In a typical secondment arrangement, employees of overseas entities are deputed to the host entity (Indian affiliate) on latters request to meet specific needs and requirements of the Indian affiliate (i.e. on a principal-to-principal basis). During the secondment, the secondees work under the control and supervision of the Indian affiliate and in relation to the work responsibilities of the Indian affiliate. However, due to social security laws of the home country and various commercial considerations, the payroll is retained and the salary is discharged by the overseas entity, which in turn is claimed as reimbursement from the host entity. The crux of the issue is the taxability of the cross charge, which is primarily based on who should be reckoned as an employer of the secondee. If the Indian affiliate is treated as an employer, the payment would tantamount to reimbursement and not chargeable to tax in the hands of the overseas entity. On the other hand, if the overseas entity is treated as the employer, the same would be treated as service by the overseas entity and taxed as fee for technical services. In the event the overseas entity is having a taxable presence in the form of a Permanent Establishment (PE) in India and carrying on the business through such employees, it would be taxed as business profits. There have been various judicial precedents on this matter and the judiciary seems to be divided on the issue.
Recently, the Delhi High Court in the case of Centrica India Offshore Pvt Ltd held that the real employer continues to be the overseas entity for the seconded employees, thereby resulting in a PE for the overseas entity in India. The Delhi High Court, while viewing the overall demeanour of the arrangement, observed:
Secondees being on payroll of the overseas entities retained lien on employment abroad (relying on the decision of the Apex Court in the case of Morgan Stanley and Co);
Secondees right to seek their remuneration was against the overseas entities. In case of default, secondees cannot sue Centrica India;
Centrica India had right to terminate the secondment agreement but no right to terminate the secondees vis-a-vis the overseas entitiesthe original and subsisting employment relationship remained independent.
The above decision has ignited the debate of legal versus economic employment. International commentaries have looked at multiple factors while acknowledging the concept of economic employment. As per the OECD Model Convention, the term employer should be considered in a broader sense in order to determine which entity is the economic employer. While assuming economic employment, the key aspect focused on is which enterprise bears the responsibility or risk for the results produced by the individuals work. Even the Klaus Vogel commentary on double taxation put forth the view that the economic employer is the person having rights on the work produced and bearing the relative responsibility and risks. The decisive test is the degree of personal and economic dependence of the employee towards the enterprises involved.
One of the important factors while dealing with PE is whether the overseas entity is carrying on any business in India. The Delhi High Court, in the case of E-funds IT solutions & Ors, held that to constitute Service PE of the overseas entity, the seconded employees should be involved with the working operations of overseas entity within India. Given the baseline that the captive service provider is a separate legal entity and working on a principal-to-principal basis, it becomes very important to consider if the services of the secondees are vis-a-vis the home entity or the host entity. In case the services are in relation to the business activities of Indian affiliate (albeit sub-contracted by the overseas entity), it may be contended that the services are not in relation to business of overseas entity in India and therefore does not have a PE in India.
This ruling will have far-reaching implications and although there are divergent rulings on the subject, the ruling is a shot in the arm for the revenue authorities. Given the diverse jurisprudence, the matter is likely to be settled at the Supreme Court level. Actual role and responsibilities of the secondees coupled with the underlying documentation assumes significant importance in determining tax implications. Going forward, multinationals should critically review and assess the impact of the ruling on their existing/proposed secondment arrangements to strike a balance between commercial expediency and tax implications.
With inputs from Vikash Dhariwal, senior manager, Tax & Regulatory Services, PwC India
The author is executive director, Tax and Regulatory Services, PwC India