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February 24, 2021

Obligation of TDS arises only when a remittance is chargeable to tax under the Income Tax Act – SC

by CA Shivam Jaiswal in Income Tax

Obligation of TDS arises only when a remittance is chargeable to tax under the Income Tax Act – SC

TDS or Tax Deducted at Source is income tax reduced from the money paid at the time of making specified payments such as rent, commission, professional fees, salary, interest etc. by the persons making such payments. Any person making specified payments mentioned under the Income Tax Act are required to deduct TDS at the time of making such specified payments. The deduction of tax at source or TDS has been very helpful in the collection of taxes in the country by targeting the source of income itself.

Section 195 of the Income Tax Act, 1961 lays down provisions for tax deductions for Non-Resident Indians (NRIs). This section focuses on tax rates and deductions on daily business transactions with a non-resident. Any amount generated through these business transactions is chargeable under Income Tax Act, 1961. This amount may or may not be income or profits. TDS rates mentioned under Section 195 of Income Tax Act, 1961 gets increased by adding the applicable education cess and surcharge. For payments made according to DTAA rates, no additional education cess or surcharge is applicable.

The following are the TDS deduction rates applicable under Section 195 of Income tax Act, 1961:

ParticularsTDS Rates
Income from investments made by a NRI20%
Income from long-term capital gains under Section 115E for a NRI10%
Income from long-term capital gains10%
Short-term capital gains under Section 111A15%
Any other income from long-term capital gains20%
Interest payable on money borrowed in foreign currency20%
Income from royalty payable by the Government or an Indian concern10%
Income from royalty other than that which is payable by the Government or an Indian concern10%
Income from fees for technical services payable by the Government or an Indian concern10%
Any other source of income30%

Let us refer to the case of GE India Technology Cen. P. Ltd. v. CIT [2010], where the issue under consideration was whether on account of a remittance to a non-resident abroad by an Indian company, does the obligation to deduct tax at source arise the moment there is a remittance irrespective of it being chargeable to tax under the Act  

Facts of the Case:

  • The assessee was a distributer of imported pre-packaged shrink-wrapped standardized software from Microsoft and other suppliers outside India.
  • Assessee had made payment to the suppliers which represented the purchase price of the software.
  • The AO held that the payment made to the suppliers constituted royalty as the sale of software included a license to use which was deemed to accrue or arise in India and held that tax at source was liable to be deducted under section 195 of the Act.

Proceedings of the Appellate Authorities and High Court (HC)

  • The Commissioner of Income Tax (Appeals) [CIT(A)] upheld the decision of the AO.
  • However, the Income Tax Appellate Tribunal (ITAT) held that the amount paid by the assessee to the foreign suppliers was not in the nature of royalty and did not give rise to any income taxable in India and hence there was no liability to deduct tax at source.
  • The High Court accepted the department appeal and placed reliance on Transmission Corp. of A. P. Ltd v. CIT [1999] (SC), where unless the payer made an application to the AO under section 195(2) and obtained a permission for non-deduction of tax it would not be permissible for the payer to contend that the payment made to the non-resident did not result in ‘income’ taxable in India and therefore there was no need to deduct tax at source.

Observations of the Supreme Court (SC)

  • SC analysing the provisions of section 195 held that the section imposed an obligation on any person responsible for paying to a non-resident any interest or any other sum which is chargeable under the provisions of the Act to deduct tax at the rates in force.
  • The expression used in section 195(1) was ‘chargeable under the provisions of the Act’ which was of utmost importance.
  • Therefore, a person paying interest or any other sum to a non-resident was not liable to deduct tax if such some was not chargeable to tax under the Act.
  • Further, section 195 contemplated not merely amounts being pure income payments but also covered composite payments which had an element of income embedded in them and the payer was responsible for deducting tax at source in respect of such composite payments.
  • Further, the CBDT Circular No. 728 dated 30-10-1995 had clarified that the person responsible for deducting tax can take into consideration the effect of the DTAA in respect of payments of royalty and technical fees while deducting tax at source.
  • The language used in section 195(1) is identical to the language used in section 18(3B) of the 1922 Act.
  • SC pointed out that the application under section 195(2) assumes that the person responsible for making a payment to a non-resident was certain that tax was payable in respect of some part of the amount to be remitted to the non-resident but was not sure as to what should be such portion of the amount on which tax should be deducted.
  • In such circumstances, an application under section 195(2) would be made to the AO/ITO(TDS) for determining the amount of tax to be deducted.
  • Therefore, while deciding the scope of section 195(2) of the Act tax which was required to be deducted at source only out of such chargeable sum.
  • Hence, the provisions of section 4, 5, 9, 90 and 91 of the Act as well as the provisions of the DTAA are relevant while applying the provisions of tax deduction at source.
  • Thus, where a person responsible for deduction was fairly certain then he could make his own determination as to whether tax was deductible at source or not along with what the amount should be thereof.
  • Section 195 fell in Chapter XVII which dealt with collection and recovery whereas Chapter XVII-B dealt with deduction of tax at source.
  • Further, Chapter XVII used a different expression and the expression ‘sum chargeable under the provisions of the Act’ was used only in section 195.
  • Similar sections being section 194C, 194EE and 194F provided for deduction of tax in respect of ‘any amount’ and did not use the expression used in section 195.
  • Thus, the SC had to give meaning to the expression ‘sum chargeable under the provisions of the Act’.
  • SC held that the section 195 had to be read in conformity with the charging provisions, i.e., sections 4, 5 and 9.
  • Therefore, the obligation to deduct tax at source arose only when there was a sum chargeable to tax under the Act.
  • The fact that the revenue had not obtained any information per se could not be a ground to construe section 195 widely so as to require deduction of tax at source even in a case where an amount paid was not chargeable to tax in India.
  • SC further refused to accept the contention of the department that the moment there was a remittance, the obligation to deduct tax arose as such a contention would mean that on mere payment income would be said to arise or accrue in India.
  • This would cause the words ‘chargeable under the provisions of the Act’ used in section 195(1) to be obliterated.
  • While interpreting a section one had to give weightage to every word used in that section.
  • While interpreting the provisions of the Act one could not read the charging sections of that Act de hors the machinery sections and the Act was to be read as an integrated Code.
  • Thus, the expression in section 195(1) showed that the remittance had to be of a trading receipt where the whole or part of the amount was liable to tax in India and the payer would be liable to deduct tax at source only if the amount was assessable in India.
  • Where the amount was not assessable in India there would be no question of deducting tax at source.
  • SC observed the similarity between section 192 and 195 of the Act.
  • The contention of the department that a payer making payment to a non-resident was necessarily required to deduct tax would lead to absurd consequence as the department would be entitled to appropriate the money deposited by the payer even if the sum is not chargeable to tax specially because there is no provision in the Act by which the payer could obtain a refund.
  • Further, section 237 read with section 199 provided that it was only the recipient of the sum who could seek a refund.
  • HC did not go into merits of the case and directly concluded that the moment there is a remittance an obligation to deduct tax at source arose.
  • This view of the HC was overruled and the decision of the HC was set aside for consideration on merits.

In simple words, obligation to deduct tax arises only when a remittance is chargeable to tax under the Act. No obligation to deduct tax arises the moment a remittance is made.

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