PROFITS AND GAINS OF BUSINESS OR PROFESSION SECTION 28/29 PROFITS AND GAINS OF BUSINESS OR PROFESSION AND COMPUTATION THEREOF 216. Traders charging small fee on their transaction for charitable/ educational purposes - When can ITO treat income in the hands of recipient as chargeable to tax under section 28(i) Detailed instructions have been issued by the Central Board of Revenue regarding the incometax liability of collections made by traders on various transactions for charitable purposes. Indian traders and businessmen sometimes charge a small fee on their transactions according to certain customary rates prevalent in a particular mandi or bazar. These collections are intended to be devoted to various charitable or educational purposes and are not subject to income-tax where they are actually expended for the purposes for which they are collected. As there was lack of uniformity in the treatment of these amounts by Income-tax Officers, detailed instructions in the matter have been issued by the Central Board of Revenue. According to these instructions, Income-tax Officers are now required to satisfy themselves about the bona fides of the accounts of such collections with due regard to the market usage and the ultimate disposal of the collections and to assess or reassess the amounts which have been directly or indirectly diverted to business or private purposes of the trader instead of spending them on charitable activities. On the other hand, the mere fact that the entire amount collected is not spent during the year of collection or that the collection synchronises with the date of sale or bears a direct relation to the quantity sold will not, however, go against the assessee. But if, for a period of over five years, the amount is not spent, the Income-tax Officer may treat it as the assessees income and take action to assess or reassess it. These instructions will also apply to similar collections made by the trade association or chambers of commerce from their members. Press note : Dated 9-10-1952, issued by the Ministry of Finance. 217. Tax treatment of income/loss from chit business (a) If any person organises Chit Funds and for this purposes brings the members together, administers the Chit Funds and thereby earns commission, etc., profits made by such a person is income from business and if for any special reason there is loss then it is business loss. Normally there should be no loss to the organiser unless he takes over the liability of some of the members. In such a case the unrecovered amount due from such members will have to be treated as bad debts and the test to be adopted in usual business assessment for the allowance of bad debts would be applicable in such cases also. (b) In the hands of the subscribers, a few will be receiving more than what they have subscribed. This extra amount is the nature of interest and as such, taxable. Members who take the money earlier from the chit will necessarily have to contribute more which means that they incur loss, which is nothing but interest paid for moneys taken

in advance. The claim of such a loss will have to be considered for the purpose of allowance according to the provisions of the Act depending upon how the money was utilised by the subscriber. Instruction : No. 1175 [F. No. 169/21/78-IT(80)], dated 16-5-1978. [Source : Rajees v. ITO [1997] 63 ITD 330 (Coch. - Trib.) at pp. 334-335]. JUDICIAL ANALYSIS EXPLAINED IN - In the Rajees case (supra), the Tribunal explained the above instruction as follows : After the judgment of the Punjab & Haryana High Court in the case of Soda Silicate & Chemical Works1 the Income-tax Department in Delhi started reopening several completed assessments by invoking the provisions of section 263 or section 147 of the Income-tax Act, 1961 and in the pending assessments, it started refusing the claim of loss on account of a chit. However, in one of the cases, the Commissioner in proceedings under section 263, having been satisfied about the allowability of the claim on the basis of the judgment of Andhra Pradesh High Court as well as the Boards Instruction No. 1175 on the subject, referred the matter again to the CBDT for issuing the necessary guidelines. The CBDT has recently issued instructions to all the Commissioners vide letter dated March 25, 1992 holding that the existing Instruction No. 1175 on the subject cannot be withdrawn on the basis of the judgment of Punjab & Haryana High Court. In a way, the CBDT has upheld the position that in case the amount of chit fund money is utilised for the purposes of business, any loss incurred out of the same is allowable as business expenditure. In accordance with the above referred . . . decisions and the Instruction No. 1175 issued by the CBDT, it is obvious that if a subscriber incurs loss in subscribing to the chit fund to raise funds to use them in his business or for the business purpose, such a loss is an allowable deduction.... (p. 335) 218. Security deposits from consumers - Appropriation towards profit - Whether revenue income chargeable to tax under section 28(i) 1. It has been brought to the notice of the Board that certain public utility organisations are receiving deposits from the consumers as a security to be refunded on demand but these deposits are appropriated towards their own profits by transferring the same to the general reserve. 2. The question of taxability of these deposits have been examined by the Board. The Board are of the view that if the deposits received by a concern in substance partake of the nature of a trading receipt than of a security deposit, such deposits would be taxable as revenue income in the year of receipt. In this context, reference is invited to the decision of the Supreme Court in the case of Punjab Distilling Industries Ltd. v.CIT [1959] 35 ITR 519, wherein it was held that even where the deposit is not a trading receipt at the time of its receipt, its appropriation by transferring it to general reserve would make it taxable as revenue receipt in the year of such transfer. Instruction : No. 971 [F. No. 228/12/76-IT (A-II)], dated 8- 7-1976. [Source: 51st Report (1977- 78) of the Public Accounts Committee, pp. 43-44] 219. Clarification regarding taxability of income relating to deep discount bonds

It is clarified that the difference between the issue price and the redemption price of Deep Discount Bonds will be treated as interest income assessable under the Income-tax Act. On transfer of Bonds before maturity, the difference between the sale consideration and issue price will be treated as Capital Gains/Loss if the assessee purchased them by way of investment. However, in the case of an assessee who deals in purchase and sale of Bonds, Securities, etc., the profit or loss shall be treated as trading profit or loss. The decision on other issues, referred to in your letter shall be communicated in due course. Letter : F. No. 225/45/96-IT(A-II), dated 12-3-1996. 220. Collection charges earned by employers under pay roll savings scheme Whether liable to be taxed in the hands of recipient-employer 1. Under the pay roll savings scheme, monthly deduction is made from the wages of the workers for investment in Small Savings of Wages Act, 1936. These establishments are given commission, like other commission agents working under the small savings schemes, on the basis of the collections made by them for investment in National Plan Savings Certificates, Treasury Savings Deposit Certificates or Cumulative Time Deposit Account. Collection charges at 1 per cent of the amounts collected towards National Plan Savings Certificates and per cent towards Treasury Savings Deposit Certificates and Cumulative Time Deposit Scheme are allowed to the employer towards his expenses for collection. 2. In this connection, the question arises as to whether collection charges paid to the employer towards his expenses of collection would attract liability under the Income-tax Act in the hands of the recipient-employer. The Board have been informed that these collection charges paid to the employer are intended (i) to be utilised for the general good of the employees, or (ii) to be distributed to the staff engaged in actual collection work. It appears that in either case the employer is not likely to be left with any surplus since the honorarium has to be utilised either for welfare purposes or for distribution to the working staff. In these circumstances, it has been decided that no attempt be made to tax such collection charges if the employer furnishes a certificate that the collection charges have been utilised for the above purposes. 3. As regards the receipt to such remuneration by the member of the staff from the employer, the commission would be chargeable to tax in their hands. Since the contributions would be collected at source, the question of deduction of any expenditure from such receipts does not arise. Circular : No. 1 (XLVII-12), dated 16-1-1962 [relevant extracts] 221. Clarification regarding treatment of securities as stock-in-trade or investment 1. By Circular No. 599, dated 24-4-1991 (see Clarification 2), it was clarified that securities held by banks must be regarded as their stock-in-trade and the claim of loss, if debited in the books of account, should be given the same treatment as is normally given to the stock-in-trade. It was also clarified that the interest paid for broken period on the purchase of securities must be regarded as revenue payment and allowed accordingly. 2. Consequent upon the judgment of the Supreme Court in the case of Vijaya Bank Ltd. v. CIT [1991] 187 ITR 541, the above circular was withdrawn by the issue of Circular No. 610, dated 31-7-1991 [SeeClarification 1]. There have been representations from the Indian BanksAssociation to the effect that the Supreme Court in the case of Vijaya Bank Ltd. was concerned only with the claim for broken period interest and did not decide the issue whether the

