Page 1 Reportable

IN THE SUPREME COURT OF INDIA

CIVIL APPELLATE JURISDICTION

CIVIL APPEAL NO. 7796 OF 1997

GVK Industries Ltd. & Anr. ... Appellants

Versus

The Income Tax Officer & Anr. ...

Respondents

J U D G M E N T

Dipak Misra, J.

The appellant No. 1 is a company incorporated under

the Companies Act, 1956 for the purpose of setting up a 235

MW Gas based power project at Jegurupadu, Rajahmundry,

Andhra Pradesh at an estimated cost of Rs.839 crores and

the appellant No. 2 is a director of the company. The main

object of the appellant company is to generate and sell

electricity.

Page 2 2. With the intention to utilize the expert services of

qualified and experienced professionals who could prepare a

scheme for raising the required finance and tie up the

required loan, it sought services of a consultant and

eventually entered into an agreement with ABB – Projects &

Trade Finance International Ltd., Zurich, Switzerland,

(hereinafter referred to as “Non-Resident Company/NRC”).

The NRC, having regard to the requirements of the

appellant-company offered its services as financial advisor

to its project from July 08, 1993. Those services included,

inter alia, financial structure and security package to be

offered to the lender, making an assessment of export credit

agencies world-wide and obtaining commercial bank support

on the most competitive terms, assisting the appellant loan

negotiations and documentation with lenders and

structuring, negotiating and closing the financing for the

project in a coordinated and expeditious manner. For its

services the NRC was to be paid, what is termed as,

“success fee” at the rate of 0.75% of the total debt

financing. The said proposal was placed before the Board

meeting of the company on August 21, 1993 and the Board

2

Page 3 of Directors approved the appointment of the NRC and

advised that it be involved in the proposed public issue of

share by the company. The NRC rendered professional

services from Zurich by correspondence as to how to

execute the documents for sanction of loan by the financial

institutions within and outside the country. With advice of

NRC the appellant-company approached the Indian Financial

Institutions with the Industrial Development Bank of India

(IDBI) acting as the Lead Financier for its Rupee loan

requirement and for a part of its foreign currency loan

requirement it approached International Finance Corporation

(IFC), Washington DC, USA. After successful rendering of

services the NRC sent invoice to the appellant-company for

payment of success fee amount i.e., US $.17,15,476.16

(Rs.5.4 Crores).

3.As the facts would unfurl after the receipt of the said

invoice the appellant-company approached the concerned

income tax officer, the first respondent herein, for issuing a

‘No Objection Certificate’ to remit the said sum duly

pointing out that the NRC had no place of business in India;

that all the services rendered by it were from outside India;

3

Page 4 and that no part of success fee could be said to arise or

accrue or deemed to arise or accrue in India attracting the

liability under the Income-tax Act, 1961 (for brevity, ‘the

Act’) by the NRC. It was also stated as the NRC had no

business connection Section 9(1)(i) is not attracted and

further as NRC had rendered no technical services Section

9(1)(vii) is also no attracted. The first respondent scanning

the application filed by the company refused to issue ‘No

Objection Certificate’ by his order dated September 27,

1994. Being dissatisfied with the said order passed by the

first respondent the appellant-company preferred a revision

petition before the commissioner of Income-tax, Hyderabad,

the second respondent herein, under Section 264 of the Act.

On March 21, 1995 the second respondent permitted the

appellant-company to remit the said sum to the NRC by

furnishing a bank guarantee for the amount of tax. The

company took steps to comply with the said order but

afterwards on October 25,1995 the revisional authority

revoked the earlier order and directed the company to

deduct tax and pay the same to the credit of the Central

Government as a condition precedent for issuance of the ‘No

4

Page 5 Objection Certificate’. Thus, the order passed by the first

respondent was affirmed and resultantly the revision

petition was dismissed.

4.The non-success in revision compelled the company to

approach the High Court in W.P. No. 6866 of 1995 for issue

of writ of certiorari for quashing of the orders passed by the

Income-tax officer and that of by the revisional authority.

In the writ petition, the stand and stance put forth before

the authorities were reiterated.

5.On behalf of the revenue a counter affidavit was filed

contending, inter alia, that the NRC was very actively

associated not only in arranging loan but also in providing

various services which fall within the ambit of both

managerial as well as consultancy services.

