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India: Equipment and service contracts treated as “composite contract” for tax purposes

India: Equipment and service contracts

The Delhi Bench of the Income-tax Appellate Tribunal issued a decision concluding that contracts for the supply of equipment and contracts for services were in the nature of a “composite contract” for income tax purposes because each contract was dependent on the other and could not be seen independently.

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The tribunal agreed with the tax authority that the supply of equipment was connected with the taxpayer’s permanent establishment (PE) in India, and that 35% of the profits accruing from the off-shore supplies to the PE were taxable in India (pursuant to provisions of the income tax treaty between India and Austria as well as India’s income tax law).

The case is Voith Paper GmbH v. DDIT (ITA No. 1077/Del/2014)


Summary

The taxpayer (a foreign company) was a global leader regarding board and packaging paper machines. The taxpayer entered into two contracts with an Indian company for the supply of equipment and for services.

  • The equipment supply contract included engineering, designing, manufacturing, drawing, and the supplying of machinery for a manufacturing plant.
  • The service contract included supervision of the construction, training, start-up process, commissioning, and performance testing of the machinery.

The taxpayer earned income from the supply of components of machinery. The taxpayer’s personnel visited the plant and were involved in the supervision of the assembly, start-up processing, training, commissioning, and performance test of the plant.

The taxpayer contended that the sale of machinery was made outside India; that the related payment was also received outside India; and thus, that no part of off-shore supply was taxable in India.

The position of the Assessing Officer was that the two contracts for the equipment supply and services in relation to the plant were in fact a composite contract, and that income accruing from such a composite contract was taxable under Section 9(1) of India’s income tax law as well as being taxable in India under the applicable provision of the income tax treaty between India and Austria.

It was further pointed out that the taxpayer had a fixed-place PE in India in the form of a project office. The Assessing Officer determined that the sale of the equipment was concluded in India; that the PE had played a role in the marketing; and thus, a part of profits—computed to be 35%—from the supply of machinery was directly attributable to the PE.

The tribunal agreed that both contracts could not be read independently and that both the equipment supply contract and the service contract were intrinsically linked and not severable and therefore represented a single, composite “turnkey” work contract.

The tribunal further agreed that the taxpayer was engaged in business activities in India that were not isolated instances but represented a real and intimate relationship between the activities performed outside India and those performed inside India. Thus, the income was deemed to accrue or arise in India from the off-shore supply of goods.

Finally, the tribunal found the service PE had played a role in assembling and bringing the equipment to the deliverable state, as agreed under the supply contract. Accordingly, the tribunal attributed 35% of the profits from the off-shore supplies to a PE in India.

Read a March 2020 report [PDF 202 KB] prepared by the KPMG member firm in India

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