securities constituted stock-in-trade or investment. It has therefore been represented that the withdrawal of Circular No. 599, dated 24-4-1991 in toto was not called for. 3. The Board has reconsidered the treatment to be accorded to securities held by banks. In the case of Vijaya Bank Ltd. (supra), the Supreme Court considered the issue whether, in a case where the assessee purchases securities at a price determined with reference to their actual value as well as the interest accrued thereon till the date of purchase, the entire price paid for them would be in the nature of capital outlay or whether the interest portion could be claimed as a revenue expenditure. It was in this context that the Supreme Court held that whatever was the consideration which prompted the assessee to purchase the securities, the price paid for them was in the nature of capital outlay and no part of it could be set off as expenditure against income accruing on those securities. The Court was not directly concerned with the issue whether the securities form part of stock-in-trade or capital assets. 4. The question whether a particular item of investment in securities constitutes stock-in-trade or a capital asset is a question of fact. In fact, the banks are generally governed by the instructions of the Reserve Bank of India from time to time with regard to the classification of assets and also the accounting standards for investments. The Board has, therefore, decided that the Assessing Officers should determine on the facts and circumstances of each case as to whether any particular security constitutes stock-in-trade or investment taking into account the guidelines issued by the Reserve Bank of India in this regard from time to time. Circular : No. 665, dated 5-10-1993. CLARIFICATION 1 Consequent to the judgment of the Supreme Court in the case of Vijaya Bank Ltd. v. CIT [1991] 187 ITR 541, Circular No. 599, dated 24-4-1991 of the Central Board of Direct Taxes, New Delhi may be treated as withdrawn. Circular : No. 610, dated 31-7-1991. CLARIFICATION 2 1. Clarifications on the following issues have been sought by banks from the Central Board of Direct Taxes : (i) Whether the securities held by the banks constitute their stock-in-trade or investment, and consequently whether the loss claimed by the banks on the valuation of their securities should be allowed as a deduction in computing their taxable profits ? (ii) Whether deduction claimed in respect of interest paid for broken period on the purchase of securities should be allowed as a deduction from the taxable profits ? 2. The matter has been considered by the Board and it has been decided that the securities must be regarded as stock-in-trade by the banks. Therefore, the claim of loss, if debited in the books of account, would be given the same treatment as is normally given to the stock-in-trade. As far as the second issue is concerned, both the interest payments and receipts must be regarded as revenue payments/receipts, and only the net interest on securities shall be brought to tax as business income. Circular : No. 599, dated 24-4-1991.

JUDICIAL ANALYSIS EXPLAINED IN - American Express Bank Ltd. v. Dy. CIT [1998] 65 ITD 67 (Mum. - Trib.) with the following observations : Admittedly the Supreme Court decision in the case of Vijaya Bank Ltd. v. CIT [1991] 187 ITR 541/57 Taxman 152 was delivered on 19-9-1990 well before the issue of Circular No. 599 and secondly, though the decision was rendered after the order of the Assessing Officer but his action being in consonance with the law laid down by the Supreme Court, there was no reason for not following the decision of the Supreme Court. In view of these facts and circumstances of the case, the Tribunal was bound to follow the decision of the Supreme Court in the case of Vijaya Bank Ltd. (supra). The Circular No. 599 was issued without considering the Supreme Court decision cited supra. It was quite possible that the Board when issuing the Circular No. 599 might not be even aware of the Supreme Court decision cited supra. The language of the later Circular No. 610 made it clear that Circular No. 599 did not have the benefit of going through the Supreme Court decision in the matter. Circular No. 599 was neither existing at the time when the Assessing Officer framed the impugned assessments nor was allowed to remain in operation for a considerable period. The said circular was withdrawn as soon as the Board realised that such clarification issued by it was contrary to the principle laid down by the Supreme Court and the Board had rightly withdrawn the circular within about three months from the date of first issue of the circular. The circular issued by the Board was in the nature of clarification or, at best the departmental view on the subject, which was not binding on the Courts. 221A. Clarifications regarding tax treatment of deep discount bonds and STRIPS (Separate Trading of Registered Interest and Principal of Securities) A review of the tax treatment of income arising from Deep Discount Bonds has been under consideration in the Board for some time. The Board had earlier clarified by way of certain letters issued to the Reserve Bank of India and others that the difference between the bid price (subscription price) and the redemption price (face value) of such bonds will be treated as interest income assessable under the Income-tax Act. On transfer of the bonds before maturity, the difference between the sale consideration and the cost of acquisition would be taxed as income from capital gains where the bonds were held as investment, and as business income where the bonds were held as trading assets. On final redemption, however, no capital gains will arise. It was further clarified that tax would be deducted at source on the difference between the bid price and the redemption price at the time of maturity. 2. Such tax treatment of Deep Discount Bonds, however, has posed the following problems : (i) Taxing the entire income received from such a bond in the year of redemption as interest income gives rise to a sudden and huge tax liability in one year whereas the value of the bond has been progressively increasing over the period of holding. (ii) Where the bond is redeemed by a person other than the original subscriber, such person becomes taxable on the entire difference between the bid price and the redemption price as interest income, since he is not able to deduct his cost of acquisition from such income. (iii) A company issuing such bonds and following the mercantile system of accounting may envolve a system for accounting of annual accrual of the liability in respect of such a bond

and claim a deduction in its assessment for each year even though the corresponding income in the hands of the investor would be taxed only at the time of maturity. (iv) Taxing the entire income only at the time of maturity amounts to a tax deferral. 3. The matter has now been examined in consultation with the Reserve Bank of India and the Ministry of Law. The practice followed in several countries outside India has also been examined. With a view to remove the anomalies in the existing system of taxation of income from Deep Discount Bonds, and to formulate a system which is more in line with international practice, the Board have decided that such income may hereafter be treated as follows. General treatment 4. Every person holding a Deep Discount Bond will make a market valuation of the bond as on the 31st March of each Financial Year (hereafter referred to as the valuation date) and mark such bond to such market value in accordance with the guidelines issued by Reserve Bank of India for valuation of investments. For this purpose, market values of different instruments declared by the Reserve Bank of India or by the Primary Dealers Association of India jointly with the Fixed Income Money Market and Derivatives Association of India may be referred to. 4.1 The difference between the market valuations as on two successive valuation dates will represent the accretion to the value of the bond during the relevant financial year and will be taxable as interest income (where the bonds are held as investments) or business income (where the bonds are held as trading assets). 4.2 In a case where the bond is acquired during the year by an intermediate purchaser (a person who has acquired the bond by purchase during the term of the bond and not as original subscription) the difference between the market value as on the valuation date and the cost for which he acquired the bond, will be taxed as interest income or business income, as the case may be, and no capital gains will arise as there would be no transfer of the bond on the valuation date. Transfer before maturity 5. Where the bond is transferred at any time before the maturity date, the difference between the sale price and the cost of the bond will be taxable as capital gains in the hands of an investor or as business income in the hands of a trader. For computing such gains, the cost of the bond will be taken to be the aggregate of the cost for which the bond was acquired by the transferor and the income, if any, already offered to tax by such transferor (in accordance with para 4 above) upto the date of transfer. 5.1 Since the income chargeable in this case is only the accretion to the value of the bond over a specific period, for the purposes of computing capital gains, the period of holding in such cases will be reckoned from the date of purchase/subscription, or the last valuation date in respect of which the transferor has offered income to tax, whichever, is later. Since such period would always be less than one year, the capital gains will be chargeable to tax as short-term capital gains. Redemption 6. Where the bond is redeemed by the original subscriber, the difference between the redemption price and the value as on the last valuation date immediately preceding the maturity date will be taxed as interest income in the case of investors, or business income in the case of traders. 6.1 Where the bond is redeemed by an intermediate purchaser, the difference between the redemption price and the cost of the bond to such purchaser will be taxable as interest or business income; as the case may be. For this purpose, again, the cost of the bond will mean the

