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HYATT INTERNATIONAL SOUTHWEST ASIA LTD. vs ACIT(INTERNATIONAL TAXATION)-2(1)(1), NEW DELHI

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* IN THE HIGH COURT OF DELHI AT NEW DELHI
% Judgment reserved on: 05 July 2024
Judgment pronounced on: 19 September 2024

+ ITA 216/2020
HYATT INTERNATIONAL SOUTHWEST
ASIA LTD ….. Petitioner
Through: Mr. S. Ganesh, Sr. Adv. with Mr. U.A. Rana, Mr. Himanshu Mehta, Advs.

versus

ADDITIONAL DIRECTOR OF INCOME TAX …Respondent
Through: Mr. Sanjay Kumar & Ms Easha, Advs.
+ ITA 217/2020
HYATT INTERNATIONAL SOUTHWEST
ASIA LTD ….. Petitioner
Through: Mr. S. Ganesh, Sr. Adv. with Mr. U.A. Rana, Mr. Himanshu Mehta, Advs.
versus

DEPUTY COMMISSIONER OF INCOME TAX ..Respondent
Through: Mr. Sanjay Kumar & Ms Easha, Advs.
+ ITA 218/2020
HYATT INTERNATIONAL SOUTHWEST
ASIA LTD ….. Petitioner
Through: Mr. S. Ganesh, Sr. Adv. with Mr. U.A. Rana, Mr. Himanshu Mehta, Advs.
versus

ASSISTANT DIRECTOR OF INCOME TAX …Respondent
Through: Mr. Sanjay Kumar & Ms Easha, Advs.
+ ITA 219/2020
HYATT INTERNATIONAL SOUTHWEST
ASIA LTD ….. Petitioner
Through: Mr. S. Ganesh, Sr. Adv. with Mr. U.A. Rana, Mr. Himanshu Mehta, Advs.

versus

ADDITIONAL DIRECTOR OF INCOME TAX …Respondent
Through: Mr. Sanjay Kumar & Ms Easha, Advs.
+ ITA 140/2021
HYATT INTERNATIONAL SOUTHWEST
ASIA LTD ….. Petitioner
Through: Mr. S. Ganesh, Sr. Adv. with Mr. U.A. Rana, Mr. Himanshu Mehta, Advs.
versus

DEPUTY COMMISSIONER OF INCOME TAX …Respondent
Through: Mr. Sanjay Kumar & Ms Easha, Advs.
+ ITA 36/2022
HYATT INTERNATIONAL SOUTHWEST
ASIA LTD ….. Petitioner
Through: Mr. S. Ganesh, Sr. Adv. with Mr. U.A. Rana, Mr. Himanshu Mehta, Advs.
versus

ASSISTANT COMMISSIONER OF
INCOME TAX …Respondent
Through: Mr. Sanjay Kumar & Ms Easha, Advs.
+ ITA 201/2023
HYATT INTERNATIONAL SOUTHWEST
ASIA LTD ….. Petitioner
Through: Mr. S. Ganesh, Sr. Adv. with Mr. U.A. Rana, Mr. Himanshu Mehta, Advs.

versus

ACIT(INTERNATIONAL TAXATION)-2(1)(1),
NEW DELHI …..Respondent
Through: Mr. Sanjay Kumar & Ms Easha, Advs.
+ ITA 215/2023
HYATT INTERNATIONAL SOUTHWEST
ASIA LTD ….. Petitioner
Through: Mr. S. Ganesh, Sr. Adv. with Mr. U.A. Rana, Mr. Himanshu Mehta, Advs.
versus

ACIT (INTERNATIONAL TAXATION)-2(1)(1),
NEW DELHI …..Respondent
Through: Mr. Sanjay Kumar & Ms Easha, Advs.

CORAM:
HON’BLE MR. JUSTICE YASHWANT VARMA
HON’BLE MR. JUSTICE SANJEEV NARULA
HON’BLE MR. JUSTICE PURUSHAINDRA KUMAR KAURAV

J U D G M E N T

YASHWANT VARMA, J.

