been subsidiary or integral to a transaction taxable in India or the services satisfy the following two conditions, which are necessary for applying the force of attraction rule:
In the case of the WNS US, the Tax Tribunal held that the services rendered outside India were neither ancillary to services taxable in India nor did they fulfill the two conditions above to attract the force of attraction rule. So, only INR 65.2 million attributable to the PE in India was held taxable in India. The remaining sum of INR 616.3 million attributable to services rendered outside India was held to be not taxable in India.
The ruling of the Tax Tribunal, which is in consonance with the interpretation of similar provisions in the UN model3, and also with the Tribunal’s own ruling earlier in the case of Scientific Atlanta Inc.4, is a welcome move that brings clarity for US residents exploring the Indian market.
The ruling of the Tax Tribunal is specifically of significance to players in the US’ service industry aiming to tap Indian markets, particularly for industries in the business of information technology, marketing, processing goods, etc., which may carry out its activities both internally within in India and externally.
1 ADIT v. WNS North America Inc. (ITA No. 2944/Mum/2012, dated July 31, 2013).
2 Where services are rendered by a non-resident to an associated enterprise, the presence of personnel in India even for a single day for provision of such services constitutes a PE of the non-resident in India under the India-US Treaty.
3 The Commentary to Article 7.1 of the UN model states that the force of attraction rule should be limited to “transactions conducted directly by the home office within the country that are similar in nature to those conducted by the permanent establishment”.
4 DDIT v. Scientific Atlanta Inc.,  33 SOT 220 (Mum).