aggregate of the cost at which the bonds were acquired and the income arising from the bond which has already been offered to tax by the person redeeming the bond. STRIPS 7. Apart from original issue of Deep Discount Bonds, such bonds can also be created by stripping, i.e., the process of detaching the interest coupons from a normal coupon bearing bond and treating the different coupons and the stripped bond as separate instruments or securities (strips) capable of being traded in independently. Such a mechanism, referred to as STRIPS (Separate Trading of Registered Interest and Principal of Securities) creates instruments which are in the nature of Deep Discount or Zero Coupon Bonds from out of the normal interest bearing bonds. Accordingly, the tax treatment of the different components of principal and interest created by such stripping will be on the same lines as clarified in the preceding paragraphs in respect of Deep Discount Bonds. 7.1 The process of stripping of a normal interest-bearing bond into its various components will not amount to a transfer within the meaning of the Income-tax Act as it merely involves the conversion of the unstripped bond into the corresponding series of STRIPS. Similarly, the reconstitution of STRIPS to form a coupon bearing bond will not amount to a transfer. Tax deduction at source 8. The difference between the bid price of a deep discount bond and its redemption price, which is actually paid at the time of maturity, will continue to be subject to tax deduction at source under section 193 of the Income-tax Act. Under the existing provisions of that section, no tax is deductible at source on interest payable on Government securities. Further, the Central Government is empowered to specify any such bonds issued by an institution, authority, public sector company or co-operative society by way of notification, exempting them from the requirement of tax deduction at source. Option to investors 9. Considering the difficulties which might be faced by small non-corporate investors in determining market values under the RBI guidelines and computing income taxable in each year of holding, it has further been decided that such investors holding Deep Discount Bonds upto an aggregate face value of rupees one lakh may, at their option, continue to offer income for tax in accordance with the earlier clarifications issued by the Board referred to in para 1 above. Circular : No. 2/2002, dated 15-2-2002.

221B. Tax deduction at Source on income from Deep Discount Bonds The tax-treatment of income from Deep Discount Bonds has been explained in the Boards Circular No. 2/2002, dated 15-2-2002. Subsequently, the Board have received various requests for a clarification regarding tax deduction at source under section 193 of the Income-tax Act from interest on Deep Discount Bonds. Difficulties could also be faced by the taxpayers in view of section 199 of the Income-tax Act, which provides that credit for tax deduction at source shall be allowed only in the year in which the corresponding income is declared.

It is hereby clarified that tax is required to be deducted at source under section 193 or section 195, as the case may be, only at the time of redemption of such bonds, irrespective of whether the income from the bonds has been declared by the bond-holder on accrual basis from year to year or is declared only in the year of redemption. It is further clarified that a person, who has declared the income from a Deep Discount Bond on annual accrual basis during the term of the bond, will be entitled to make an application under section 197 of the Income-tax Act, requesting the Assessing Officer to issue a certificate for no deduction of tax or deduction at a lower rate. In such a case, the assessee should furnish, along with the prescribed Form No. 13, details of the income offered for tax by him from year to year. In case the assessee is not the original subscriber, and has acquired the bonds from some other person, he shall furnish the relevant particulars including the name, address and PAN, of such other person. If the Assessing Officer is satisfied that the applicant assessee has declared his income from the bonds from year to year on accrual basis during the period the bond was held by him, he shall issue a certificate allowing the tax deduction at source at such reduced rate as is justified by the total income of the applicant in the year of redemption. Similarly, an assessee being a resident individual, who is the original subscriber of a Deep Discount Bond, may furnish a declaration in Form No. 15H in accordance with section 197A, if he has been declaring income on the bond from year to year on accrual basis, and no tax is payable on his total income, including the interest. Accruing during that year, in the year of redemption. However, such a declaration cannot be filed by an individual, other than a senior citizen availing tax rebate under section 88 B of the Incometax Act, if the amount of accumulated interest, being paid on redemption, exceeds the maximum amount not chargeable to tax in his case. Circular No. 4/2004, dated 13-5-2004.

222. Loss arising due to embezzlement - Whether it should be treated as incidental to business and should be allowed as deduction in the year in which it is discoveredCLARIFICATION 1 1. A reference is invited to the instructions on the above subject contained in the Boards Circular No. 25 of 1939 and Circular No. 13 of 1944 [Clarification 2]. In these circulars it was clarified that losses arising due to embezzlement of employees or due to negligence of employees should be allowed if the loss took place in the normal course of business and the amount involved was necessarily kept for the purpose of the business in the place from which it was lost. Since the above circulars were issued, the Supreme Court has further considered the matter and laid down the law in this regard in the following two decisions in Badridas Daga v. CIT [1958] 34 ITR 10 and Associated Banking Corporation of India Ltd. v. CIT [1965] 56 ITR 1. In the first case, the Supreme Court has affirmed the view that the loss resulting from embezzlement by an employee or agent of a business is admissible as a deduction under section 10(1) of the 1922 Act [corresponding to section 28 of the 1961 Act] if it arises out of the carrying on of the business and is incidental to it. In the second case, the decision is that loss

must be deemed to have arisen only when the employer comes to know about it and realises that the amounts embezzled cannot be recovered. 2. In the light of the above decisions of the Supreme Court, the legal position now is that loss by embezzlement by employees should be treated as incidental to a business and this loss should be allowed as deduction in the year which it is discovered. Circular : No. 35-D (XLVII-20) [F. No. 10/48/65-IT(A-I)], dated 24-11-1965. JUDICIAL ANALYSIS EXPLAINED IN - The above circular was explained in Pandyan Builders v. IAC [1992] 107 Taxation 71, with the following observations : In the light of the foregoing principles, we have no hesitation in coming to the conclusion that the assessee is entitled to revenue deduction in respect of the loss occasioned by the theft that took place in the Porbandar office. As for the assessment year in which the said loss is admissible, there can be no dispute that the assessee is entitled to the deduction in the assessment year which is now before us, because the theft took place in the relevant previous year. For a fact, the C.B.D.T. Circular No. 35-D(XLVII-20) of 1965 [F. No. 10/48/65-IT(A-I)] dated 24-11-1965 makes it clear that the legal position is that the loss by embezzlement by employees should be treated as incidental to a business and this loss should be allowed as deduction in the year in which it is discovered. The same principle will equally apply to loss by theft. (p. 76) In ITO v. A.G. Gas Agency [1991] 39 TTJ (Ahd. - Trib.) 623, the Tribunal observed that, since the Board had, while issuing the above circular, taken into consideration the Supreme Court decision in the case ofAssociated Banking Corporation of India Ltd. the fulfilment of requirement of writing off the loss in the books of account was not a condition precedent for allowance of the loss. The above circular was referred to in Vishal Steel Rolling Mills v. ITO [1996] 55 TTJ (Chd.) 193, at p. 196. CLARIFICATION 2 1. Attention is invited to the Boards Circular No. 25 of 1939, dated 17-8-1939, in which, following the principle set out in the U.K case of Curtis v. J & G. Old Field Ltd. 9 TC 330, instructions were laid down regarding the allowance of losses arising by theft or embezzlement by employees. 2. It has since been represented that these instructions do not go far enough and that a loss arising by theft by outsiders or through negligence of employees would not be allowed under these instructions. The Board considers that, on the principle recognised in the circular quoted above, losses arising by theft of cash by outsiders or due to negligence of employees should also be allowed if the loss took place in the normal course of business and/or the amount involved was necessarily kept for the purpose of the business in the place from which it was lost. It is impossible to lay down a more precise test than the general one that would apply to all cases and each case must be dealt with on its own facts and circumstances. In applying the general test, care should, however, be taken to see that the claim is bona fide and that there is unimpeachable evidence to support the actual loss. Where the Income-tax Officer is not fully satisfied on these two points the claim should be refused.

