ITA NO.1592/KB OF 1984-85, DECIDED ON 14TH DECEMBER, 1987. Versus ITA NO.1592/KB OF 1984-85, DECIDED ON 14TH DECEMBER, 1987.
ORDER
This departmental appeal is directed against the order of learned CIT(A) recorded by him on 8th December, 1984 relating to assessment year 1981-82.
2. The brief facts giving rise to it are that the respondent, a non-resident company, incorporated under the laws of State of Arizona of United States of America, entered into a contract with M/s. Resource Development Corporation, a company incorporated. under the Companies' Act of 1913 but owned by Government of Pakistan and hereinafter referred to as "RDCL" on 1st day of September, 1979, at the registered office of the latter at Karachi. It appears from perusal of the contract that its purpose was to up-date pre-investment feasibility study for the preparation of a bankable document whereby finances can be raised from International as well as Pakistan financial institutions regarding integrated mineral development project at Saindak in the Province of Baluchistan of Pakistan, which was embarked upon by RDCL. In its return for assessment year 1981-82 the respondent declared its taxable income at 'nil'. However, in the column for exemption the respondent showed its income of Rs.19,86,208 and claimed it to be exempt under section 11(1) of the Income Tax Ordinance, 1979. Reliance was also placed on Article III(i) of Avoidance of Double Taxation Treaty entered into between the Government of Pakistan and Government of United States of America on the ground that it was its industrial or commercial profits. The ITO, however, issued notice under section 61 of Income Tax Ordinance, 1979, and the respondent furnished him with all the relevant material. It was urged before the ITO that the income of the respondent was exempt from tax because:--
(i) The respondent did not maintain permanent establishment in Pakistan.
(ii) The amount received was commercial profit and was received outside Pakistan.
(iii) The profits were taxed in U.S.A.
The ITO, however came to the conclusion that the amount received by the respondent was not industrial or commercial profit as it fell within the definition of fees as defined in sub-clause (1) of clause 1 of Article-II of aforesaid the Avoidance of Double Taxation Treaty. He, therefore, rejected the first submission of the respondent regarding non-maintenance of permanent establishment in Pakistan. On further consideration the ITO came to the conclusion that:-
"(a) The project for which feasibility report was prepared is located in Pakistan.
(b) Assessee's employees visited Pakistan as admitted vide letter dated 19th May, 1983.
(c) The fees emanates from the project located in Pakistan.
(d) Agreement for carrying out contractual obligation made in Pakistan.
(e) The foes, it is stated, are for the services rendered for study of the project and for preparation of feasibility report and it is not industrial or commercial profit.
As such, he subjected to tax the income declared as exempt from tax. Having been aggrieves and dissatisfied the respondent went up in appeal. It was contended before the learned CIT(A) that the entire work was carried out by the respondent at its office situated in U.S.A. and various officers of Government of Pakistan visited USA from time to time to assist the respondent in finalizing its feasibility report. It was further urged before him that since admittedly the respondent had no permanent establishment in Pakistan and since entire payment was received outside Pakistan, its income was exempt from tax. It was also canvassed before him that the respondent earned commercial profits hence its income was exempt from tax in Pakistan. The learned CIT(A) accepted all the contentions of the respondent and allowed the appeal with the following observation:-
"In view of above finding looked at either on the basis of facts or in accordance with law, the income of the appellant is not liable to tax ire Pakistan both under the relevant provisions of the Income Tax Ordinance, 1979, and the Tax Treaty provisions."
This time the department felt aggrieved and has come up in second appeal before us.