6.A reference was made to the letter dated July 8, 1993

wherefrom it is evident that NRC is a financial advisor with a

worldwide experience and has been engaged in India and

requested that it be appointed as “financial consultant” for

the project. The company responded by appointing the NRC

as the financial advisor vide its letter dated 2.8.1994. On

behalf of the revenue, the proceedings of the Board of

5

Page 6 Directors meeting was highlighted stating that they

disclosed that the NRC was appointed not only to arrange

for the loan but also to render several other financial and

general services and also to involve itself in the public issue

of the company and on that bedrock it was urged that it

squarely falls within the ambit of Section 9(1)(vii)(b) of the

Act. It was also averred that NRC is a financial segment of

the ABB which is participating in the equity of the appellant

company besides IFC, Washington. The further stand of the

revenue was that Section 5(2) read with Section 9(1)(i)(vii)

(b) will apply to the remittance to be made by the company

to the NRC as the income would be deemed to have accrued

or arisen in India and hence, the Indian company was liable

to deduct tax at the prescribed rate before remitting any

money to the NRC. The order passed by the authorities

below were supported on the foundation that there is a

business connection between the NRC with the company in

India and the voluminous correspondence between the two

wings discloses the said connection. It was also contended

that the services rendered by the NRC were not a one time

affair as alleged, for the company itself had acted on behalf

6

Page 7 of the NRC for processing, negotiating and obtaining loans

from IDBI India and IFC, Washington. Emphasis was laid on

the fact that the company had contracted the NRC not only

for the limited purpose of getting loan but also for the

further participation in its business activity which was

evincible from the correspondence made between the two

and, therefore, the income will accrue or deemed to have

accrued or arisen to the NRC in India within the provisions of

the Act. Justifying the order of revocation by the

Commissioner of Income-tax, it was set forth that order

dated 21.03.1995 was only an interim order and the final

order came to be passed on 25.10.1995 by which the

revision was dismissed. It was asserted by the revenue that

the services of the NRC, as demonstrable from the material

brought on record, was rendered within India and, therefore,

the company is obliged in law to deduct income-tax before

remitting “success fee” to the NRC. On this premise, the

denial of ‘No Objection Certificate’ (NOC) was sought to be

justified.

7.A rejoinder affidavit was filed by the appellant company

asseverating that the NRC is an independent unit and is, in a

7

Page 8 way, subsidiarised by ABB. That apart, merely because

expert advice was obtained, it could not be said that it

pursued the application for loan/financial assistance on

behalf of NRC and further the advisory services were

rendered from outside India. The stand of the revenue that

there has been an admission by the company to the effect

that there was business connection with the NRC by the

company, was controverted. It was put forth that the

company was always the principal directly concerned with

the making of application for financial assistance for the

project and pursuing the same; that the NRC did not have

any office or establishment in India at any relevant point of

time; that it operated from Zurich; that there was no

business connection between the company and the NRC;

and that the success fee did not accrue or arise to the NRC

in India and hence, no income is deemed to have accrued or

arisen to NRC in India. In addition to the aforesaid it was

urged Section 9(1)(i) and Section 9(1)(vii) have to be read

together and in that case the stand of the revenue was

absolutely unjustified and assuming Section 9(1)(vii) of the

Act is read in isolation, the plain interpretation could not be

8

Page 9 applicable regard being had to the nature of service

rendered by NRC. It was also pleaded that merely because

the amount of success fee was paid by the appellant-

company to NRC in India for the services rendered from

outside India, the income of NRC would not deemed to have

accrued or arisen in India.

8.The High Court framed the following two issues for

consideration:

“(1)Whether ‘success fee’ payable by the

petitioner-company to the NRC or any portion

thereof is chargeable under the provisions the Act;

and

(2)Whether the petitioner-company is entitled to

‘No Objection Certificate’.”

9.The High Court referred to clause (b) of sub-section 2 of

Section 5 and Section 9 of the Act and adverted to the

expression all income accruing or arising, whether directly

or indirectly, through or from any business connection in

India, or through or from any property in India, or through

from any asset or source of income in India or through the

transfer of a capital asset situate in India and thereafter

referred to Section 163(1)(b) which uses the expression

“business connection” and thereafter referring to various

9

Page 10 authorities, culled out the principles as to what the

expression “business connection” conveys. It observed that

expression “business connection” is too wide to admit of any

precise definition though it has some well known attributes;

that whether there is a business connection between an

Indian company and a non-resident company is a mixed

question of fact and law which is to be determined on the

facts and circumstances of each case; that the essence of

“business connection” is existence of close, real, intimate

relationship and commonness of interest between the NRC

and the Indian person; that in a case where there is control

of management or finances or substantial holding of equity

shares or sharing of profits by the NRC of the Indian

company/person, the existence of close/intimate

relationship stand substantiated; and to constitute business

connection, there must be continuity of activity or operation

of the NRC with the Indian company/person and a stray or

an isolated transaction is not enough to establish a business

connection.