Circular : No. 13 [C. No. 27(29)-IT/43], dated 24-5-1944. 223. Managing agency commission surrendered wholly or in part by managing agents - When it should not be taxed in their hands CLARIFICATION 1 Several representations have been made to the Central Board of Revenue regarding the assessment of managing agency commission surrendered wholly or in part by managing agents. The Board after considering the representations have arrived at the conclusion that if the managed company is a public company and has suffered a loss1 or will suffer a loss if the commission is paid, no attempt need be made to tax in the hands of the managing agents the amount of the commission surrendered subject to the following conditions : a. if the managing agency belongs to a public company further detailed investigation need not be made; 1 b. where the managing agency belongs to a private limited company or a firm or an association of persons or an individual, the managing agents or their relations (when the agency is not in the hands of a company) should not own between themselves more than 25 per cent of the shares of the managed company; c. the managed company does not claim the amount of the commission foregone as an expense in its assessment. If in view of the peculiar circumstances of an exceptional case a request is made that the managing agency commission foregone should not be taxed even though the above conditions are not satisfied the case should be referred to the Board for instructions. Circular : No. 26(XLVII-5), dated 21-10-1953. CLARIFICATION 2 A reference is invited to the Boards Circular No. 26(XLVII-5), dated 21-10-1953 [Clarification 1]. A question has been raised as to whether the word loss occurring in the first paragraph of that circular means loss as per profit and loss account laid before the company in its general meeting or as computed for the purposes of the Income-tax Act. The answer is that the word loss has the latter meaning. It is also possible to think of a case where the assessable income of a managed company for a particular accounting year is ascertained at a positive figure which is smaller than the figure of loss brought forward from the preceding year or years under the provisions of section 24(2). In such a case, its assessable income for that assessment year would be determined at nil. Even in such a case the benefit of that circular may be granted provided other conditions are satisfied. Circular : No. 21(XLVII-36) [F. No. 13(100)-IT/53], dated 12-7-1954. CLARIFICATION 3 Reference is invited to the Boards Circular No. 26(XLVII-5), dated 21-10-1953 [Clarification 1] on the above subject. A question has been raised as to whether, where the managing agency of a public limited company is held by a private limited company : a. the shares held by the individual shareholders of the said private limited managing agency company in the managed company, and

b. the shares held by the relative of the individual shareholders of the said managing agency company in the managed company, should be taken into consideration for the purpose of computing 25 per cent of the shares mentioned in condition (b) of the Boards Circular No. 26 (XLVII-5), dated 21-10-1953. The answer is in the affirmative. Circular : No. 11 (XLVII-6) [F. No. 13(100)-IT/53], dated 18-5-1954. 224. Norms and principles to be applied in assessing foreign/Indian participants in technical collaboration1 1. It has been represented to the Board that in determining the tax liability of foreign and Indian participants in technical collaboration agreements, different norms and principles are being applied by different Income-tax Officers with the result that there is a great deal of uncertainty in the minds of the foreign parties regarding the incidence of Indian tax on the income derived by them under such agreements. A suggestion has, therefore, been made that in order to remove this uncertainty, the various tax problems arising under technical collaboration agreements may be reviewed by the Board and detailed instructions issued to the Assessing Officers so that there is uniformity as well as certainty in the matter of tax treatment. 2. It may be observed at the outset that the tax problems arising in the cases of foreign collaborations are extremely varied and diverse and the decision depends not merely upon the terms of the particular agreement but also on the nature of the technical know-how actually imparted thereunder. It is, therefore, not possible to lay down clear-cut solutions to cover all conceivable situations. Only general principles and guidelines can be indicated which should be applied in individual cases according to the facts of each case. 3. Technical know-how is a term of wide connotation and includes several kinds of technical knowledge, assistance and services. There are several ingredients constituting technical knowhow such as (i) the design of the product to be manufactured, (ii) the design of the process for manufacture, (iii) the design and engineering of the plan, and (iv) the erection and commissioning of the plant, etc., etc. There are also different ways of imparting technical knowhow which may be (i) through outright sale of designs, know-how, etc., (ii) by lending the services of foreign technicians, (iii) by giving technical assistance during the period of agreement, (iv) through royalty or licensing agreements, or (v) through foreign capital participation. A further important aspect is whether or not the nomenclature used in the collaboration agreement really indicates the correct nature and purpose of the payment. In such cases, the real nature and purpose of the payment has to be ascertained and taken into account. 4. Broadly speaking, the tax problems arising under technical collaboration agreements are of two kinds, viz., those relating to the admissibility of the expenditure incurred in the assessments of the Indian participant, and those relating to the taxation of the amounts in the hands of the non-resident participant. As regards the former, i.e., the admissibility of the expenditure in the hands of the Indian participant, the question would be whether the expenditure has been incurred for acquiring or bringing into existence an asset or advantage of enduring benefit to the assessees business. If so, the expenditure will have to be regarded as one on capital account. On the other hand, if the expenditure has been incurred for running the business and working it with a view to produce profits, the payment would be allowable as revenue expenditure. The question has necessarily to be examined with reference to the facts of each particular case and no general

proposition can be laid down that all payments for technical know-how should be regarded as revenue payments or that they are always capital in nature. 5. A point to be remembered in this connection is that the nature of a receipt as capital or revenue in the hands of the non-resident participant is not always determinative of the nature of the outgoing in the hands of the person who pays it. If the payment is an outright payment for, say, the acquisition of a secret process formula, the benefit of which would enure permanently to the Indian participants business, there would be every justification for treating the payment in question, as of a capital nature. It may, however, well happen that the payment has been received by the foreign participant in the ordinary course of his business so that it has to be assessed as a revenue receipt in his hands. It can also happen in some cases that the receipt might be regarded as a capital receipt in the hands of the foreign participant but the payment may be regarded as revenue expenditure in the assessment of the Indian participant. However, before disallowing theexpenditure in the assessment of the Indian participant as capital expenditure, the Income-tax Officer must fully understand and comprehend the nature of the asset or enduring benefit which the assessee has acquired. If what has been acquired under the agreement is merely a licence for the user, for a limited period, of the technical knowledge of the foreign participant, together with or without the right to use the patents and trade marks of the foreign party, the payment would not bring into existence an asset of enduring advantage to the Indian participant, and should be regarded as expenditure incurred for the purpose of running the business during the period of the agreement. The payment would, therefore, be revenue in nature. The recent decision of the Supreme Court in the case of CIT v. Ciba of India Ltd. [1968] 69 ITR 692 provides clear guidance in cases of this type. 6. The first step, therefore, in dealing with foreign collaboration agreements is to analyse the terms of the agreement and ascertain the facts relating to the working or implementation of the agreement in order to find out, what rights or benefits or property have been acquired under the agreement by the Indian participant and for what consideration. In a case where the payment is made wholly or in part for a specific service or the supply of clearly defined item of technical know-how, no difficulty is likely to arise in determining the nature of the payment, i.e., whether expenditure is on capital or revenue account. It happens, however, that in several agreements, the payment of a single sum is stipulated for a variety of services, assistance and information supplied by the foreign participant. Sometimes, this payment is expressed as a percentage of sales made by the Indian undertaking. The Income-tax Officer will, therefore, have to go into the facts and determine the extent to which the payment made represents consideration for : a. the mere use of technical knowledge and information for running the business during the period of the agreement; b. the user of patents or trade marks; or c. the acquisition of an asset or benefit of enduring advantage to the business. While payments for (a) and (b) above would be allowable as revenue expenditure in the hands of the Indian participant, expenditure under (c) would be of a capital nature. 7. Where the technical know-how obtained relates to the design and engineering of the plant in India or the erection and commissioning of the plant, the payment should be treated as forming part of the cost of the machinery and plant and depreciation and development rebate should be allowed thereon.

Where, however, the technical know-how is not directly relatable to the depreciable assets and cannot be regarded as forming part of their cost, the expenditure, though treated as capital, would not be eligible for the allowance of depreciation and development rebate. As regards technical know-how obtained in the form of drawings and designs and technical information and knowledge concerning the product to be manufactured and the process of manufacture, it will be sometimes difficult to decide whether the payment made therefor is capital or revenue expenditure. A pertinent question to be answered in this connection will be : Have the technique and knowledge obtained through the designs, drawings, etc., become the property of the Indian participant for all time to come or only for the duration of the agreement ? If it is only for the duration of the agreement, the next question is whether the agreement is for such a long period that the Indian participant might still be said to have acquired an enduring benefit for the purpose of his trade. Further, after the conclusion of the period of the collaboration, what are the rights and benefits, if any, which would permanently accrue to the Indian participants business? These and other related questions have to be looked into in order to decide whether the expenditure is capital or revenue in nature. If as a result of this examination, it is found that no asset or advantage of a permanent or enduring character is acquired by the Indian participant, the expenditure should be treated as revenue expenditure and allowed as a deduction. It may, however, be noted in this connection that if the said expenditure, on product and process designs and drawings is treated as capital expenditure, the Indian participant will not be entitled to any depreciation or development rebate on the outlay. The amount cannot also be amortised and allowed over a period of years (unless the payment is for the acquisition of patent rights which are discussed separately) as there is at present no provision to this effect in the Income-tax Act. As regards expenditure of a capital nature incurred after February 28, 1966 on the acquisition of patent rights or copyrights used for the purpose of business, section 35A provides that the expenditure will be allowed as a deduction in equal instalments over a period of 14 years. 8. As regards the foreign participant is tax liability also the first question would be whether the amount received for the supply of technical know-how, is a receipt on capital account or revenue account. The answer would again depend on the facts of the case. It has to be observed that the nature of the outgoing in the hands of the Indian participant will not always be determinative of the nature of the receipt in the hands of the foreign party. In the U.K., it has been held by the Courts that a receipt from the sale of know-how would be a capital receipt only where the sale of the technical know-how or the imparting of technical knowledge and information results in the transfer or parting with the property or asset or any special knowledge or skill which would ripen into a form of property and that after such transfer, the transferor is deprived of using the asset see Moriarty v. Evans Medical Supplies Ltd. [1959] 35 ITR 707. In all other cases, where no capital asset or property is parted with and the transaction is merely a method of trading by which the recipient acquires the particular sum of money as profits and gains of that trade, the consideration received for the sale of technical know-how will be on revenue account. 9. If the amount received by the foreign participant is a revenue receipt in his hands and the amount is received by him outside India, the further questions that would arise are, whether the payment is : a. for services rendered abroad, or b. for services rendered in India, or c. represents royalty.

