TDS for overseas agents when there is no PE in India

TDS is applicable on foreign payments or charges as per section 195 of the Income Tax Act. Commission paid to overseas agents that do not have PEs in India and carry out all functions outside India, will not attract TDS. Commission paid to overseas agents situated wholly abroad, is not taxable in India.

Introduction:

Overseas agents are generally engaged by companies for activities such as sales, and they are employed by companies to sell their products or strategies. Such agents will also receive a sales commission in return as compensation for performing such activities. Since these agents are appointed across international geographical boundaries, the taxation of their income from these sales commissions can be complex. In this article we take a look at how India taxes such commissions and whether any benefits can be availed for foreign agents and companies.

How are such overseas agents taxed in India?

Under section 9 of the Income Tax Act, incomes that arise either directly or indirectly through business connections in India is deemed to accrue in India and will be taxable. Hence the idea arises that incomes such as sales commissions earned by overseas agents will be deemed to arise in India, if the income is earned either directly or indirectly through India.

Further, section 195 of the IT Act states that, “any person responsible for paying to a non-resident, not being a company, or to a foreign company, any interest or any other sum chargeable under the provisions of this Act (not being income chargeable under the head "Salaries") shall, at the time of credit of such income…deduct income-tax thereon at the rates in force”.  Meaning that such companies engaging the services of overseas agents would be liable to pay tax deducted at source (TDS) if such incomes are deemed to arise in India. If TDS is paid by companies on such commissions then this expenditure would also be disallowed under section 40 of the income tax act, as the deduction under section 40(a) (i) is only allowable for payments or charges made outside India when no tax has been paid or deducted.

However, to understand whether such incomes would arise in India, it is important to understand how payment of such international agency services may be taxed. For international incomes, or foreign offices set up in India, the incomes will become taxable in the event that they have established permanent establishments in India and their income is attributable to business connections in India.

What are permanent establishments?

Permanent establishments (PEs) are generally understood to be fixed places of business that are established in India from where business is wholly or partly carried on. However, this does not necessarily refer only to brick and mortar offices but rather the idea of PE, is to identify establishments that carry out significant operations or that have significant presence in India beyond their domestic residence. Permanent establishments can be of the following types: Fixed place PE, Service PE, or agency PE.

PEs will be taxed on the income that is considered attributable to India i.e. where the income was earned directly or indirectly through Indian business connections or through using Indian resources.

Overseas agents that have established PEs in India and are engaged in services with Indian entities will have their commissions taxed in India. However, if such overseas agents do not have PEs in India then the taxability of their income is more complicated.

Commission of Overseas agents when they do not have PEs:

A circular by the Central Board of Direct Taxes clarified in 2000 that the TDS under section 195 of the income tax act would only arise if the payment of commission to overseas agents is taxable in India. Generally, when the services of overseas agents located outside the country are engaged, their incomes do not arise in India. The payments of commission to such agents hence would be remittances made abroad and cannot be construed as received by or on behalf of agents in India. The circular thus clarified that such payments would not be taxable in India under section 9 of the IT Act, and hence there would be no tax deductible under section 195 and these payments would be an allowable expenditure for the entities in India.

However, the circular was withdrawn in 2009 as several disputes had been initiated in this regard. While the law itself has not provided clarity, several Courts and tribunals in India have now settled the matter.

In 2019 in a matter before the Income Tax Appellate Tribunal (ITAT) Hyderabad, the assessing officers alleged that the assesses were required to pay TDS on the payments they had made to their non-resident overseas agents and hence would not be eligible for deduction under section 40 of the Income Tax Act. The company had engaged the services of the agents to follow up with customers on issues of procurement and payment in foreign countries. The officers argued that the commission was paid due to business which originated in India and hence the income could be deemed to arise in India.

The tribunal however ruled that the foreign agents rendered the services outside India, received the payments outside India and did not have any PE in India. Hence the income could not be considered taxable in India. If the income isn’t taxable then it will be an allowable expenditure for companies making the payment.

A similar judgment was upheld by the Delhi ITAT wherein they held that when an agent is situated abroad, has their base outside India, and all the services are carried outside India then such payments cannot be taxed in India. And companies cannot be asked to make the TDS on such payments either. The assessing officer who had disallowed 13 lakhs in such payments was asked to reverse the order.

Recently, in December 2020, the Mumbai bench ITAT held in the case of Shamrock Pharmaceuticals Pvt. Ltd. that TDS under section 195 of the IT Act cannot be deducted in the case of overseas agents that do not have PEs in India. The reasoning was that such agents that are situated abroad fell within the ambit of the double taxation agreements could avail the benefit of being taxed in their jurisdiction. The tribunal held that in the event of overseas agents that do not have PE in India, there is no income chargeable in India.
The overall reasoning of the tribunals has been the following:
  • If overseas agents are situated abroad, dispense such activities abroad, and the payments are made from India as foreign remittances then such agents cannot be deemed to have a PE in India.
  • If such agents do not have a PE in India, then the commissions paid through such foreign remittances are not taxable in India. Hence, they do not have to be deducted by the Indian entities.
  • If such payments are not deducted then it will be an allowable expenditure for the Indian entity engaging the services of the overseas agents.
Conclusion:

The position of such overseas agents is thus settled law due to the various rulings by the income tax tribunals in India. If a company is engaging the services of a non-resident, overseas agent with no PE in India, their sales commission will not be liable to TDS under section 195 of the IT Act. If such income is not taxable, then it is an allowable expenditure under section 40 of the IT Act, for companies making such payments.