10.After culling out the principles, the High Court referred

to the contents of the correspondence, the nature and

1

Page 11 extent of services which the NRC had undertaken under the

agreement, the resolution passed by the Board of Directors

which had perused the letter dated July 8, 1993 addressed

by the NRC stipulating the scope of services to be

undertaken by NRC; the decisions of the Board to pay a fee

to NRC and came to hold thus:

“On a careful reading of the letter of proposal of

the NRC and the extract of resolution of the Board

of Directors of the petitioner-company, it is clear to

us that it was no part of the services to be

provided by the NRC to manage public issue in

India to correspond with various agencies to

secure loan for the petitioner-company, to

negotiate the terms on which loan should be

obtained or to draft document for it. The NRC has

only to develop a comprehensive financial model,

tie up the rupee/foreign currency loan

requirements of the project, assess export credit

agencies worldwide and obtain commercial bank

support, assist the petitioner-company in loan

negotiations and documentation with the lender.

It appears to us that the service to be rendered by

the NRC is analogous to draw up a plan for the

petitioner-company to reach the required

destination indicating roads and highways, the

curves and the turns; it does not contemplate

taking the petitioner-company to the destination

by the NRC. Once the NRC has prepared the

scheme and given necessary advice and

assistance to the petitioner-company for obtaining

loan, the responsibility of the NRC is over. It is for

the petitioner-company to proceed on the

suggested lines and obtain loan from Indian or

foreign agencies. On the petitioner-company

obtaining loan, the NRC becomes entitled to

‘success fees’.”

1

Page 12 11.The High Court scanned the letters with due

consideration and opined that the business connection

between the petitioner company and the NRC had not been

established. Thereafter, the writ court adverted to the

proposition whether success fee could fall within clause (vii)

(b) of Section 9(1) of the Act. Interpreting the said

provision, the High Court opined that:

“Thus from a combined reading of clause (vii) (b)

Explanation (2) it becomes clear that any

consideration, whether lump sum or otherwise,

paid by a person who is a resident in India to a

non-resident for running any managerial or

technical or consultancy service, would be the

income by way of fees for technical service and

would, therefore, be within the ambit of “income

deemed to accrue or arise in India”. If this be the

net of taxation under Section 9 (1) (vii) (b), then

‘success fee’, which is payable by the petitioner-

company to the NRC as fee for technical service

would be chargeable to income tax thereunder.

The Income-tax officer, in the impugned order,

held that the services offered by the NRC fell

within the ambit of both managerial and

consultancy services. That order of Income-tax

officer found favour by the Commissioner in

revision. In the view we have expressed above,

we are inclined to confirm the impugned order.”

12.At this juncture, it is necessary to note that a

contention was advanced before the High Court by the

assessee that the NRC did not render any technical or

1

Page 13 consultancy service to the company but only rendered

advise in connection with payment of loan by it and hence,

it would not amount to technical or consultancy service

within the meaning of Section 9(1)(vii)(b) of the Act. While

not accepting the said submission, the High Court observed

that for the purposes of attracting the said provision, the

business of the company cannot be divided into water-tight

compartments like fire, generation of power, plant and

machinery, management, etc. and to hold that managerial

and technical and consultancy service relate to

management, generation of power and plant and

machinery, but not to finance. Elaborating further, the High

Court observed that advice given to procure loan to

strengthen finances may come within the compartment of

technical or consultancy service and “success fee” would

thereby come within the scope of technical service within

the ambit of Section 9(1)(vii)(b) of the Act. Being of this

view, the High Court opined the assessee was not entitled to

the “No Objection Certificate”.

13.Be it stated, the constitutional validity of Section 9(1)

(vii)(b) of the Act was challenged on the ground of

1

Page 14 legislative competence and violation of Article 14 of the

Constitution. The Court referred to the earlier Division

Bench decision in Electrical Corporation of India Ltd. V.

C.I.T. rendered in W.P. No. 105/1987 on March 24, 1987 and

also took note of the fact that the said case was quoted with

approval in Electrical Corporation of India Ltd. V. C.I.T.

