International Taxation

Applicability of TDS u/s 195 to
reimbursement of expenses
to non-residents/Foreign companies

All payments to non-residents, (including to non-resident Indians) other than salaries, which are chargeable to tax under the Act, 1961, are covered under Sec. 195. TDS on salary paid to non-residents employees are governed by section 192 and not section 195. In other words it is only the chargeable income hidden or embedded in the sums (other than salaries) paid to a non-resident that is liable for TDS u/s 195 (Transmission Corpn. of A.P. Ltd. vs. CIT (1999) 105 Taxman 742 / 239 ITR 587 (SC) read with CIT vs. Superintending Engineer (152 ITR 753(AP))

The term "Reimbursement" has not been defined in the Act and hence its meaning has to be understood as in common parlance. As per Black’s Law Dictionary the term "reimburse" means to pay back, to make restoration, to repay that is expended, to indemnify or make whole. As per the Concise Oxford Dictionary the term "reimburse" means repay (a person who has expended money) or repays (a person’s expenses).

The above definitions make it clear that a pure reimbursement should not constitute a reward or compensation paid for a service rendered. Hence, a mere reimbursement of expenses cannot be construed as a "fee" for services rendered since what is achieved by a reimbursement is a mere repayment of what has been already spent and is not a reward or a compensation for services rendered.

TDS on expenses/costs reimbursed to a non-resident do not give rise to any chargeable income in the hands of a non-resident and going literally by the above principle section 195 should not get attracted for reimbursements. However, the issue is not as simple as that and Department has been taking a view that reimbursement is to be treated as part and parcel of fees/royalty. Interestingly, Courts have expressed differing views at times on similar facts and at other times owing to peculiar facts of the case. In the process of pronouncing the judgments, Courts have laid down certain principles to determine when reimbursements are taxable and in which circumstances they are not. We have tried to analyse the case laws relating to this subject with a view to under score the principles laid down by the Courts/Tribunal.

For convenience, we have categorized our findings under six types of fact patterns:

1. Reimbursement of incidental expenses in addition to payments of Fees for Technical Services (FTS)/Royalty.

2. Reimbursement of cost of services of a third party engaged by the non-resident.

3. Reimbursement of allocated cost (i.e. costs- sharing arrangements).

4. Payments for services rendered at
   cost.

5. Reimbursement of living allowance, etc. of a person deputed to India by the non-resident.

6. Direct payments by the non-resident of expenses and salaries of foreign technicians.

In the following paragraphs we have dealt with each of above:

In addition to the payment for services received from a non-resident, the Indian entity generally under the terms of the contract also reimburses at actuals expenses like travel, lodging, boarding etc. incurred by such foreign entity for provision of the services.

In such situations, the Courts have generally held that as there is no income element embedded in such pure reimbursements duly supported by bills etc. and contractual liability to bear them being of the resident, they are not taxable in the hands of the non-resident.

Bombay High Court has in the case of CIT vs. Tata Engineering and Locomotive Co. Ltd. (245 ITR 823) held that no part of expenses of foreign technician deputed by a foreign company could be treated as payment in lieu of fees and was not liable to deduction of tax at source.

In the case of CIT vs. Industrial Engg. Projects (P) Ltd. (202 ITR 1014) the Hon’ble Delhi High Court has held that reimbursement of expenses does not constitute income and accordingly not taxable. In this case, the assessee had an agreement with the foreign company to render certain services for a minimum fee of Rs. 1.2 lakhs per year. The agreement also provided that certain costs or expenses could be reimbursed. The court found that no excess amount over and above expenses incurred was received. It held that the reimbursement of expenses could not be regarded as revenue receipts.

Following the above decision, reimbursement of actual expenses were held not to be ‘income’ in case of Clifford Chance, United Kingdom (82 ITD 106) (Mumbai ITAT). In another case, Bombay Tribunal in the case of Arthur Anderson (unreported) held that where the reimbursement is of actual expenses supported by bill no tax should be deducted.

In Mahindra & Mahindra Ltd. vs. DCIT- [2005] 1 SOT 896 (Mum), the ITAT held, after reviewing the case laws in the matter, that TDS u/s 195 is not required when the assessee directly incurred travelling and hotel expenses on Foreign Technicians and the same were not reimbursed to the foreign parties or the foreign technicians.