4. Mr. Mohammad Farid, the learned DR, supporting the departmental appeal firstly contended that the finding of learned CIT(A) that the income of the respondent was exempt from tax under Article-III of the Avoidance of Double Taxation Treaty as it amounted to commercial profits if not industrial profits was not sustainable in law. According to him the respondents were a professional group of persons and rendered professional services in Pakistan while they prepared the feasibility report for RDCL. According to him the fees were not tantamount to commercial or industrial profits hence hot exempt from Pakistan tax under aforesaid Treaty. The learned DR further argued that since the respondents were entrusted with the job of management, control or supervision of the trade business or other activity of RDCL, therefore, the fees paid to them was hot falling within the definition of industrial or commercial profits as contemplated by Article-III of aforesaid treaty. In this connection the learned D.R. relied upon a decision of this Tribunal reported as 1985 P T D 877 (Trib.). The learned DR further argued that since the respondents gave up their case regarding applicability of sections 11 and 12(5) of the Income Tax Ordinance, they were not entitled in law to resile from their stand taken by them before the ITO and press their arguments regarding them. In this connection the learned DR referred to letters dated 5th May, 1982, 4th January, 1983, 23rd January, 1983 and 29th January, 1983. Referring to the decisions relied upon by learned CIT(A) in his order the learned DR submitted that they were not applicable under the facts and circumstances of this appeal. In this connection he also cited a case from Indian Jurisdiction reported as 1978 ITR 1, Additional CIT v. Gurjar Gravures. Mr. Mohammad Farid, the learned DR, also relied upon a Full Bench decision of this Tribunal reported as 1980 P T D (Trib.)
92. Mr. E. U. Khawaja, the learned counsel for the respondent, on the other hand, vehemently argued that 198'5 P T D (Trib.) was not applicable under the facts and circumstances of this appeal. According to him in that case the assessee had to discharge not only professional duties but also maintained management, control and supervision of pipeline laying activity of the respondent, whereas in the case of the respondent all the work was done outside the country. He pointed out that the case of the Indian Supreme Court relied upon by learned DR was not applicable under the facts and circumstances of this appeal. He strenuously argued that the learned CIT(A) rightly vacated the order of the ITO as there was no nexus between the income earned and the territory of Pakistan where the tax laws of Government of Pakistan ruled supreme. He further argued that there was no estoppel in law. He submitted that even if an assessee gave up some argument regarding some law it was nevertheless to be applied by the ITO if it was applicable under the facts and circumstances of that particular case.
5. We have heard both the learned DR as well as learned counsel for the respondent. To begin with we reproduce hereinbelow the provisions of Article-II(I) which defines industrial or commercial profits as under:-
"The term industrial or commercial profits does not include rents or royalties in. respect of motion picture films or to oil wells, mines and querries, or income in the form of dividends, interest, rents or royalties or fee or other remuneration derived by an enterprise from the management, control or supervision of the trade, business or other activities of another enterprise or concern or remuneration for labour or personnel services or income from operation of ships."
Similarly. Article III(i) reads as follows:-
"A US enterprise shall not be subject to Pakistan tax in respect of its industrial or commercial profits unless it is engaged in trade or business in Pakistan through a permanent establishment situated therein. If it is so engaged Pakistan tax may be imposed upon the entire income of such enterprise or sources within Pakistan."
6. Thus, from perusal of Article-III(i) it appears that if a US enterprise, which admittedly the respondents are, earned some income in respect of its industrial or commercial profits without engaging itself in trade or business in Pakistan through a permanent) establishment here, its income would not be taxable in Pakistan. Admittedly the respondents do not have any permanent establishment in Pakistan. Now the question is whether their income falls within the definition of industrial or commercial profits as mentioned above. In our decision reported as 1985 P T D 877 (Trib.) we have discussed this aspect in some details. We have observed:-
"From perusal of aforesaid provisions of law it appears that if income falls under any of the categories laid down hereinbelow, it would not be industrial or commercial profits, hence subject to Pakistan tax. The categories are as follows:-
(1) Income derived from trade or business in Pakistan through a permanent establishment situated therein;
(2) Rent or royalties or motion picture films or of oil wells, mines and querries;
(3) Income earned in the form of dividends, interest or rents;
(4) Income derived from other type of royalties than those mentioned above;
(5) Income derived by way of fee or other remuneration from the management, control or supervision of the trade, business or other activity of another enterprise or concern;
(6) Income derived as remuneration for labour or personal services, and
(7) Income derived from operation of ships."