1

In the ultimate eventuate, High Court rejected all the

contentions advanced by the assessee-company and

dismissed the writ petition.

14.Being aggrieved, the petitioner company approached

this Court. When the matter came up for consideration

before a two-Judge Bench of this Court, which taking note of

the far-reaching issues of constitutional purport and the fact

that they were earlier referred to in the case of Electrical

Corporation of India Ltd. (supra), which was ultimately

withdrawn, it, by order dated 28.11.2000, referred the

instant matter to a larger Bench. On 13.7.2010, the matter

again came up for consideration before a three-Judge Bench

and vide its order of the same date, the matter was referred

to the Constitution Bench, which answered the reference as

per decision on 1.3.2011 reported in (2011) 4 SCC 36. The

1

(1990) 183 ITR 43 (SC); [(1989) Supp. 2 SCC 642]

1

Page 15 issue before the Constitution Bench stated by the Court is

thus:

“It is necessary for purposes of clarity that a brief

recounting be undertaken at this stage itself as to

what was conclusively decided in ECIL and what

was referred to a Constitutional Bench. After

conclusively determining that clauses (1) and (2)

of Article 245, read together, impose a

requirement that the laws made by Parliament

should bear a nexus with India, the three-Judge

Bench in ECIL asked that a Constitutional Bench be

constituted to consider whether the ingredients of

the impugned provision i.e. Section 9(1)(vii) of the

Income Tax Act (1961) indicate such a nexus.”

15.Before the Constitution Bench the appellant withdrew

its challenge to the constitutional validity of Section 9(1)(vii)

(b) of the Act and elected to proceed on the factual matrix

as to the applicability of the said provision. However, as the

learned Attorney General pressed upon for reconsideration,

the decision in three-Judge Bench in ECIL case, the larger

Bench considered the validity of the requirement of a

relationship to or nexus with territory of India as a limitation

on the powers of Parliament to enact laws pursuant to

clause (1) of Article 245 of the Constitution. The Court

adverted to the ratio in ECIL, took note of propositions of the

learned Attorney General and the principles relating to

interpretation of the Constitution, textual analysis of Article

1

Page 16 245, analysed the constitutional topological space of Article

245 and the wider structural analysis of Article 245 in the

context of Article 260 and came to hold thus:

“It would appear that the concerns of the learned

Attorney General may have been more with

whether the ratio in ECIL could lead to a reading

down of the legislative powers granted to

Parliament by Article 245. A thorough textual

analysis, combined with wider analysis of

constitutional topology, structure, values and

scheme has revealed a much more intricately

provisioned set of powers to Parliament. Indeed,

when all the powers necessary for an organ of the

State to perform its role completely and to

effectuate the constitutional mandate, can be

gathered from the text of the Constitution,

properly analysed and understood in the wider

context in which it is located, why should such

unnecessarily imprecise arrogation of powers be

claimed? To give in to such demands, would be to

run the risk of importing meanings and possibilities

unsupportable by the entire text and structure of

the Constitution. Invariably such demands are

made in seeking to deal with external affairs, or

with some claimed grave danger or a serious law

and order problem, external or internal, to or in

India. In such circumstances, it is even more

important that courts be extra careful.”

16.Thereafter, the Court reiterated the two questions it

had set out in the beginning. The first question reads thus:

“(1) Is Parliament constitutionally restricted from

enacting legislation with respect to extra-territorial

aspects or causes that do not have, nor expected

to have any, direct or indirect, tangible or

intangible impact(s) on or effect(s) in or

consequences for:

1

Page 17 (a) the territory of India, or any part of India; or

(b) the interests of, welfare of, well-being of, or

security of inhabitants of India, and Indians?”

Answering the same, the Court observed:

“The answer to the above would be yes. However,

Parliament may exercise its legislative powers with

respect to extra-territorial aspects or causes—

events, things, phenomena (howsoever

commonplace they may be), resources, actions or

transactions, and the like—that occur, arise or

exist or may be expected to do so, naturally or on

account of some human agency, in the social,

political, economic, cultural, biological,

environmental or physical spheres outside the

territory of India, and seek to control, modulate,

mitigate or transform the effects of such extra-

territorial aspects or causes, or in appropriate

cases, eliminate or engender such extra-territorial

aspects or causes, only when such extra-territorial

aspects or causes have, or are expected to have,

some impact on, or effect in, or consequences for:

(a) the territory of India, or any part of India; or (b)

the interests of, welfare of, well-being of, or

security of inhabitants of India, and Indians.”

