[Darshil is a student at NALSAR University of Law.]
Multinational entities often share their talent pool with other companies in different jurisdictions for varied purposes through secondment arrangements. In India, these secondment arrangements are structured in a way wherein the seconded employee remains on the payroll of the foreign company in the base location and continues to withdraw salary in that country. However, the Indian counterparts of these companies reimburse such foreign entities for the services of the seconded employees for the duration of the secondment. In India, the issue of taxability in a secondment arrangement has always been a contentious tax issue but was more or less settled in the erstwhile service tax regime. The recent decision of the Supreme Court of India (SC) in Commissioner of Customs, Central Excise and Service Tax, Bangalore (Adjudication) v. Northern Operating Systems Private Limited, is a stark departure from the settled position on taxation of secondment of employees by a foreign entity to its Indian counterpart. The SC held that these secondment arrangements and subsequent reimbursement by Indian entities to their foreign counterparts are ‘in substance’ provision of service and consideration for supply of manpower, and hence taxable in India in the hands of the foreign entities.
In this article, the author aims to analyse the recent decision of the SC and other court rulings on the taxability of secondment arrangements and the tests employed by the courts to arrive at these decisions. Further, the author shall also discuss the implications of this decision on the Goods and Services Tax (GST) regime.
The Core Issue
The core question which needs to be addressed in order determine the taxability of secondment arrangement is the taxability of cross charge and to determine who should be reckoned as an employer of the seconded employees (the Indian entity to which they were seconded or the foreign entity on whose payroll they are employed). The Indian tax authorities have consistently sought to tax the reimbursement by the Indian entity to the foreign counterpart for the secondment of employees on the ground of it being a fee paid for technical service and hence for a ‘supply of manpower’. However, in many of its decisions, the Customs Excise and Service Tax Appellate Tribunal, after taking into consideration the facts and circumstances of each case, mostly took a view that the reimbursement by the Indian entity to a foreign entity is not a consideration for the supply of manpower.
The Decision in Northern Operating Systems
In the present case, Northern Operating Systems Private Limited (Assessee) entered into a contract with their foreign counterpart to obtain managerial and technical personnel on secondment to assist Indian company in providing required services. These seconded employees were in control and supervision of the Assessee, and to protect their social security interests as well as retirement and health benefits, they remained on payroll of the foreign entity who would be reimbursed by the host entity. Further, on the completion of the secondment period, the employees were required to return to another host country.
The revenue department contended that the overall reading of the agreement for the secondment of employees, the services agreement and other documents suggested that the arrangement between the Assessee and its foreign counterpart entity is a contract for service. They further contended that the mere fact that the seconded employees were in temporary control and direction of Assessee did not take away the fact the real employer was the foreign counterpart entity, which was providing its services to the Assessee and was getting reimbursement for the same. Therefore, taking all these factors into consideration, the agreement for the secondment of employees was for the supply of service and hence taxable under the Finance Act 1994 (Act).
On the other hand, the Assessee contended that the scope of the term ‘manpower recruitment and supply agency service’ under Section 65(68) and Section 65(105)(k) of the Act also includes employees who come under their direction and control. Further, they contended that under the negative list under Section 65(44) of the Act, the services provided to the employer by the employee within the scope of employment is out of the ambit of ‘service’ and hence is not taxable.
The SC observed that all activities carried out by a person for another person was deemed to be services except the excluded categories which included services by an employee to an employer within the relation between employee and employer. The SC carefully looked at the nature of secondment arrangement and observed that though the Assessee exercised temporary control over the employees, the seconded employees were on the payroll of the foreign entity and were to return to their original employer (foreign employer). Further, employees’ terms of employment were also in accordance with the policy of the foreign entity. Therefore, the SC looked at “substance over form” to hold that the Assessee was the recipient of the service by the foreign entity and the foreign entity provided manpower supply service which would be taxable.
Control v/s Legal Relationship
In the present case, the SC did not take into consideration the operational and the managerial control the Assessee exercised over the seconded employees to assess the arrangement between the employees and the Assessee. Instead, the SC put greater emphasis on the legal relationship between the seconded employees and the foreign entity which continued during the period of secondment. Similarly, the Delhi HC in the case of Centrica India Offshore Private Limited v. Commissioner of Income Tax-1 placed more emphasis on the legal relationship between the foreign entity and the seconded employees rather that the existing economic relationship between the Indian entity and the seconded employees. The court observed that the employees during secondment continued to remain the employees of the foreign entity as the direct cost of such employees was borne by such entity. Though the Indian entity had power to terminate the secondment agreement, it did not have the power to terminate the underlying employment agreement.
Further, in the present case, the contract was one of service rather than a contract for service. The SC in its recent decision in Sushilaben Indravadan Gandhi v. The New India Assurance Company has discussed various tests to distinguish between a contract of service and a contract for service and held that a “conglomerate of all applicable tests taken on the totality of the fact situation in a given case” should be considered to determine whether the contract is for service or of service. Keeping this in consideration, it is clear in the view of the author that the seconded employees were in the effective control of the Assessee and the Assessee was reimbursing the salary expense of the foreign entity. Further, the employees were integrated in the Assessee’s business and were not merely an accessory and, therefore, there was a contract of service and not a contract for service.
The Karnataka HC in the case of Flipkart Internet Private Limited v. DCIT (International Taxation) has observed that the secondees retained dual employment with both entities. They retained employment with the Indian entity during the period of secondment agreement and therefore any employment before and after secondment is not relevant to determine the secondees’ relationship with the Indian entity during secondment period.
These rulings emphasise on the need to consider different factors to determine who should be reckoned as an employer of the seconded employees. Keeping all these factors in consideration (legal relationship, autonomy exercised by the seconded employees, extent of the control exercised by the Indian entity, etc.), the present arrangement would, in the view of the author, partake the character of a contract of service and hence would not fall under the definition of ‘service’ under the amended Section 65(44) of the Act by virtue of the specific exclusion of ‘service by an employee to the employer in the course of or in relation to his employment’ under clause (b).
Implications under GST
The secondment agreements have continued under the GST regime and the present judgement which departed from the earlier settled position will have implications on all such secondment arrangements under the GST regime. Further, the controversies with respect to taxability of secondment arrangements have already arisen under the GST regime as well. The Appellate Authority for Advance Ruling, Tamil Nadu, has, in its one of the decisions, held that the reimbursement paid to the foreign entity by their Indian counterpart towards the salary paid to seconded employees would be covered under ‘supply of service’ and hence GST would be applicable.
Way Forward
The present judgement of the SC will have significant implications as it, per author’s view, unsettled the settled position on the issue of taxability of cross-border secondment arrangements. Various income tax tribunals in multiple decisions have held that the secondment arrangements are not in the nature of manpower supply service and hence not taxable. This judgement will open the gates for greater scrutiny of secondment arrangements, especially cross-border secondment arrangements, under the GST regime. Therefore, the way forward, in view of the present judgement, for Indian entities is to reassess and restructure their secondment arrangements with their foreign counterpart entity to compute possible tax liability arising out of such secondment arrangements.
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