Tax Insights

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1 PwC pwc.in

Tax Insights

10 August 2023

Payment for purchase of online advertisement space cannot be characterised as royalty or FTS; CSR expenditure eligible for deduction under section 80G of the Act – Bangalore bench of the Tribunal

In brief

The Bangalore bench of the Income-tax Appellate Tribunal (Tribunal) in the recent ruling¹ was of the viewthat –

• The taxpayer—who has purchased online advertisement space from a foreign entity (Ireland) on a principal- to-principal basis—cannot be considered as the dependent agent permanent establishment (DAPE) of such f oreign entity. Consequently, no additional attribution of profits can be made.

• Payments made for the purchase of online advertisement space from a foreign entity cannot be characterised as royalty or f ees for technical services (FTS). Moreover, in the absence of a permanent establishment (PE) of such a f oreign entity in India, such payments cannot be taxed as business income.

Theref ore, there is no liability to deduct tax and no disallowance under section 40(a)(i) of the Income-tax Act, 1961 (the Act).

• Deduction under section 80G of the Act is allowed on the expenditure incurred, even if the same is part of corporate social responsibility (CSR) spends.

In detail

Facts

• For a block of assessment years (AYs), the tax officer (TO) had made, inter-alia, a disallowance under section 40(a)(i) of the Act for the purchase price of online advertisement space from a foreign entity. The TO had –

- treated said amount as royalty or FTS;

- made transfer pricing (TP) adjustments;

- made additional attribution by treating the taxpayer as a DAPE of the foreign ent ity in India; and - denied deduction under section 80G of the Act in the final assessment orders.

1 IT(TP)A No.68 & 205/ Bang/ 2015, IT(TP)A No.559 & 881/ Bang/ 2016, IT(TP)A 387 & 2890/ Bang/2017, IT(TP)A 3430/ Bang/

2018, IT(TP)A No.2301/ Bang/ 2019

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• Aggrieved with the above, the taxpayer challenged the TO’s order before the Tribunal (through the Dispute Resolution Panel route). The Tribunal vide its order dated 11 May 2018 was of the view that the payments the taxpayer had made to the foreign entity for purchase of online advertisement space were in the nature of royalty. Moreover, in concluding this, the Tribunal relied on, inter-alia, unsolicited material without af f ording the taxpayer the opportunity to rebut the said material.

• The taxpayer filed appeals with the High Court. The High Court, while admitting the questions of law in the appeal, remanded the matter back to the Tribunal for de novo adjudication.

Taxpayer’s contentions

• The TP additions do not survive on account of advance pricing agreement (APA), pursuant to which the taxpayer had already filed modified tax returns. Additionally, the TP proceedings have been completed upon acceptance of the modified tax returns.

• The TO is not justified in rejecting the duly audited books of accounts, based on conjectures and surmises, without appreciating the disclosures made. Reliance was placed on the coordinate bench’s ruling in the taxpayer’s own case for AY 2008–09.

• As regards the constitution of a DAPE, the taxpayer has been conducting its business of the reselling of online advertisement space on its own account on a principal-to-principal basis and not as an agent or representative of a foreign entity.

• Such f oreign entity did not have any business connection or PE in India. Thus, payments made by the taxpayer to the foreign entity could not be subjected to tax provisions in India. Reliance was placed on the rulings of the coordinate bench,²³ in f avour of the taxpayer.

• As regards the allegation of FTS, the taxpayer relied on the decision in the case of Skycell Communications Limited,⁴ stating that the definitions of FTS under the Act and the India-Ireland Double Taxation Avoidance Agreement (DTAA) are worded identically. Theref ore, to be covered within the scope of FTS, the

consideration paid ought to be for the rendition of managerial, technical or consultancy services. It was submitted that since the provision of online advertisement space is a standard facility for the display of online advertisements on web properties and is not custom-made, the same cannot partake the character of FTS.

• Regarding the deduction claimed under section 80G of the Act, the taxpayer had made donations to eligible educational institutions and medical research institutions, for which deduction under section 80G of the Act is available as per the relevant provisions of the Act. Reference was drawn to the Tribunal’s ruling in the case of First American India Private Limited⁵.