And thereafter:

“Whether a particular law enacted by Parliament

does show such a real connection, or expected real

connection, between the extra-territorial aspect or

cause and something in India or related to India

and Indians, in terms of impact, effect or

consequence, would be a mixed matter of facts

and of law. Obviously, where Parliament itself

posits a degree of such relationship, beyond the

constitutional requirement that it be real and not

fanciful, then the courts would have to enforce

such a requirement in the operation of the law as a

1

Page 18 matter of that law itself, and not of the

Constitution.”

17.The second question that was posed by the

Constitution Bench is as follows:

“(2) Does Parliament have the powers to legislate

“for” any territory, other than the territory of India

or any part of it?”

The aforesaid question was answered thus:

“The answer to the above would be no. It is

obvious that Parliament is empowered to make

laws with respect to aspects or causes that occur,

arise or exist, or may be expected to do so, within

the territory of India, and also with respect to

extra-territorial aspects or causes that have an

impact on or nexus with India as explained above

in the answer to Question 1 above. Such laws

would fall within the meaning, purport and ambit

of the grant of powers to Parliament to make laws

“for the whole or any part of the territory of India”,

and they may not be invalidated on the ground

that they may require extra-territorial operation.

Any laws enacted by Parliament with respect to

extra-territorial aspects or causes that have no

impact on or nexus with India would be ultra vires,

as answered in response to Question 1 above, and

would be laws made “for” a foreign territory.”

After the reference was answered, the matter was

directed to be listed before the appropriate Bench.

18.We have heard Mr. U.A. Rana, learned counsel for the

appellants and Mr. Arijit Prasad, learned counsel for the

respondents.

1

Page 19 19.At the very outset, it is necessary to mention as the

challenge to the constitutional validity of the provision has

been withdrawn, and the same accordingly has not been gone

into by the Constitution Bench, there is no necessity to dwell

upon the same. The crux of the matter is whether, in the

obtaining factual matrix, the High Court was justified in

concurring with the view expressed by the revisional authority

that the assessee-company was not entitled to “No Objection

Certificate” under the Act as it was under the obligation to

deduct the tax at source pertaining to payment to the NRC as

the character of success fee was substantiated by the

revenue to put in the ambit and sweep of Section 9(1)(vii)(b)

of the Act.

20.At this juncture, it is demonstrable that NRC is a Non-

Resident Company and it does not have a place of business in

India. The revenue has not advanced a case that the income

had actually arisen or received by the NRC in India. The High

Court has recorded the payment or receipt paid by the

appellant to the NRC as success fee would not be taxable

under Section 9(1)(i) of the Act as the transaction/activity did

not have any business connection. The conclusion of the High

1

Page 20 Court in this regard is absolutely defensible in view of the

principles stated in C.I.T. V. Aggarwal and Company

2

,

C.I.T. V. TRC

3

and Birendra Prasad Rai V. ITC

4

. That being

the position, the singular question that remains to be

answered is whether the payment or receipt paid by the

appellant to NRC as success fee would be deemed to be

taxable in India under Section 9(1)(vii) of the Act. As the

factual matrix would show, the appellant has not invoked

Double Taxation Avoidance Agreement between India and

Switzerland. That being not there, we are only concerned

whether the “success fee” as termed by the assessee is “Fee

for technical service” as enjoined under Section 9(1)(vii) of

the Act. The said provision reads as follows:

“9.Income deemed to accrue or arise in

India – (1) The following income shall be deemed

to accrue or arise in India --

(vii) income by way of fees for technical

services payable by—

(a) the Government ; or

(b) a person who is a resident, except where

the fees are payable in respect of services

utilised in a business or profession carried on

by such person outside India or for the

2

(1965) 56 ITR 20

3

(1987) 166 ITR 1993

4

(1981) 129 ITR 295

2

Page 21 purposes of making or earning any income

from any source outside India ; or

(c) a person who is a non-resident, where the

fees are payable in respect of services utilised

in a business or profession carried on by such

person in India or for the purposes of making

or earning any income from any source in India

:

[Provided that nothing contained in this

clause shall apply in relation to any income by

way of fees for technical services payable in

pursuance of an agreement made before the

1st day of April, 1976, and approved by the

Central Government.]

[Explanation 1.—For the purposes of the foregoing

proviso, an agreement made on or after the 1st

day of April, 1976, shall be deemed to have been

made before that date if the agreement is made in

accordance with proposals approved by the

Central Government before that date.]

