Where a foreign company or a non-resident merely imparts information, a question arises whether the consideration earned would be taxed as royalty or business income.

This point was considered by the Authority for Advance Rulings (AAR). A foreign company (CWS) was engaged in the business of rendering services in connection with acquisition, sales and dealings in real estate and other services, such as advisory and research facilities management, project management, etc, in the field of real estate. It had developed certain international client relationships and, in accordance with global policy, various offices provided referral services to other offices of CW depending on the requirements of the clients.

In respect of such referrals, each serving CW company was liable to pay a “referral fee”. Under an agreement entered in Singapore with CWI, an Indian company (which was a wholly owned Indian company of CW of Mauritius), the applicant (CWS) was obliged to refer/commend potential customers desirous of obtaining real estate consultancy and associated services in India to CWI. The Indian company would pay to the applicant (CWS) a percentage of the amount charged by it on the referred customers after it had realised in full the amount from the customers.

The revenue contended that the payments received as referral fee by the applicant were taxable as royalty, being payment made for imparting information regarding commercial knowledge or experience. The AAR observed that an analysis of clause (iv) of Explanation 2 indicates providing information, “concerning commercial experience” and does not mean providing “commercial information”. Except a bald suggestion in the course of arguments on behalf of the revenue, there is nothing to show that the applicant has kept a database, nurtured by commercial experience, relating to real estate services, which were being made available to CWI whenever a prospective customer was introduced.

Outlining the underlying basic requirement for commercial information to be considered as royalty, the OECD Model Convention and Commentary, 2005 has laid down that in classifying as royalties payments received as consideration for information concerning industrial, commercial or scientific experience, paragraph 2 alludes to the concept of ‘know-how’. Various specialist bodies and authors have formulated definitions of know-how, which do not differ intrinsically.

One such definition, given by the ‘Association des Bureaux pour la Protection de la Propriete Industrielle’ (ANBPPI), states that ‘know-how’ is all the un-divulged technical information, whether capable of being patented or not, that is necessary for the industrial reproduction of a product or process, directly and under the same condition. Inasmuch as it is derived from experience, know-how represents what a manufacturer cannot know from mere examination of the product and mere knowledge of the progress of technique.

Based on the above, the AAR ruled that consideration for information concerning industrial, commercial and scientific experience can be regarded as royalty only if it is received for imparting know-how and the like. As such, the referral fee received by the applicant from the Indian company (CWI) for introducing customers is not royalty income. Besides, there is no intellectual property involved and there is no question of sharing commercial experience or skills with CWI. It is a mere reference for which a certain amount of fee (whether commercially justifiable or not) is being received. Therefore, the consideration for the referral, reportedly having been made, does not answer the description of “royalty” under clause (iv) of Explanation 2 to section 9(1)(iv) of the Act. The AAR ruled that no activity except that of making a referral from Singapore to the Indian company had been done in India. The referral fee remitted by the Indian company was neither received nor was deemed to be received by the applicant in India. There did not subsist a real and intimate relation between the trading activities carried on outside India by the applicant (the non-resident) and the activities in India that contributed to the earning of income.

It was the prerogative of the prospective customer to decide whether it wanted to avail of the services of CWI or not. So also, CWI was not bound to enter into a deal with the referral customer. Thus, there was no “business income” in India of the applicant under section 9(1)(i) of the Income Tax Act, 1961. Since the pre-conditions of deemed income under section 9(1)(i) read with Explanation 2 were not satisfied, it was not necessary to refer to Articles 7 and 5 of the Agreement for the Avoidance of Double Taxation between India and Singapore.

The referral fee did not amount to “royalty” within the meaning of Explanation 2 to section 9 (1)(vi), as there was no imparting of information regarding commercial knowledge or experience. Providing information concerning commercial experience did not mean providing bald commercial information. Consideration for information concerning industrial, commercial and scientific experience could be regarded as “royalty” only if it was received for imparting know-how and the like.

The referral fee received by the applicant from CWI, the Indian company, for introducing customers was not royalty income. Nor was there was any intellectual property involved, as there was no sharing of commercial experience or skill with CWI. Therefore, the consideration for the referral did not answer the description of royalty under clause (iv) of the Explanation 2 to section 9 (1)(vi). Nor was there any use of a “trademark”.

Merely having the name “CW” for the Indian associate of the enterprise did not result in royalty income as no trademark or brand name of the applicant could be said to have been allowed to be used by the applicant. The payment was not consideration for use of a “trademark” falling within the scope of clause (iii) of Explanation 2.

The AAR concluded that there was no expertise or know-how, which was made available to CWI by reason of rendering service of a managerial, technical or consultancy nature. Some sort of durability or permanency of rendering of services was envisaged. The referral fee paid by the Indian company was also not “fee for technical services” under section 9(1)(vii) as well as article 12(4)(b) of the DTAA. On the facts available, the applicant did not have a “permanent establishment” in India. Since the referral fee was not taxable under the Income Tax Act as well, section 195 was not attracted and no tax was to be deducted at source.

The author is advocate, Supreme Court