However, a different view has been expressed by the Kerala High Court in Cochin Refineries Ltd. vs. CIT (222 ITR 354). Reimbursements made by the Indian company to the personnel of the foreign company along with payment for services rendered were held to be "Fees for Technical Services" on the ground that this payment should be treated as part and parcel of the fees for technical advice. Also, in the case of SRK Consulting Engineers & Scientists vs. CIT (230 ITR 206), the Authority for Advance Ruling held that consideration paid for daily allowance and travelling expenses of the technicians of the foreign entity formed part of consolidated remuneration under the agreement for royalty and fees for technical services. Hence the payments were held to be "Fees for Technical Services".

However, in Hindalco Industries Ltd. vs. ACIT [2005] 278 ITR (AT) 125 (Mum), the ITAT, following Cochin Refineries Ltd. vs. CIT (Supra), held that reimbursement of incidental expenses was required to be treated as a part of the fees for technical services and TDS is required to be deducted from the same.

Thus, in our view, if it is a case of pure reimbursements of incidental expenses duly supported by bills and the contract is unambiguous that the resident shall bear such expenses in addition to the fees section 195 would not apply.

It may be pertinent to note that the CBDT in response to a question in respect of sections 194C and 194J has clarified vide its Circular No. 715 dated 8-8-1995 that TDS under those sections is deductible in case of gross amount of bill including reimbursements. This Circular would not apply to section 195 as section 195 applies to "income chargeable to tax" while sections 194C and 194J apply to "any sum paid".

The Authority for Advance Ruling (AAR) in its recent decision in Wallace Pharmaceuticals P. Ltd. (278 ITR 97) held that reimbursement to non-resident consultant of services of a non-resident professional engaged by the consultant would be part of FTS as the services were utilized for a business carried on by the resident client in India.

In the case of CIT vs. Dunlop Rubber Co. Ltd., reported in 142 ITR 493 (Cal.), the assessee company had paid its share of costs and expenses in relation to sharing the fruits of research and development as cost for impairing the information. The Hon’ble Calcutta High Court held that the amount received by the foreign company from the Indian company did not constitute income assessable under the Act.

On similar lines, one possible view could be that, if the Head Office located outside India allocates a part of the cost incurred for, say development of a software, which is to be used by its various branches, to its branch in India, the payment made by the branch should constitute merely reimbursement of expenses.

However, the AAR has taken a contrary view in Danfoss Industries (India) Ltd. (268 ITR 1)(AAR). It was held in this case that TDS u/s 195 is applicable as reimbursement of cost allocated to the group company on some reasonable basis as the same is not a case of pure reimbursement as it is possible that the reimbursed amount may have some income element embedded in it.

4. Payments for services rendered at cost
   
   In case of Timkin India Ltd. (273 ITR 67)(AAR)), it was held that amount paid by Indian subsidiary to USA holding company would be liable to TDS u/s 195 regardless of the fact that services were rendered by the US company at cost. Thus, where the fee is charged at cost without any mark-up, it is not a case of reimbursement and TDS u/s 195 is applicable.
    

5. Reimbursement of living allowance, etc of a person deputed to India by the non-resident
   
   In HCL Infosystems Ltd. vs. Dy. CIT (274 ITR 261 (Delhi), the Court on facts of that case held that the Indian company was the economic employer of the foreign technicians as the services of those technicians were placed at the disposal of the Indian company during the deputation period and the Indian company was not only liable to bear their salaries but also TDS on the salaries. On these facts it was held that section 192 and not section 195 would apply in respect of reimbursements by the Indian company of the salaries, living allowances etc. of the technicians.
   
   In CIT vs. BHEL (252 ITR 218 (Delhi)), it was held that the payments made for services of two experts deputed by the foreign entity were not FTS but was for the services of technicians. The stay of experts in India being only seven days and as the foreign entity was not doing any business in India the payments were held exempt u/s 10(6)(vi).
    

6. Direct payments by the non-resident of daily allowances or expenses of foreign technicians
   
   In Morgenstern Werner vs. CIT (233 ITR 751 (Allahabad)) as confirmed by the Supreme Court in 259 ITR 486 , it was held that daily allowance received in India by the foreign technician from the Indian company was exempt in his hands u/s 10(14) read with notification thereunder.
   
   To sum up, the prevalent view seems to be that the payments representing pure reimbursement and not containing any profit element in-built into it would not constitute "income". However, it may be regarded as income if the reimbursement is not over and above, but in lieu of, the payment of fees for the services rendered by the foreign company. If the only payment to the foreign company is the reimbursement of expenses, such as the salary of the foreign personnel deputed for providing services to the Indian company, then it is likely that such payments would not be regarded as pure reimbursement and would accordingly be chargeable to tax. Also costs sharing arrangements would be liable to tax unless it can be documented that cost allocated were at actual and not a percentage etc. of total costs.