[Explanation 2.]—For the purposes of this clause,

"fees for technical services" means any

consideration (including any lump sum

consideration) for the rendering of any managerial,

technical or consultancy services (including the

provision of services of technical or other

personnel) but does not include consideration for

any construction, assembly, mining or like project

undertaken by the recipient or consideration which

would be income of the recipient chargeable under

the head "Salaries".]

21.Explanation to the Section 9(2) was substituted by the

Finance Act 2010 with retrospective effect from 1.6.1976.

Prior to the said substitution, another Explanation had been

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Page 22 inserted by the Finance Act, 2007 with retrospective effect

from 1.6.1976. The said Explanations read as under:

“ As amended by Finance Act, 2010

Explanation.— For the removal of doubts, it is

hereby declared that for the purposes of this

section, income of a non-resident shall be deemed

to accrue or arise in India under clause ( v) or

clause (vi) or clause (vii) of sub-section (1) and

shall be included in the total income of the non-

resident, whether or not,—

(i) the non-resident has a residence or place of

business or business connection in India; or

(ii) the non-resident has rendered services in

India.]

As amended by Finance Act, 2007

Explanation.—For the removal of doubts, it is

hereby declared that for the purposes of this

section, where income is deemed to accrue or

arise in India under clauses (v), (vi) and (vii) of

sub-section (1), such income shall be included in

the total income of the non-resident, whether or

not the non-resident has a residence or place of

business or business connection in India.”

22.The principal provision is Clause (b) of Section 9(1)(vii)

of the Act. The said provision carves out an exception. The

exception carved out in the latter part of clause (b) applies to

a situation when fee is payable in respect of services utilized

for business or profession carried out by an Indian payer

outside India or for the purpose of making or earning of

income by the Indian assessee i.e. the payer, for the purpose

2

Page 23 of making or earning any income from a source outside India.

On a studied scrutiny of the said Clause, it becomes clear

that it lays down the principle what is basically known as the

“source rule”, that is, income of the recipient to be charged or

chargeable in the country where the source of payment is

located, to clarify, where the payer is located. The Clause

further mandates and requires that the services should be

utilized in India.

23.Having stated about the “source rule”, it is necessary

to appropriately appreciate how the concept has developed.

At the time of formation of “League of Nations” at the end of

1920, it comprised of only 27 countries dominated by the

European States and the United States of America. The

United Nations that was formed after the Second World War,

initially had 51 members. Presently, it has 193 members.

With the efflux of time, there has been birth of nation States

which enjoy political independence and that has led to cross-

border and international trade. The State trade eventually

has culminated in formulation of principles pertaining to

international taxation jurisdiction. It needs no special

emphasis to state that the said taxation principles are

2

Page 24 premised to promote international trade and to allocate

taxation between the States. These rules help and further

endeavour to curtail possibility of double taxation, tax

discrimination and also to adjudicate resort to abusive tax

avoidance or tax evasion practices. The nation States, in

certain situations, resort to principle of “tax mitigation” and in

order to protect their citizens, grant benefit of tax abroad

under the domestic legislation under the bilateral

agreements.

24.The two principles, namely, “Situs of residence” and

“Situs of source of income” have witnessed divergence and

difference in the field of international taxation. The principle

“Residence State Taxation” gives primacy to the country of

the residency of the assessee. This principle postulates

taxation of world-wide income and world-wide capital in the

country of residence of the natural or juridical person. The

“Source State Taxation” rule confers primacy to right to tax to

a particular income or transaction to the State/nation where

the source of the said income is located. The second rule, as

is understood, is transaction specific. To elaborate, the

source State seeks to tax the transaction or capital within its

2

Page 25 territory even when the income benefits belongs to a non-

residence person, that is, a person resident in another

country. The aforesaid principle sometimes is given a

different name, that is, the territorial principle. It is apt to

state here that the residence based taxation is perceived as

benefiting the developed or capital exporting countries

whereas the source based taxation protects and is regarded

as more beneficial to capital importing countries, that is,

developing nations. Here comes the principle of nexus, for

the nexus of the right to tax is in the source rule. It is

founded on the right of a country to tax the income earned

from a source located in the said State, irrespective of the

country of the residence of the recipient. It is well settled that

the source based taxation is accepted and applied in

international taxation law.