7. The case of Mr. Mohammad Farid, the learned DR, is that since the income of the appellant was falling under category 5 as reproduced above because firstly it was in the nature of fees paid for professional services and secondly because it was remuneration paid to the respondent for management, control or supervision of the trade, business or other activities of another enterprise or concern. We are afraid we do not find any force in second submission of Mr. Mohammad Farid, the learned DR. When we go through the contract we find that the respondents were not required to exercise any powers which may amount to management, control or supervision of the trade, business or other activity of another enterprise or concern. The preparation of feasibility report, which could be used in international market for obtaining loan for the project could not be deemed to be a trade, business or other activity of RDCL. We, therefore, reject his this submission. Let us also mention here that the submission of Mr. E. U. Khawaja that the case of this Tribunal relied upon by Mr. Mohammad Farid dealt with altogether different situation and was not applicable under the facts and circumstances of this appeal has some force.
8. Now as far as the first submission of Mr. Mohammad Farid regarding fees is concerned, we respectfully agree with him. Dealing with the question raised by him we have answered it in aforesaid case in the following words:-
"We are unable to understand as to why the convention should first exclude from the ambit of industrial and commercial profits the remuneration derived from personal services and then grant it exemption also. Had the intention been to exempt remuneration earned by an individual from Pakistan tax an omission of the expression from article-11(i) would have served the purpose. Thus, as the provisions of the Convention stand we think that the remuneration derived from personal services rendered by an artificial or legal person like a company, is not exempt from Pakistan Tax as it is not included within the fold of "Industrial or commercial profits" although the income derived by an individual has been specifically granted exemption under Article XI of the Convention under certain conditions. Now we come to next question; what is meant by expression 'personal Service' as used in Article II(i) of the Convention? The answer appears to be quite simple. A company, or to be more precise a legal person is not made of bones, blood and flesh. It, therefore, cannot render any service itself. It has to act through natural persons, namely, persons made of blood, bones and flesh. Thus, if we look to the services rendered by the respondent as reproduced above and the qualifications and skill of the natural persons who have to discharge such services for and on behalf of the respondent it becomes abundantly clear that the personal services by the respondent are nothing but professional services. As such we have to hold as a logical necessity, that expression 'personal services' means and implies professional services. Let us also mention here that in Article XI the expression 'personal (including professional) service' has been used deliberately because personal services rendered by an individual must not necessarily be professional. In our judgment the words 'including professional' have been specifically used to widen its scope in contradistinction to provision of Article II(i) where the expression 'personal service' means professional service only. We also feel inclined to agree with learned counsel for the department that the income derived by the respondent cannot be called income derived from business. It is, indeed derived from professional services. We should keep in mind that in Pakistan law the income from business is treated separately than income from profession.
We are also very much fortified in our view by authors of book entitled "Model Double Taxation Convention on Income and on Capital" published by Organisation for Economic Co-operation and Development based at Paris (1977 Edition). Before referring to relevant paragraphs we would like to observe by way of introduction that the Organisation for Economic Co-operation and Development, hereinafter referred to as "OECD" was set up under a Convention signed in parts on 14th December, 1960, which provides that it shall promote policies 'designed, inter alia to avoid ways and means and instance of double taxation in the signatory countries. The ORCD, therefore, framed Model Double Taxation Convention for the facility of contracting States, which consist of 20 developed countries including USA. Article 14 thereof is reproduced as under:------------ "
9. Now if keeping aforesaid observation in mind we refer to the agreement entered into between the parties we find that the respondents Assessee offered their services as professionals of high skill. They have been described even as consultants. Moreover, from perusal of the contract it also appears that it was entered into with the respondent on their representation that they were possessed of necessary skills, knowledge and experience and capability and qualified personnel required for executing and performing the work as specified in the contract and required to be performed by the consultant. (Please see page 2, paragraph 2 of the Agreement). However, this finding does not cut the matter short. The learned CIT(A) has talked of nexus which he did not find existing between the income derived and the territory of Pakistan. We would, therefore, examine this appeal from this angle also. However, before entering into merits of this submission let us observe that there is no estoppel in law as contended by Mr. E.U. Khawaja. We also agree with him that if the law was applicable it was the duty of the ITO to apply it even if the respondent agreed that it should not be applied in its case. As such we are of the view that the learned CIT (A) rightly examined this issue.
