Foreign businesses with 'no presence' in India - Your logistics support provider could be a PE!
The Authority for Advance Rulings (“AAR”), in a recent ruling in the case of M/s. Seagate Singapore International1 (“Applicant”) held that a permanent establishment (“PE”) would be constituted in India, on account of warehousing services and logistics support provided to a foreign enterprise by Indian independent service providers. The decision of the AAR rested mainly on the principle that ownership of premises is not a pre-condition to the constitution of a PE and even a demarcated space/area within a warehouse provided by independent service providers (“ISPs”) could tantamount to being a PE of a foreign enterprise.
The Applicant, a Singaporean company, is engaged in the business of manufacturing hard disks drives (“Disks”), which it supplies to its Indian customers being Original Equipment Manufacturers (“OEMs”). In order to expedite delivery to OEMs, the Applicant proposes to enter into agreements with Indian ISPs, per which, the Applicant will ship the Disks to the ISP upon receipt of a purchase order from an OEM. The ISPs will facilitate customs clearance and storage of the Disks in a bonded warehouse; and subsequently on a ‘pull request’ from the OEM, clear the Disks from the warehouse and deliver them to the OEM. The title to the Disks will continue to remain with the Applicant, which will raise the invoice on the OEM.
As consideration, ISPs would be entitled to receive facilitation fees and reimbursement for value added taxes paid on sale of Disks for the Applicant. A diagrammatic representation of the structure is contained below in Figure 1
The AAR was required to examine the implications of the said arrangements, the specific issues being: a) Whether the Applicant could be considered to have a PE under Articles 5(1) or 5(8) of the India-Singapore double tax treaty (“Treaty”) and b) Whether any income could be attributable to the PE under Article 7 of the Treaty, if the ISPs were paid on an arm’s length basis?
The Applicant argued that it did not satisfy the requirements of Article 5(1) as it did not have any presence in India in form of an office, place of business, premises or facilities, or any employees in India. Further, the Applicant argued that it did not have any place at its disposal in India but only a restricted right of entry into warehouses owned by the ISPs. The Revenue Authorities, on the other hand, contended that the warehouses of the ISPs should be treated as the fixed place PE of the Applicant under Article 5(1), and that the references to ‘warehouse’ in the agreement brought the Applicant within the ambit of the illustrative list in Article 5(2). Alternatively, it was argued that the Applicant would have an agency PE under Article 5(4) of the Treaty.
The AAR examined the terms of the agreement proposed to be entered into between the Applicant and one of the ISPs another Indian company. It was observed that the agreement described the ISP as a ‘warehouse provider’, which would provide a demarcated space within the warehouse for the Disks. It was also observed that the agreement gave the Applicant a restricted right to enter the warehouse for inventory, inspection and audit and other specified activities.
It was held by the AAR that a PE under Article 5(1) did not require ownership of the premises so long as a space was earmarked for use by the foreign enterprise, in this case, the Applicant. It was further held that restrictions on entry were on account of the fact that the entire warehouse may not be at the disposal of the Applicant. However, it was held that the allocation of space coupled with inspection rights, audit rights, etc. were evidence of the Applicant having a fixed place PE in India under Article 5(1). The issue of agency PE was not dealt with.
This case reiterates the importance of appropriate structuring of arrangements entered into by foreign enterprises for distribution of goods in India. As discussed above, the Applicant’s agreement came under the scanner on account of the specific reference to ‘warehouses’, which forms a part of the illustrative list contained in Article 5(2). However, it is generally agreed that in order to be brought under Article 5(2), the conditions prescribed by Article 5(1) should be satisfied. Therefore, mere reference to ‘warehouses’ should not have resulted in PE exposure for the taxpayer, if Article 5(1) was not satisfied. In this case, there was an increased exposure to the taxpayer on account of the specific demarcation of warehouse space for the Disks, as well as the rights of entry and inspection of the premises. For example, if the Applicant had retained no title on the Disks, but merely entered into a re-sale distribution arrangement with the ISPs, the PE exposure may have been mitigated.
Having said this, it is important to note that PE analysis is highly fact specific and must be determined as per the unique circumstances of each case. For example, in situations where ISPs act as distribution agents, it would be relevant to examine the exposure to ‘Agency PE’ also. Foreign enterprises must keep in mind that PE exposure can exist on account of a wide variety of arrangements and mere non-ownership of premises is not automatic protection against PE risk.