Facts of the Case

Mitsui & Co. Ltd., a non-resident company incorporated in Japan, had established a Liaison Office (LO) in India with RBI approval. The company was executing two power-related projects in India, namely the Anpara Thermal Power Project and the DESU New Delhi Cable Project.

For Assessment Years 1994–95 and 1995–96, the assessee declared income from the Anpara Project and claimed losses from the DESU Project.

During assessment proceedings, the Assessing Officer (AO) held that the Liaison Office was functioning beyond mere liaison activities and constituted a Permanent Establishment (PE) in India under Article 5 of the India-Japan DTAA. On that basis, profits attributable to the Liaison Office were brought to tax.

The AO also invoked Section 44BBB to tax income arising from the DESU Power Project by treating 10% of the turnover as taxable profits.

The Commissioner of Income Tax (Appeals) [CIT(A)] and the Income Tax Appellate Tribunal (ITAT) ruled in favour of the assessee, holding that the Liaison Office did not constitute a PE. The Revenue challenged the ITAT’s order before the Delhi High Court.

 Issues Involved

  1. Whether the Liaison Office of the assessee in India constituted a Permanent Establishment under Article 5 of the India-Japan DTAA?
  2. Whether profits attributable to the Liaison Office could be taxed in India under Article 7 of the DTAA?
  3. Whether project offices could independently be treated as Permanent Establishments?
  4. Whether Section 44BBB was applicable for taxing income from turnkey power projects?

 Petitioner’s Arguments (Revenue)

The Revenue contended that:

  • The Liaison Office was actively involved in business operations and not confined to preparatory or auxiliary activities.
  • Books of accounts relating to projects were allegedly found linked with the Liaison Office.
  • The Chief Representative supervised both the Liaison Office and Project Offices, indicating operational integration.
  • Telephone expenses suggested overlap between project operations and liaison activities.
  • Article 5 of the DTAA provides a broad definition of PE, including offices and business premises.
  • Since the assessee carried out business turnover, imports, and project execution in India, profits attributable thereto were taxable in India.

 Respondent’s Arguments (Assessee)

The assessee argued that:

  • The Liaison Office strictly operated within RBI permission and carried out only liaison activities.
  • RBI conditions prohibited any commercial, trading, or industrial activities from the Liaison Office.
  • The burden to establish existence of PE lay on the Revenue.
  • Separate Project Offices existed and were independently assessed and taxed under Section 44BBB.
  • Previous ITAT Special Bench decisions had already held that the Liaison Office did not constitute a PE.
  • The Revenue failed to establish factual foundation showing business activities being conducted through the Liaison Office.

 Court Findings / Court Order

The Delhi High Court dismissed both appeals filed by the Revenue and held:

1. Liaison Office is not Permanent Establishment (PE)

The Court held that merely having an office in India does not automatically constitute a PE. The Revenue must establish that business is carried on through that fixed place.

2. Preparatory or Auxiliary Activities are Excluded

Activities such as information gathering, communication, and liaison functions fall within the exclusionary clause under Article 5(6) of the DTAA and do not create PE.

3. Burden of Proof on Revenue

The Revenue failed to produce sufficient evidence proving that the Liaison Office carried on business activities.

4. Separate Treatment of Project Offices

Project Offices were separately assessed and taxed under Section 44BBB; hence they could not simultaneously be treated as PE for the same purpose.

 Important Clarifications

Liaison Office vs Permanent Establishment

A Liaison Office performing only communication and support functions does not become a PE merely because it exists in India.

PE Determination Requires Functional Test

The actual functions carried out at the office determine PE status, not the physical presence alone.

RBI Permission Has Evidentiary Value

Compliance with RBI restrictions strengthens the assessee’s claim that no commercial activity was conducted.

Project Office and Liaison Office are Distinct

A Project Office engaged in execution of contracts may be taxable independently, but that does not convert the Liaison Office into a PE.

Sections Involved

  • Section 260A – Appeal before High Court
  • Section 143(3) – Scrutiny Assessment
  • Section 133A – Survey Proceedings
  • Section 44BBB – Taxation of Foreign Companies Engaged in Civil Construction/Turnkey Power Projects
  • Section 9(1)(i) – Business Connection in India
  • Article 5 – Permanent Establishment (PE) under India-Japan DTAA
  • Article 7 – Business Profits under DTAA
  • Section 29 of FERA, 1973 (as applicable during relevant period)

 Link to download the order -

https://delhihighcourt.nic.in/app/case_number_pdf/2017:DHC:3969-DB/PMS27072017ITA132005.pdf Bottom of Form

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