10. Now entering into the merits we find that a/s 11 (1) (b) the provisions of the Ordinance apply regarding total income of a non-resident and of income derived by it from whatever source is to be included if it:--
(1) is received or is deemed to be received in Pakistan in the income year by or on behalf of such person, or
(2) accrues or arises, or is deemed to accrue or arise to him in Pakistan during such year.
Now what is deemed income or what income accrues or arises in Pakistan a/s 11 (1) of the Income Tax Ordinance has been dealt with by subsection (5) of section 12 of the Income-tax Ordinance which reads as under:
"(5) Any income by way of fees 'for technical services payable by--
(a) 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 Pakistan or for the purposes of making or earning any income from any source outside Pakistan; or
(b) 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 Pakistan or for the purposes of making or earning any income from any source in Pakistan, shall be deemed to accrue or arise in Pakistan."
11. Now if with reference to sections 11 and 12 we refer to the agreement entered into between the respondent and RDCL it appears that the respondent undertook to execute their job outside Pakistan, Article 2.1 deals with this aspect of the matter and it reads:-
"2.1(a)Update outside Pakistan the pre-investment feasibility study of the owner;
(b) execute outside Pakistan the general arrangement engineering of the project with a view to advance the engineering for each aspect of the project (Mining, Milling, Smelting, Roasting, Acid Manufacturing, Steel making and Infrastructure) from the current levels of 0 to 10% to 30%.
(c) prepare outside Pakistan updated financial analysis and estimates of the capital and operating costs of the project to 10 to 15%.
(d) combine the said engineering and updated financial analysis outside Pakistan into a bankable document whereby finances can be raised from International and Pakistan Financial Institutions;
(e) prepare tender documents outside Pakistan for plant and machinery required for the project; and
(f) prepare outside Pakistan preliminary and conceptual and general arrangement engineering drawings of the project."
Moreover, Article 5.1 of the agreement deals with the payment schedule and it reads as under:-
"5.1. Payment of fee due to the consultant under clause 4.1 will be work related as detailed in Appendix 'C' and will be made in the following manner:
PAYMENT SCHEDULE
(i) Contract Date Month 1
$ 280,000
Half way 4
$ 280,000
Draft Review 7
$ 205,000
Acceptance
$ 85,000
$ 850,000
Represents 10% with holding
(ii) In all four invoices shall be raised by the consultant as follows:
(a) First invoice: For work performed from the Effective Date to the Date of initial meeting between the parties as per Appendix "C" or as per overall programme for work established between the parties under Article 6 below;
(b) Second invoice: For work performed from the date of initial meeting to the date of completion of the Consultant's reports of half way review meeting between the parties as per Appendix "C" or as per the said overall programme for the work;
(c) Third invoice: For work performed from the date of half way review meeting to the date of submission of draft Consultant's document by the Consultant to the owner for the Onwer's review, as per Appendix "C" or the said overall programme for the Work, and
(d) Fourth invoice: For work performed from the date of submission of the draft Consultant's documents as aforesaid to the date of acceptance of the Consultant's final documents.
(iii) Balance due for payment of each invoice fees three invoices shall be paid by the owner within 30 days after receipt of the invoice by the owner in Karachi.
(iv)(a) The owner shall pay to the Consultant the amount of final invoice on the expiry of the date after acceptance of the Consultant's final document.
(b) The owner shall be required to communicate its non-acceptance of the final documents within 60 days of their delivery by the Consultant to the owner stating with specificity the requirements of the scope of work, which have not been satisfied, otherwise, the final documents shall be deemed to have been accepted.
(c) Should the Consultant fail to correct the final documents within 60 days after receiving the Owner's communicating under paragraph (b) of this clause, the owner shall be entitled to forfeit the amount or retention withheld, and either party may proceed to arbitration for settlement of resulting dispute.