Tribunal’s ruling

• The TP additions for the block of AYs do not survive on account of the APA, as the APA entered into for these years covers all TP issues involved in the appeals. In addition, the Tribunal has observed that the Transf er Pricing Officer has accepted the modified tax returns the taxpayer has filed.

• In relation to the rejection of books of accounts, the Tribunal has followed its own ruling in the taxpayer’s case f or AY 2008–09, wherein it was opined that merely because the taxpayer had presented the revenue earned f rom sale of online advertisement space net of the purchase price of online advertisement space, the books of accounts cannot be rejected. It was further observed that the revenue did not make any case f or the rejection of books of accounts. Accordingly, the Tribunal was of the view that books of accounts cannot be rejected.

• Regarding the allegation of the constitution of DAPE and additional attribution of profits of the foreign entity, the Tribunal has f ollowed its own ruling in the case of the taxpayer.^{2 3} Accordingly, the Tribunal was of the view that (1) the f oreign entity had no PE in India and (2) since the activities that the taxpayer had

conducted are on a principal-to-principal basis, the taxpayer cannot be held to be the DAPE or representative taxpayer of the foreign entity. Thus, no additional attribution can be made.

2 IT(IT)A No. 2845/ Bang/ 2017

3 IT(TP)A Nos. 1513 to 1516/ Bang/ 2013

4 Skycell Co mmunications Limited v. DCIT [2001] 119 Taxman 496 (Madras)

5 First American India Private Limited v. ACIT [ITA No. 1762/ Bang/ 2019]

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• As regards the allegation that payments the taxpayer has made to the foreign entity are in the nature of royalty, the Tribunal has observed that, in its earlier rulings in the taxpayer’s case, it was of the view that such payments are not in the nature of royalty but in the nature of business profits, which in the absence of a PE in India cannot be charged to tax. Hence, there was no requirement to deduct taxes on the said payments. The Tribunal relying on the Supreme Court’s⁶ decision concluded that the advertising program being used by the taxpayer is essentially a computer program or software, and the issue regarding the use of computer software tantamounting to royalty now stands resolved. Moreover, the Tribunal also stated that since the provisions of equalisation levy are applicable specifically for provision of specified services which include provision of advertisement space, hence, the payments made for online advertisement space are covered under equalisation levy and not royalty.

• The Tribunal has also concluded that the Revenue has not made out any case to categorise the amounts the taxpayer had paid to the foreign entity as FTS. The Tribunal has noted the taxpayer’s submission that the online advertisement space is a standard facility for the display of advertisements on web properties and is not custom-made. Therefore, it has concluded that the payments cannot be treated as FTS.

• In relation to the denial of deduction under section 80G of the Act, the Tribunal is of the view that the Revenue has brought nothing on record to establish that the taxpayer’s donations are not eligible for deduction under section 80G of the Act. Thus, following its own ruling in the case of First American India Private Limited⁵, the Tribunal has directed the TO to compute the deduction under section 80G of the Act to the extent of its eligibility in terms of the relevant provisions of the Act.

The takeaways

This ruling af firms the view that online transaction of the sale of advertisement space under the online advertisement space does not entail the provision of any rights or intellectual property rights to customers;

theref ore, the payments made are not taxable as royalty. Moreover, the ruling concludes that the said transaction does not tantamount to FTS, noting the same to be a standard facility and not customised as per the needs or requirements of each customer. The Tribunal also affirms the view that TP adjustments cannot be made f or issues that have already been agreed in the APA. The Tribunal additionally concludes that since the taxpayer is not a DAPE of the foreign entity, the question of attributing any further profits to the taxpayer in the capacity of a representative taxpayer of the foreign entity would not arise. Finally, the Tribunal has

supplemented the view that the taxpayer’s CSR spends are eligible for deduction under section 80G of the Act.

6 Engineering Analysis Centre of Excellence Private Limited v. CIT & Anr. [2021] 432 ITR 471 (SC)

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In this document, “PwC” refers to PricewaterhouseCoopers Private Limited (a limited liability company in India having Corporate Identity Number or CIN : U74140WB1983PTC036093), which is a member firm of PricewaterhouseCoopers International Limited (PwCIL), each member firm of which is a separate legal entity.

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