25.The two principles that we have mentioned

hereinabove, are also applied in domestic law in various

countries. The source rule is in consonance with the nexus

theory and does not fall foul of the said doctrine on the

ground of extra-territorial operation. The doctrine of source

rule has been explained as a country where the income or

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Page 26 wealth is physically or economically produced. [See League

of Nations, Report on Double Taxation by Bruins,

Einaudi, Saligman and Sir Josiah Stan (1923) ].

Appreciated on the aforesaid principle, it would apply where

business activity is wholly or partly performed is a source

State, as a logical corollary, the State concept would also

justifiably include the country where the commercial need for

the product originated, that is, for example, where the

consultancy is utilized.

26.From the aforesaid, it is quite vivid that the concept of

income source is multifaceted and has the potentiality to take

different forms [See Klans Vogel, World-wide V. Source

Taxation of Income – Review and Revision of

Arguments (1988) ]. The said rule has been justified by

Arvid A. Skaar in Permanent Establishment; Erosion of Tax

Treaty Principle on the ground that profits of business

enterprise are mainly the yield of an activity, for capital is

profitable to the extent that it is actively utilised in a

profitable manner. To this extent, neither the activity of

business enterprise nor the capital made, depends on

residence.

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Page 27 27.The purpose of adverting to these aspects is only to

highlight that the source rule has been accepted by them in

the UN Commentaries and the Organisation of Economic

Corporation and Development (OECD) Commentaries. It is

well known that what is prohibited by international taxation

law is imposition of sovereign act of a State on a sovereign

territory. This principle of formal territoriality applies in

particular, to acts intended to enforce internal legal provisions

abroad. [See the Introduction in Klaus Vogel on Double

Taxation Convention, South Asean, Reprint Edition

(2007)]. Therefore, deduction of tax at source when made

applicable, it has to be ensured that this principle is not

violated.

28.Coming to the instant case, it is evident that fee which

has been named as “success fee” by the assessee has been

paid to the NRC. It is to be seen whether the payment made

to the non-resident would be covered under the expression

“fee for technical service” as contained in Explanation (2) to

Section 9(1)(vii) of the Act. The said expression means any

consideration, whether lumpsum or periodical in rendering

managerial, technical or consultancy services. It excludes

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Page 28 consideration paid for any construction, assembling, mining or

like projects undertaken by the non-resident that is the

recipient or consideration which would be taxable in the

hands of the non-recipient or non-resident under the head

“salaries”. In the case at hand, the said exceptions are not

attracted. What is required to be scrutinized is that the

appellant had intended and desired to utilize expert services

of qualified and experience professional who could prepare a

scheme for raising requisite finances and tie-up loans for the

power projects. As the company did not find any professional

in India, it had approached the consultant NRC located in

Switzerland, who offered their services. Their services

rendered included, inter alia, financial structure and security

package to be offered to the lender, study of various lending

alternatives for the local and foreign borrowings, making

assessment of expert credit agencies world-wide and

obtaining commercial bank support on the most competitive

terms, assisting the appellant company in loan negotiations

and documentations with the lenders, structuring, negotiating

and closing financing for the project in a coordinated and

expeditious manner.

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Page 29 29.In this context, it would be appropriate to reproduce

the letter dated 8.7.1993 addressed by the NRC. It reads as

follows:

“We propose the following scope of services to be

performed by ABB PTF:

Assisting GVK Industries Limited (“GVK”) in putting

together the financial structure and security

package to be offered to the lenders;

Evaluating the pros and cons of various lending

alternatives, both for the local and the foreign

borrowings;

Developing a comprehensive financial model to

evaluate the project and to perform various

sensivity studies;

Preparing a preliminary information Memorandum

to be used as the basis for placing the foreign and

local debt;

Accessing Export Credit Agencies world wide

obtaining commercial bank support on the most

comprehensive terms;

Assisting GVK in loan negotiations and

documentation with lendors; and

Structuring, negotiating and closing the financing

for this project in a coordinated and expeditious

manner.

We propose a compensation structure based only

on success. As an exception, ABB PTF does not

propose either any retainers or any reimbursement

for travel and other expenses incurred by ABB PTF.

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Page 30 The success fee will be 0.75% of the total debt,

payable at financial closing.”

30.The said letter was placed before the Board of Directors

of the appellant company in its meeting held on August 21,

1993. The relevant part of the resolution passed by the Board

is extracted hereinbelow:

“.....It was explained to the Directors that ABB-

PTF’s scope of service for the project include:

Developing a comprehensive financial model;

Tying up the rupee/foreign currency loan

requirements of the project;

Assessing Export Credit Agencies worldwide and

obtaining commercial banks support on the most

competitive terms;

Assisting GVK in loan negotiations and

documentation with lenders.