If the amount received by the foreign participant is for services rendered entirely outside India, that sum will not be subject to tax in India, because the income will be accruing to the nonresident wholly outside India. Where the payment received is for services rendered in India, the amount will be taxable in India, subject, of course, to the deduction of legitimate expenses of a revenue nature incurred by the foreign participant for the purpose of earning such income. If the payment received is royalty, the question of allocating the income between India and outside India would not arise and the whole amount would be liable to tax in India where the patent has been exploited. Deduction will, however, be admissible against the royalty income for the cost of current services rendered in order to earn the royalty. 10. The cases where payments of each of the above categories are clearly and truly ascertainable from the terms of the agreement and with reference to all relevant facts will not present serious difficulty. But in cases where the agreement stipulates a consolidated payment or where the true character of the payment is different from that ascribed to it in the agreement difficulty would arise in the allocation of the payment for the various services rendered under the agreement. Ordinarily, a payment expressed as a percentage of the sales in India is to be treated as payment of royalty and taxed in India. When the payment is stated to be for technical know-how or services rendered abroad but is related to the sales, the Income-tax Officer will have to go into the facts of the case and determine the extent to which the payment attributed to technical services abroad represents in fact payment for (i) services abroad, (ii) services in India, and (iii) royalty or extra royalty for exploiting the know-how in India. It is, therefore, necessary that the utmost care should be exercised by the Assessing Officers in determining the true nature of the payment when it is a consolidated figure or is expressed as a percentage of sales, by whatever terms the contracting parties may decide to call it. Allocation of the payment among the various services in India and abroad towards the royalty element, if any, included in the arrangement, has to be made objectively and after a careful appraisal of the precise terms of the collaboration agreement and the actual manner in which the terms have been implemented in practice. 1 11. With reference to cases of foreign capital participation it may be noted that where shares are allotted to a non-resident participant in the form of equity capital of an Indian concern, in consideration for transfer abroad of technical know-how or services or delivery abroad of machinery and plant, and the payment is not taxable under section 5(2)(b) as income accruing or arising or deemed to accrue or arise in India, it has been decided that no attempt should be made by the department to bring to tax the profits or gains on such transaction merely on the ground that the situs of the shares is in India. However, if any operations are effected or services are rendered in India, the income will, to that extent, accrue or arise in India and will be chargeable to tax in India. If payments of royalty are made by way of free issue of equity shares, the value thereof will of course be liable to tax. It is only those shares which are issued at the time of incorporation of the Indian company in lieu of a lump sum payment for the technical know-how delivered abroad, that will be exempt from income-tax as well as the tax on capital gains. Further, if the shares issued in consideration for technical know-how at the time of the incorporation of the Indian company are subsequently sold, the capital gains realised therefrom would be subject to tax. Preference shares allotted will be treated in the same way as equity shares in this regard. 12. In the end, a reference may be made to the provisions of section 195, particularly sub-section (2) of that section, which deserves to be more widely made use of than is being done at present. In a foreign technical collaboration, where the Indian participant who is responsible to pay a

technical fee, etc., to the foreign party, considers that the whole of such sum would not be income chargeable in the hands of the recipient, he could apply to the Income-tax Officer under section 195(2) for determination of the appropriate proportion of such payment which would be taxable and in respect of which tax is to be deducted in accordance with sub-section (1). In effect, therefore, this sub-section provides for an advance ruling being given by the Income-tax Officer in the matter of the tax liability of the non-resident participant. 1[* * *] Circular : No. 21 [F. No. 7A/40/68-IT(A-II)], dated 9-7-1969. JUDICIAL ANALYSIS EXPLAINED IN - The above circular was explained in CIT v. Union Carbide Corporation [1994] 206 ITR 402 (Cal.), with the following observations : In any case, if the Central Board of Direct Taxes, while explaining the law, engages in a forensic exercise and wants the officers to understand its view of the provision of law as though it was declaring law as a competent judicial or quasi-judicial authority empowered to decide questions of law between contending parties, that would be of no effect and the instruction issued on that basis cannot be elevated to the status of information in its special significance in the context of section 147(b). We have persued the circular of the Board and we find that the Board has made its own interpretation as to how the law relating to the assessability of technical service fees should be understood by the Assessing Officer. If the amount received by the foreign participant is a revenue receipt in his hands and the amount is received by him outside India, the further questions that would arise are, whether the payment is : (i) for services rendered abroad, or (ii) for services rendered in India, or (iii) representing royalty. If the amount received by the foreign participant is for services rendered entirely outside India, that sum will not be subject to tax in India, because the income will be accruing to the non-resident wholly outside India. Where the payment received is for services rendered in India, the amount will be taxable in India, subject of course, to the deduction of legitimate expenses of a revenue nature incurred by the foreign participant for the purpose of earning such income. If the payment received is royalty, the question of allocating the income between India and outside India would not arise and the whole amount would be liable to tax in India where the patent has been exploited. Deduction will, however, be admissible against the royalty income for the cost of current services rendered in order to earn the royalty. It is not that the circular merely draws the attention of the Assessing Officers to existing judge-made law in the form of judicial decision or proclamation in the shape of decisions coming from quasi-judicial authority competent to decide questions of law between contending parties. The opinion of the Board can be information for the purpose of the relevant section only where it expresses the opinion while performing its appellate function...... (pp. 411-412)

225. Points to be kept in view by administrative ministries while scrutinising and approving foreign collaboration agreements As the administrative Ministries are aware, applications for foreign collaboration submitted by the Indian parties often involve payment of lump sum amount with or without recurring royalty. While approving foreign collaboration proposals, such payments are invariably expressed as subject to applicable Indian taxes and the question of extent of taxability is left to be decided by the income-tax authorities. The Foreign Investment Board has observed that difficulties are being experienced by the Indian parties in negotiating terms of payments with foreign collaborators because the exact nature of the tax liability of the foreign company especially on lump sum payments and the extent to which relaxation in this respect could be allowed under the Indian law are not clear. The matter has been examined in detail in consultation with the Ministry of Finance (Department of Revenue and Insurance) and it has been decided that with a view to safeguarding the interest of revenue to the maximum extent possible, the following points may be kept in view by the administrative ministries and other concerned while scrutinizing and approving foreign collaboration agreements : 1. It would be desirable to avoid stipulating a composite amount of payment to cover all the services to be rendered by the foreign collaborator in terms of the agreement. Stipulation of a composite sum would lead to controversies regarding the allocation between the taxable and non-taxable activities of the foreign collaborator. Broadly speaking, amounts payable for services rendered in India or by way of royalties for the use of patents, etc., are taxable in the hands of foreign collaborator while amounts for services rendered outside India are not taxable unless the amount is received in India. 2. Details of the services to be rendered in India and those to be rendered outside India should be clearly spelt out separately in the collaboration agreement. 3. Amounts relatable to services rendered in India and services rendered outside India should be separately indicated in the agreement. It should be ensured that the amount payable for services rendered in India is commensurate with the nature and extent of services rendered out of India and is not unduly inflated at the cost of the former or by providing that some of the services to be rendered in India are free of cost or without charging any element of profit, e.g., the provision regarding making available the services of technical personnel. In such cases, the Income-tax Officer will not unnaturally examine the question whether the amount apparently earmarked for services rendered out of India does not really include an appropriate amount for services to be performed in India, free of cost or at no profit. 4. Amount payable by way of royalties for use of patents, etc., should also be separately mentioned. 5. If the supply of know-how is intimately connected with the visit of foreign technicians to enable the Indian collaborator to put the know-how to use, it may be ensured that no attempt is made to draft the agreement in such a manner as to suggest that the entire know-how has been delivered or supplied from abroad. The general position in law is that if the know-how is supplied from abroad, the income accrues abroad but where the technicians provided by the foreign collaborator also help the Indian party to introduce the know-how in the Indian project, a view can be taken that the know-how is partly supplied in India and, hence, a part of the income will become taxable.