12. Very much relevant to aforesaid articles of the contract is the letter of RDCL dated 5th January, 1983 which is also reproduced hereinbelow : -
"No: COM/MSME/AGR- 5 January 1983
Messrs Ford Rhodes.
Robson, Morrow Chartered Accountants,
Finaly House, I.I. Chundrigar Road,
Karachi.
Attr. Mr. Hanif Sheikh
Re: Consultancy assignment to Mountain States Mineral Enterprises Inc. of USA (MSME)
With reference to telephonic conversation of 4th January, 1983 we write to confirm that five internationally recognised consultants in the UK, USA and Canada were invited to bid for the preparation of feasibility study and bankable document of the Saindak Intedrated Mineral Project, MSME were selected by a Committee comprising Joint Secretary, Ministry of Finance (Investment Wing), Joint Secretary, Ministry of Petroleum & Natural Resources and representatives of Planning Division, PCSIR and this Corporation in September, 1979. The work was completed in May, 1980. During this period two of their engineers visited Pakistan for a period of 15 days to see the working conditions in the country and collect a sample for testing.
However, the work in connection with the preparation of the feasibility study and bankable document was carried out by the Consultants in their office in USA. General Manager (Tech), Manager Engineering and Chief Geologist of the Corporation and a Metallurgist from the PCSIR, Lahore were deputed in the MSME office in USA for a period of 2/3 months for discussions and assistance in preparation of the above. The Chairman of the Corporation also visited MSME Office in USA at the time the study was being finalised there. No part of the work was carried out by MSME in Pakistan. Their representatives, however, did visit Pakistan at the time the bids were being examined by the Committee mentioned above and the contract was awarded to them.
Thanking you,
Yours faithfully
Syed Ahmed
Comptroller & Secretary
P.S. A copy of the Contract with MSME and Certificate of payments and tax deducted thereon are enclosed."
13. Now if we read this letter with reference to the articles of the contract reproduced above it becomes abundantly clear that the contract was entered into between the respondent and RDCL for a job which was to be done in USA. From perusal of the letter it appears that only two of the engineers of the respondent came to Pakistan for 15 days to see the working conditions in the country and collected a sample for testing. It further appears that a representative of the respondent came to Pakistan to sign the contract. Apart from this no part of the work was carried out by the respondent in Pakistan. Nevertheless, if we keep into consideration aforesaid, two articles of the contract and this letter of RDCL we feel very much tempted to disagree with the observation of learned CIT (A) that "there existed no nexus either territorial or otherwise the appellant company, its earnings or its activities and the territories of Pakistan." It is true that the respondents were required to perform these functions outside Pakistan, which have been mentioned in various paragraphs of article 2.1. However, they had to come in any case to Pakistan for purposes of studying the working conditions and collecting soil samples. It is thus clear that unless they could have studied the working conditions and collected the samples for testing they would not have been in a position to prepare feasibility report, which might have been found bankable document by international or Pakistani financial institutions. We are, therefore, of the considered view that study of samples and local conditions was wholly and essentially necessary for the respondent. In other words, such study was SINE QUA NON of the contract and as such, in our judgment for the purposes of clause (a) of subsection (5) of section 12 such services should be wholly and essentially utilised outside Pakistan. In other words, we find territorial nexus between income earned by the respondent and Pakistan territory. We, therefore, with due respect to learned CIT (A) find force in the submission of Mr. Mohammad Farid, the learned DR. The submission of Mr. E.U. Khawaja the learned counsel for the respondent that the entire work under the contract was executed at the office of the respondent in USA. therefore does not appear to be correct. The payment, therefore, is deemed to accrue or arise in Pakistan hence the earnings of the respondent to our mind are taxable in Pakistan. Let us also mention here that under explanation appended to subsection (5) of section 12 of the Income Tax Ordinance the expression "fees for technical services" means and includes any fees paid for consultancy services also which admittedly the respondents have rendered.
14. We, therefore, allow this departmental appeal. The impugned order is hereby vacated and the order of the ITO is hereby restored. Since no other point was urged before us, the appeal, stands disposed of accordingly.
M.B.A./459/T Appeal allowed.