For the above scope of service ABB PTF would be

paid a fee of 0.75% of the loan amount which is

payable only on successful financial closing. The

Directors while approving this arrangement,

advised that ABB-PTF should also be involved in

the public issue of the company.”

31.From the aforesaid two documents, it is clear as crystal

that the obligation of the NRC was to:

(i)Develop comprehensive financial model to tie-up the

rupee and foreign currency loan requirements of the project.

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Page 31 (ii)Assist expert credit agencies world-wide and obtain

commercial bank support on the most competitive terms.

(iii)Assist the appellant company in loan negotiations and

documentation with the lenders.

32.Pursuant to the aforesaid exercises carried out by the

NRC, the company was successful in availing loan/financial

assistance in India from the Industrial Development Bank of

India (IDBI) which acted as a lead financier for the rupee loan

requirement. For foreign currency loan requirement, the

appellant approached International Finance Corporation,

Washington D.C., USA and was successful. In this backdrop,

“success fee” of Rs.5.4 crores was paid to the NRC.

33.In this factual score, the expression, managerial,

technical or consultancy service, are to be appreciated. The

said expressions have not been defined in the Act, and,

therefore, it is obligatory on our part to examine how the said

expressions are used and understood by the persons engaged

in business. The general and common usage of the said

words has to be understood at common parlance.

34.In the case at hand, we are concerned with the

expression “consultancy services”. In this regard, a reference

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Page 32 to the decision by the authority for advance ruling In Re.

P.No. 28 of 1999

5

, would be applicable. The observations

therein read as follows:

“By technical services, we mean in this context

services requiring expertise in technology. By

consultancy services, we mean in this context

advisory services. The category of technical and

consultancy services are to some extent

overlapping because a consultancy service could

also be technical service. However, the category

of consultancy services also includes an advisory

service, whether or not expertise in technology is

required to perform it.”

35.In this context, a reference to the decision in C.I.T. V.

Bharti Cellular Limited and others

6

, would be apposite. In

the said case, while dealing with the concept of “consultancy

services”, the High Court of Delhi has observed thus:

“Similarly, the word “consultancy” has been

defined in the said Dictionary as “the work or

position of a consultant; a department of

consultants.” “Consultant” itself has been defined,

inter alia, as “a person who gives professional

advice or services in a specialized field.” It is

obvious that the word “consultant” is a derivative

of the word “consult” which entails deliberations,

consideration, conferring with someone, conferring

about or upon a matter. Consult has also been

defined in the said Dictionary as “ask advice for,

seek counsel or a professional opinion from; refer

to (a source of information); seek permission or

approval from for a proposed action”. It is obvious

that the service of consultancy also necessarily

entails human intervention. The consultant, who

5

(1999) 242 ITR 280

6

(2009) 319 ITR 139

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Page 33 provides the consultancy service, has to be a

human being. A machine cannot be regarded as a

consultant.”

36.In this context, we may fruitfully refer to the dictionary

meaning of ‘consultation’ in Black’s Law Dictionary, Eighth

Edition. The word ‘consultation’ has been defined as an act

of asking the advice or opinion of someone (such as a

lawyer). It means a meeting in which a party consults or

confers and eventually it results in human interaction that

leads to rendering of advice.

37.As the factual matrix in the case at hand, would exposit

the NRC had acted as a consultant. It had the skill, acumen

and knowledge in the specialized field i.e. preparation of a

scheme for required finances and to tie-up required loans.

The nature of activities undertaken by the NRC has earlier

been referred to by us. The nature of service referred by

the NRC, can be said with certainty would come within the

ambit and sweep of the term ‘consultancy service’ and,

therefore, it has been rightly held that the tax at source

should have been deducted as the amount paid as fee could

be taxable under the head ‘fee for technical service’. Once

the tax is payable paid the grant of ‘No Objection Certificate’

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Page 34 was not legally permissible. Ergo, the judgment and order

passed by the High Court are absolutely impregnable.

38.Consequently, the appeal, being devoid of merit, stands

dismissed. However, in the facts and circumstances of the

case there shall be no order as to costs.

.........................................................J.

[SUDHANSU JYOTI MUKHOPADHAYA]

..........................................................J.

[DIPAK MISRA]

NEW DELHI

FEBRUARY 18, 2015.

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