a. How the Use of One or More Independent Contractors and Individuals Creates a Permanent Establishment in Country and the Ramifications
A permanent establishment in India is a fixed place of business, wholly or partly carried out by a foreign enterprise operating in India. A permanent establishment is said to have been established in India if a foreign company carries on business in India through a branch, sales office etc., or through an agent (other than an independent agent) who habitually exercises an authority to conclude contracts, or regularly delivers goods or merchandise, or habitually secures orders in India, on behalf of the non-resident principal.
Further, the Supreme Court of India has laid down certain tests to determine whether a permanent establishment is created, all of which must be satisfied in order for a foreign entity to have a tax exposure in India. These are:
- that the local entity must carry on its business from a fixed place in India (Fixed Place Test), however, activities of a preparatory or auxiliary character or provision of support services from such fixed place
- would not result in the creation of a “permanent establishment”;
that the local entity should be an “agent” of the foreign entity, having powers to enter into contracts which would bind the foreign entity (Agency Test); and
- that the employees of the local entity provide services to and are under the direct supervision and control
of the foreign entity through a fixed place of business in India (Services Test).
The Supreme Court in 2007 dealt with an issue on the nature of services performed by employees of a multinational enterprise rendering services in their overseas group companies and whether their services can constitute a Permanent Establishment (the “PE”). The Court held that when the nature of services is such that the parent company has control over the employees rendering services in the group companies with respect to payrolls and other terms of employment, such services will constitute a PE. Further, if the employees are only rendering specific services in the overseas group company following which they are repatriated to the parent company they are not employees of the overseas group company. Even if the group company exercises control over the activities of the employees, they still continue to be employees of the parent entity and thus a service PE will be established. Where the employees are monitoring the activities of the group company to ensure compliance with requirements of the parent company and there is no involvement in the day-to-day management in any specific services to be undertaken, such activities will not constitute a PE.8
Though, this is the general position on PE, the position may significantly differ based on the Double Taxation Avoidance Agreement (the “DTAA”) entered into between India and the foreign country. For instance, in the Indo-United States of America DTAA, there is a specific exception with reference to instances where technical or consultancy services provided are ancillary and subsidiary to the primary services for which royalties are received by a company; or making available technical knowledge, experience, skill, know-how, or processes, or consist of the development and transfer of a technical plan or technical design.