Indian companies often hire foreign ships to transport goods. The categorisation of such payments as royalty has been a matter of litigation. Recently the Chennai Tribunal reversed its earlier ruling on this issue in the same assessee’s case. The ruling is analysed below.
The assessee Poompuhar Shipping Corporation Ltd is a State Government undertaking engaged in transporting coal to various Indian ports. It hired ships from India as well as various foreign companies by entering into standard time chartered agreements. At the time of paying the foreign companies, the assessee did not deduct tax at source.
Control over ship?
According to the assessee, under the terms of the time charter agreement, neither was it the owner of the ships nor did it have any control over the ship or crew. Accordingly, the payments were for hiring ships, and not for the use of the ships. Therefore, such payments under the time charter agreement are outside the purview of section 9(1)(vi)(a) of the Income Tax Act.
The assessing officer rejected the contentions, stating that under the time charter arrangement the assessee had control over the ships and crew.
The officer relied on the decision in the case of West Asia Maritime Ltd (297 ITR 202) wherein the Chennai Tribunal held that ship is an equipment and the hire charges for use of such equipment are in the nature of royalty, which is taxable in India.
It contended that the foreign shipping companies’ transportation activities were in Indian coastal waters, and therefore the income arises in India. Hence, the assessee was required to deduct tax at source from such payments.
The officer relied on the Tribunal’s order in the assessee’s own case wherein it was held that according to the time charter arrangement the assessee had control over the foreign ship and its crew. Accordingly, payments were for use of ship.
Payment for services
The Chennai Tribunal observed that under a time charter, the legal or beneficial ownership remained with the owner and did not pass on to the charterer. Further, the charterer had rights only for the services of the ship.
On arriving at this conclusion, the Tribunal referred to the ruling in the case of Essar Shipping Ltd vs. State of Tamil Nadu, wherein the Madras High Court emphasised on the meaning of ‘time charter’. Separately, the Tribunal held that the payments made by the assessee to the ship owner are for the use of the ship by the owner in rendering services to the assessee.
Therefore, the payments were for services and not for the use of any industrial, commercial or scientific equipment, and thus not in the nature of royalty. As foreign shipping companies satisfied conditions under Section 172 of the IT Act pertaining to the shipping business of non-residents, it would be liable to tax in India, and thus the assessee was held liable to deduct tax under the provisions of Section 195 of the IT Act.
Tax treaty
The Chennai Tribunal’s order is a welcome one as it has stressed more on the substance of the time charter arrangement than its form. The Chennai Tribunal did not follow its earlier decision in the case of the same assessee considering the aspects of time charter arrangements. This ruling is of significant importance to undertakings entering into similar arrangements.
While the decision holds that the income is covered under Section 172 of the IT Act, in a tax treaty situation the provisions of Article 8 should be considered if the payment is to a foreign shipping company, resident of a country with which India has a tax treaty. Under Article 8 (dealing with taxability of shipping income of foreign shipping companies), right of taxation is generally given to the country of residence of the foreign shipping company and, hence, not liable to tax in India.
(Girish Mistry is Partner, KPMG in India)