6. Where an agreement provides for the supply of machinery or equipment and also for technical services to be rendered in connection with the putting up or supervision or commissioning, etc., of the plant, it may be ensured that the amount stipulated to be payable on account of the supply of machinery or equipment is not unduly inflated at the cost of the amount attributable to the technical services to be rendered in India. This has also to be ensured when there is one agreement for the supply of machinery or equipment and a separate agreement for the rendering of technical services. Circular : No. 25 SIA 1975 Series, dated 20-10-1975, issued by the Department of Industrial Development [Secretariat for Industrial Approval]. 226. Taxation of foreign telecasting companiesGuidelines for computation of income-tax, etc. 1. A number of representations have been received from foreign telecasting companies regarding their taxability and the extent of income that could be said to accrue or arise to them from their operations in India. A consequent issue raised is the method of computation of profits from their Indian operations, especially in the cases of those companies which do not have any branch office in India or are not maintaining country-wise accounts of their operations. 2. The matter has been examined in the Board and the assessment records of some of these companies have also been looked into. Since this is a new area of commercial activity, no uniform basis is being adopted by the Assessing Officers at different stations for computing the income in the absence of country-wise accounts of the foreign telecasting companies. It has, therefore, been decided by the Board to prescribe guidelines for the purpose of proper and efficient management work of the assessment of foreign telecasting companies. 3. It is seen that out of the gross amount of bills raised by a foreign telecasting company, the advertising agent retains commission at 15 per cent or so. Similarly, the Indian agent of the foreign telecasting company retains his service charges at 15 per cent or so of the gross amount. The balance amount of approximately 70 per cent is remitted abroad to the foreign company. So far as the income of Indian advertising agent and the agent of the non-resident telecasting company are concerned, the same is liable to tax as per the accounts maintained by them. As regards the foreign telecasting companies which are not having any branch office or permanent establishment in India, tax has to be deducted and paid at source in accordance with the provisions of section 195 of the Income-tax Act, 1961 by the persons responsible for paying or remitting the amount to them. 4. In the absence of country-wise accounts and keeping in view the substantial capital cost, installation charges and running expenses, etc., in the initial years of operation, it would be fair and reasonable if the taxable income is computed at 10 per cent of the gross receipts (excluding the amount retained by the advertising agent and the Indian agent of the non-resident foreign telecasting company as their commission/charges) meant for remittance abroad. The Assessing Officers shall accordingly compute the income in the cases of the foreign telecasting companies which are not having any branch office or permanent establishment in India or are not maintaining country-wise accounts by adopting a presumptive profit rate of 10 per cent of the gross receipts meant for remittance abroad or the income returned by such companies, whichever is higher and subject the same to tax at the prescribed rate, i.e., 55 per cent at present. 5. It has also been decided that while assessing the income in the aforesaid manner, penalty proceedings may not be initiated in the cases in which taxes due along with the interest are paid voluntarily within 30 days of the date of issue of this circular.

6. It is clarified that these guidelines would be applicable to all pending cases irrespective of the assessment year involved until 31st March, 1998, after which the position with regard to the reasonableness of the rate of profits of such companies will be reviewed. Circular : No. 742, dated 2-5-1996. CLARIFICATION 1 The Central Board of Direct Taxes, vide Circular No. 742, dated 2nd May, 1996, issued guidelines for taxation and computation of income of foreign telecasting companies. The guidelines were applicable up to 31st March, 1998. It has been decided to extend the circular beyond 31st March, 1998, and the guidelines issued in the abovementioned circular would be applicable to all pending cases irrespective of the assessment year involved until further orders. Circular : No. 765, dated 15-4-1998. CLARIFICATION 2 1. The Central Board of Direct Taxes vide Circular No. 742, dated 2-5-1996 had laid down certain guidelines for the computation of profits of FTCs from advertisement payments received by them from India. These guidelines were extended till further orders by Circular No. 765, dated 15-4-1998. The Central Board of Direct Taxes hereby withdraws the above Circular with effect from 31-3-2001. 2. The total income of FTCs from advertisements, hitherto computed on a presumptive basis shall now be determined by the Assessing officers in accordance with the other provisions of the Income-tax Act, 1961 in relation to the assessment year 2002-2003 and subsequent assessment years. In case, accounts for Indian operations are not available, the provisions of rule 10 of the Income-tax Rules, 1962 may be invoked. Where an FTC is a resident of a country with whom India has a Double Taxation Avoidance Agreement (DTAA), its business income (including receipts from advertisement) can be taxed only if it has a Permanent Establishment in India. Therefore, the taxability of an FTC in this regard shall be determined on the facts and circumstances of each case. Taxation of FTCs who are residents of countries with whom India does not have a DTAA, shall be governed by the provisions of section 5, read with section 9 of the Income-tax Act, 1961. 3. It may be reiterated that the guidelines for computation of profits of FTCs in Circular Nos. 742 and 765 were applicable only to the income stream from advertising. Other kinds of income like subscription charges receivable from cable operators in respect of pay channels and income from the sale or lease of decoders, etc., shall continue to be taxed in accordance with the paragraph 2 above. Circular : No. 6/2001, dated 5-3-2001. JUDICIAL ANALYSIS EXPLAINED IN - TVM Limited v. CIT [1999] 102 Taxman 578 (AAR-New Delhi) in following words: [Guidelines contained in Circular No. 742, dated 2-5-1996 regarding taxation of foreign telecasting companies] are only general in character and it is open to assessees to accept them if they are beneficial to them. To the extent these guidelines purport to extent the applicability of the presumptive rate of profits even to cases where the foreign telecasting

company has no permanent establishment in India, it cannot be treated as laying down the correct position in law. (p. 598) 227. Guidelines regarding taxation of income of artists, entertainers, sportsmen, etc., from international/national/local events 1. The Board had in the recent past, occasion to examine taxation issues concerning national and international events or shows for entertainment, sports, etc. Such shows are often characterised by substantial incomes being earned by organisers, sponsors, players, athletes and artists during very short periods of time. In many cases, the performers leave the country within a few hours of the show or event. 2. The events or shows normally involve an event manager, artists management or intermediate company. Their receipts may be of the following nature: (i) Sponsorship money; (ii) Gate money; (iii) Advertisement revenue; (iv) Sale of broadcasting or telecasting rights; (v) Rents from hiring out of space, etc.; (vi) Rents from caterers. In turn, the event manager, etc., may inter alia incur expenditure on guarantee money, prize money, rental for premises or equipment payments to labour contractor for decoration, salaries, royalties, fees for technical services, insurance premium for the event, etc. Such receipts and payments may be liable to deduction of tax at source under various provisions of the Income-tax Act, 1961. In the case of residents, the applicability of the provisions of sections 194C, 194J and 194-I and in addition in the case of non-residents, the applicability of section 194E and section 195 should be examined. 3. In the case of non-residents, in addition to the provisions of the Income-tax Act, 1961, the applicability of Double Taxation Avoidance Agreement (DTAA) should be examined. The Income-tax Act, 1961 provides that in case of sportsmen or artists participating in such events or shows, all income accruing or arising or deemed to be accruing or arising, received or deemed to be received in India is taxable in India. Under the DTAAs, usually there is a separate Article on Artists and Sportsmen, which provides for taxation in India of the income from the personal activities of the sportsmen or artists in India. Even where the income from personal activities accrues to another person and not directly to the artists or sportsmen, it is still taxable in India in accordance with this article in the DTAAs. The advertising or sponsorship income, etc., of the sportsman or artists, which is related directly or indirectly to performance or appearance in India would also be covered under the said DTAA Article on Artists and Sportsmen. Where, under the same contract or under a separate one, the performance is recorded and royalties are stipulated to be paid, the same would be covered under the Article on Royalties in the DTAA. 4. The income earned by non-resident sportsmen, who are not citizens of India or the income earned by non-resident sports association or institutions is required to be determined in accordance with the provisions of section 115BBA of the Income-tax Act, 1961. In the case of the sportsmen, this would include the income by way of participation in India in any game or sport, from advertisement or contribution to any newspapers, magazines or journal of any articles relating to sport or game in India. The tax should be deducted at source under section 194E from such payments. The provisions of section 115BBA would be applicable to the guarantee money

receivable by the non-resident sports association. The payment by way of guarantee money to non-resident sport associations needs to be considered in terms of the Article on Other income or on Income not expressly mentioned of the relevant DTAA. The position of the taxation of such guarantee money under this Article in some of the DTAAs is as under : Taxable in India, as per article 23.3 Taxable in India, as per article 23.3 Taxable in India, as per article 22.3 Taxable in India, as per article XXII(2) Taxable in India, as per article 22 Taxable where the sports association/institutions is resident, as per article 22. France Taxable in India, as per Article 23.3. Similarly, in the case of other countries, the Article on Other income etc. in the relevant DTAAs would be applicable. In cases where such guarantee money is taxable in India under the DTAA, income would be determined in accordance with section 115BBA of the Income-tax Act and the tax deducted at source under section 194E of the Income-tax Act. 5. In connection with the taxability of income of the non-resident artists or performer in India, the facts and circumstances of each event need to be considered. A few situations are illustrated below : (i) If an artist performs in India gratuitously without any consideration, there would be no income and, consequently, no tax. (ii) Where the artists performs in India to promote sale of his records and no consideration is paid for this performance by the record company or anyone else; there will be no tax as he does not receive any income for performance in India. (iii) Any consideration received by artists or performer for the live performance or simultaneous live telecast or broadcast (on radio, television, internet, etc.) in India would qualify as income and, consequently, should be taxable. Even, if separate consideration is received for simultaneous live telecast, etc., of performance, the same shall be taxable in India and is to be treated under the Article on Artists and Sportsmen in the DTAA. (iv) The consideration paid to the artists to acquire the copyrights of performance in India for subsequent sale abroad (of records, CDs, etc.) or the consideration paid to the artist for acquiring the license for broadcast or telecast overseas is not taxable in India due to exclusions provided in section 9(1)(vi) of the Income-tax Act; (v) The consideration paid to the artist to acquire the copyrights of performance in India for subsequent sale in India (as records, CDs, etc.) or the consideration paid to the artist for acquiring the license for broadcast or telecast in India is taxable in India as per section 9(1)(vi) of the Income-tax Act as royalties. Under the DTAA also, this would fall under the Royalties Article; (vi) The portion of endorsement fees (for launch or promotion of products, etc.) which relates to artists performance in India shall be taxable in India in accordance with the provisions of section 5 of the Income-tax Act. Under the DTAA, this would fall under the Article on Artists and Sportsmen. U.K. U.S.A Japan Australia New Zealand Sri Lanka

In view of the above, the contracts of the artists or performers with event managers, sponsors, etc., are of vital importance in deciding the taxability of their income in India. It is, therefore, necessary to obtain and examine the contracts of the artists or performers relating to the event. The apportionment of the income attributable to India would have to be done by the Assessing Officer. The situations cited above are for the purpose of illustrations and do not cover all possible cases. 6. Wherever the participants in such shows or events are not domiciled in India, they may be required to obtain tax clearance certificate (TCC) under section 230 of the Income-tax Act from the competent authority. The Central Government vide its Notification No. SRO 961, dated 25-51953 has listed the persons who are exempted from obtaining TCC. The persons who are not domiciled in India are not required to obtain TCC when they spend less than 120 days in India. However, the said Notification also provides that the competent authority, at its discretion, may still require such persons to obtain TCC from the competent authority. The period of stay in India of performers in such international/national events or shows for sports, entertainment, etc., may often be for durations less than one hundred and twenty days. The competent authority should insist on obtaining of TCC by the performers in such shows are events wherever such persons are believed to be having taxable income in India and no tax has been paid or no arrangement for the payment of tax has been made. Circular: No. 787, dated 10-2-2000.

Commissioner Of Income Tax vs Sahib Chits (Delhi) (Pvt.) Ltd. on 24 July, 2009Author: A.K.Sikri UNREPORTABLE * IN THE HIGH COURT OF DELHI AT NEW DELHI + ITA No. 44 of 2008 % Reserved on : July 13, 2009 Pronounced on : July 24, 2009 Commissioner of Income Tax . . . Appellant through : Mr. Subhash Bansal, Advocate VERSUS Sahib Chits (Delhi) (Pvt.) Ltd. . . . Respondent through : Mr. Prakash Kumar, Advocate CORAM :THE HON BLE MR. JUSTICE A.K. SIKRI THE HON BLE MR. JUSTICE VALMIKI J. MEHTA

1. Whether Reporters of Local newspapers may be allowed to see the Judgment? 2. To be referred to the Reporter or not? 3. Whether the Judgment should be reported in the Digest? A.K. SIKRI, J. 1. This appeal has been preferred under Section 260A of the Income Tax Act, 1961 (hereinafter referred to as The Act ) against the order of the ITAT, New Delhi passed in ITA No. 857/Delhi/2006 on 4th May 2006 for the financial year 2003-04. 2. The assessee is a chit fund company. During the financial year under consideration it was running various chits. An on the spot verification was conducted on 21.12.05 at the business premises of the assessee and after collecting further details it was held by Assessing Officer (AO) that there was default on the part of the assessee company for not deducting tax under Section 194A of the Act on the amount paid ITA No. 44/2008 nsk Page 1 of 9 to its members on the chits contributed by them under various chits organized by the assessee. While passing order under Section 201/201(1A) the AO quantified the default at Rs. 8, 17,683/- including tax (TDS), surcharge and interest payable by it. 3. In appeal, the action of the AO was quashed by the learned CIT(A) following the decisions in the below mentioned cases: a) Sh. Ram Chit (P) Ltd. v. DCIT, 83 ITD 792 b) Baldeep Singh v. Union of India, 199 ITR 628 c) Shriram Chits & Investment (P) Ltd. v. Union of India & Ors., AIR 1993 SC 2063 (2074). Besides the aforementioned, the learned CIT(A) has also relied on Para 4 of the CBDT Circular No. 647 dated 22.3.1993. The ITAT affirmed the aforesaid orders of the CIT (A) while dismissing the appeal of the Revenue. 4. The following substantial questions of law have been raised before us for our consideration :(a) Whether the ITAT was correct in law in holding that the assessee had not paid any interest to the subscribers of the chit and such payment does not fall within the meaning of interest as defined under Section 2(28A) of the Act? (b) Whether the ITAT was correct in law in holding that the assessee was not required to deduct the tax at source within the meaning of Section 194A of the Act and as such the

assessee was not in default under Section 201 of the Act. ITA No. 44/2008 nsk Page 2 of 9 5. Since the assessee is a Chit Fund company, various subscribers become members of different chits which are floated by such a company. Normally, these chits are for a fixed period of 20, 25, 30 or 40 months. If the chit is for a period of 25 months, 24 members are made as subscribers and one chit remains with the organizer (i.e. the assessee herein) named as Foreman . The subscribers contribute fixed amount, every month, which is involved in the chit. Normally, 1st, 2nd or 3rd month s chit is taken by the Foreman. Thereafter, for subsequent chits, bids between the members take place. The person who gives the highest bid is entitled to take a particular chit. The amount of bid offered by him is distributed between the members/ subscribers. These chits are governed by the law known as the Madras Chit Funds Act, 1961, which is extended to the Union Territory of Delhi. As per the provisions of this Act, there is a restriction to make a bid upto 35% of the maximum value of the chit. If more than one person offered 35%, then between them chit is allocated to a person by a draw of lot. The bid amount offered by the successful bidder is then distributed equally among all the members. It is this amount which is paid to the members that is treated as interest by the Assessing Officer. On this premise, the Assessing Officer proceeded and opined that before disbursing this amount of interest to the members/subscribers, the assessee was required to deduct tax at source under Section 194A of the Act and ITA No. 44/2008 nsk Page 3 of 9 held that for not doing so it committed default and, therefore, was liable for interest and penalty under Section 201/201(IA) of the Act. 6. The assessee disputed the aforesaid approach of the Assessing Officer as the contention of the assessee was that what is distributed to the members is not interest and, therefore, no deduction was required to be made under Section 194A of the Act. In this backdrop, the moot question which arises for consideration is as to whether payment of the aforesaid nature disbursed to the subscribers of the chit would amount to interest as defined under Section 2(28A) of the Act. If it is not interest , question of deduction of tax at source under Section 194A of the Act would not arise and, thus, the assessee would not be treated to be in default under Section 201 of the Act. Therefore, answer to question No. (b) would automatically be answered while deciding question No.(a) formulated above.

7. Before we proceed to examine the question No. (a), the relevant provisions, i.e., the sections in question of the Act, may be stated for a better understanding of the issues at hand :- "Section 2(28A): interest means interest payable in any manner in respect of any moneys borrowed or debt incurred (including a deposit, claim or other similar right or obligation)and includes any service fee or other charge in respect of the moneys borrowed or debt incurred or in respect of any credit facility which has not been utilised." xx xx xx "Section 194A: Interest other than interest on securities. (1) Any person, not being an individual or Hindu undivided family, who ism responsible for paying to a resident any ITA No. 44/2008 nsk Page 4 of 9 income by way of interest other than income by way of interest on securities, shall, at the time of credit of such income to the account of the payee or at the time of payment thereof in cash or by issue of a cheque or draft or by any other mode, whichever is earlier, deduct income-tax thereon at the rates in force..." 8. A bare reading of Section 2(28A) of the Act would reveal that interest is payable in respect of moneys borrowed or debt incurred . It, of course, would include a deposit, claim or other similar right or application of any service fee or other charges in respect of the moneys borrowed or debt incurred. We have already disclosed the nature of transaction. All the subscribers/members of the chit contribute moneys each month and bid takes place among the members. The highest bidder is entitled to take the chit, i.e. the money contributed by all the members, after deducting the bid amount offered by him. It is this bid amount which is distributed among all the subscribers/members equally. Obviously, this amount is not in respect of any moneys borrowed by the assessee or any debt incurred by the assessee. 9. It is at this juncture that it is important to note that as per The Madras Chit Funds Act, 1961, as extended to the Union Territory of Delhi (Madras Act 24 of 1961), the term "dividend", and not "interest", has been defined to mean "the share of a subscriber in the discount available under the chit agreement for ratable distribution among the subscribers at each installment of the chit". 10. The question raised before us is with regard to the taxability of the discount allotted to the subscribers of the chit, which as per the counsel for the appellant is in the nature of "interest" in the hands of ITA No. 44/2008 nsk Page 5 of 9 such subscribers and not "dividend". Thus, it may be noted that the term interest , as defined under the Act,

specifically speaks of "moneys borrowed or debt incurred (including a deposit, claim or other similar right or obligation)...". In the present case various persons are contributing to chits, which amount is taken by the successful bidder who offers certain discount. Further, it was observed in Shriram Chits & Investment (P.) Ltd. (supra) that: "...it would not be correct to state that each subscriber lends money to the person who gets chit earlier. It cannot also be construed that the person who gets chit later should be treated as the money lender. The agreement between the parties that is entered as per Section 6 of the Act, only provides for distribution of the chit amount..." The Supreme Court further relied on the judgment of the Kerala High Court in Janardhana Mallan and Ors. v. Gangadharan and Ors., AIR 1983 Ker 178, wherein it was observed that on entering into the chit agreement a debt is not incurred by the subscriber for the amount of all the future installments and in respect of such amount there is no debtor-creditor relationship. 11. From the above it is clear that a chit agreement clearly does not fall within the ambit of "money lending" or "debt incurred" and, therefore, will not be covered by the definition of "interest" as contemplated by the Act. 12. To understand the meaning of the term interest , we may also refer to law dictionary and provisions contained in other enactments. According to BLACK S Law Dictionary, Seventh Edition, the term interest means :ITA No. 44/2008 nsk Page 6 of 9 "Advantage or profit, esp. of a financial nature; a legal share in something; all or part of a legal or equitable claim to or right in property." Likewise, the Interest Tax Act, 1974 defines interest to mean - "interest on loans and advances made in India and includes - (a) commitment charges on unutilized portion of any credit sanctioned for being availed of in India; and (b) discount on promissory notes and bills of exchange drawn or made in India, but does not include - (i) interest referred to in sub- section (1B) of section 42 of the Reserve Bank of India Act, 1934 (2 of 1934); (ii) discount on treasury bills." 13. We may point out at this stage that the order of the Assessing Officer proceeds on the basis as if the contribution given by the subscribers/members every month amounts to deposit with the chit fund company, i.e. the assessee, and on that basis he proceeds as if the assessee is working as a banker and, therefore, the amount of bid disbursed equally

among members is to be treated as interest payable on money borrowed. This approach is fallacious on the face of it and particularly in view of the principle laid down in the aforesaid judgment of the Supreme Court in Shriram Chits & Investment (P) Ltd. (supra) wherein the Apex Court observed that the subscriptions received from the members of the chit fund company in terms of contract are not treated as deposits for the purpose of Reserve Bank of India s directions. The amount contributed by the members every month is given back to them in the following manner - The successful bidder takes the entire amount (minus) the bid amount and the bid amount is disbursed equally among the members. Therefore, by no stretch of imagination the aforesaid amount contributed by the members can be treated as ITA No. 44/2008 nsk Page 7 of 9 deposit with the company, much less money borrowed by the assessee. The Assessing Officer also ignores an important fact that no person can do the business of banking without the necessary approval of license from the Reserve Bank of India under the Banking Regulation Act, as pointed out above. The chit fund operations are regulated statutorily by the Madras Chit Fund Act, as extended to Delhi, which have nothing to do with the banking business. 14. Thus, from whatever angle the matter is to be looked into, the amount disbursed to the members from their contribution cannot be treated as interest . The Tribunal was, thus, right in holding that the assessee had not paid any interest to its subscribers of the chit. This issue is, thus, decided against the Revenue and in favour of the assessee, affirming the order of the Tribunal in this behalf. 15. The second issue is with respect to the applicability of section 194A of the Act to the assessee s case. As pointed out above, the payments made/disbursed to the subscribers/members was not interest and, therefore, the question of deducting any tax at source therefrom would not arise. The ITAT has rightly held that the assessee was not required to deduct the tax at source within the meaning of section 194A of the Income Tax Act and as such the assessee was not in default under section 201 of the Act. We are in agreement with the ITAT as well as the CIT(A) to the extent that interest can only be payable in respect of moneys borrowed or debts incurred. Further, in ITA No. 44/2008 nsk Page 8 of 9 the case of a chit fund there is no borrowing of moneys nor any debt is incurred and as such the provisions of section 2(28A) are not attracted. It is also clear that dividend/discount cannot be mistaken for interest income in the hands of the subscribers and therefore there has been no default under section 194A of the Act.

16. No substantial question of law arises. The appeal is, therefore, dismissed. (A.K. SIKRI) JUDGE (VALMIKI J. MEHTA) JUDGE July 24, 2009 nsk ITA No. 44/2008 nsk Page 9 of 9

SUMMARY OF CASE LAW The amount disbursed by a chit fund company to the members from their contribution cannot be treated as `interest; as the paymentsmade/disbursed to the subscribers/ members are not `interest, therefore, the question of deducting any tax at source therefrom would not arise; in the case of a chit fund, there is no borrowing of moneys nor any debt is incurred and as such the provisions of section 2(28A) are not attracted. CASE LAW DETAILS Decided by: HIGH COURT OF DELHI, In The case of: CIT v. Sahib Chits (Delhi)(P.) Ltd., Appeal No.: ITA No. 44 of 2008, Decided on: July 24, 2009