1. This Full Bench has been constituted as a consequence of a Division Bench of the Court doubting the correctness of the view expressed in Commissioner of Income-tax (international taxation) vs. Nokia Solutions and Networks OY1. The Division Bench, while referring the question for our consideration had doubted the view expressed in Nokia Solutions that profit attribution to a Permanent Establishment2 would be warranted only if the enterprise as a whole, and the PE constituting merely a component thereof, had earned profits.
2. The appellants appear to have argued that in case the enterprise at an entity level had suffered a loss in the relevant Assessment Year3, no profit or income attribution would be warranted insofar as the PE is concerned. When these batch of appeals were initially considered by the Court on 16 January 2023, the following order came to be passed:-
“1. One of the questions arising in the present petitions is whether any taxable income can be attributed to the Permanent Establishment (hereafter “PE”) in India if the overseas entity has incurred a loss in the relevant assessment years.
2. Mr. S. Ganesh, learned Senior Counsel appearing for the appellant, submits that Article 7 of the Double Taxation Avoidance Agreement (hereafter “DTAA”) entered into between the Government of United Arab Emirates and the Republic of India applies only in cases where the assessee earns profit.
3. If it is accepted that Article 7 of the DTAA doesn’t apply; the questions that would next follow are whether DTAA applies in the context where there is a loss, and whether recourse to DTAA is necessary for taxing the income of a permanent establishment in India as an independent assessee.
4. According to the respondent, notwithstanding that an overseas entity incurs a loss, if there is positive income attributable to the PE, the same would be taxable notwithstanding Article 7(1) of the DTAA.
5. Mr. Ganesh submits that the aforesaid questions are squarely covered by the decision of the coordinate Bench of this Court Commissioner of Income Tax (International Taxation)-2 v. M/s Nokia Solutions And Networks OY; ITA 503 of 2022, decided on 02.12.2022. He has also drawn the attention of this Court to Paragraph 11, 13 and 13.1 of the said decision, which read as under:
*** **** ***
“11. The Tribunal has returned a finding of fact, that the respondent/assessee recorded a “global net loss” in the relevant assessment year, and therefore no profit been attributed to it.
13. We may also note, that a plain reading of the Article 7 of the Double Taxation Avoidance Agreement between India and Finland also persuades us to take the same view as that which is taken by the Tribunal.
13.1 A plain reading of the Article 7(1) would show, that the issue of taxability would arise qua the respondent/assessee only if profits accrue to the respondent/assessee, and that too only to the extent they can be attributed to its PE in India.”
6. He submits that in view of the said decision, the question whether any taxable income could be attributed to PE, would not arise in the event, the assessee incurs a loss.
7. It is noted that although the observations made in the said decision appear to be squarely in favour of the appellant, it is also apparent that various other contentions relevant for addressing the said question have not been considered. This is also perhaps because the Court had not framed any question regarding the applicability of Article 7 of the DTAA.
8. Prima facie, this Court is of the view that if Article 7(1) of the DTAA – which concerns with the attribution of profits of the assessee – is not applicable in case the assesse incurs a loss, the other provisions of the Income Tax Act, 1961, would be applicable and any income arises or accrues within the territories of India would be chargeable to tax.
9. Prima facie, if the establishment in India is generating profits, but the other entities of the assessee overseas are incurring a loss, the profits generated by the establishment, if otherwise chargeable under the Income Tax Act, would be required to be assessed and taxed.
10. In this view, we are inclined to observe that the aforesaid issue be referred to a larger Bench.
11. Mr. S. Ganesh submits that there are other questions which arise in the present appeal and if those are decided in favour of the assessee, the aforesaid issue may not be relevant.
12. He states that at the threshold, it is the assessee’s case that it has no Permanent Establishment in India and if this issue is held in favour of the assessee/ appellant, it may not be relevant to address the issue as noted above.
13. Learned counsel for the respondent states that he is not prepared to argue on the questions as framed earlier and requests for an adjournment.
14. At his request, list on 13.02.2023.
15. The hearing fixed on 31.01.2023 stands cancelled.”

3. The aspect of profit attribution to a PE again arose for consideration as would be evident from a reading of the order dated 14 March 2023 and which is extracted hereinbelow: –
“1. On 05.07.2021, this Court had framed the following questions for consideration in ITA 216/2020:
“(i) Has the Tribunal misconstrued the provisions of Article 7(1) of the DTAA entered into between the Government of United Arab Emirates and the Government of the Republic of India?
(ii) Whether the findings recorded by the Tribunal, in paragraphs 56, 57 and 59 are perverse and contrary to the terms of the Strategic Oversight Services Agreement (SOSA)?
(iii) Whether the Appellant has Permanent Establishment in India within the meaning of Article 5(1) dehors the parameters prescribed in Article 5(2) of the DTAA?
(iv) Whether, in the given facts and circumstances, the provisions of Article 5(2) would prevail over the provisions of Article 5(1) of the DTAA?
(v) Whether the Tribunal misdirected itself both in law and on facts in holding that service charges received by the Appellant under the various SOSA Agreements were taxable as royalty?”
2. Similar questions were also raised in other connected appeals.
3. After hearing the parties, this Court is of the view that the questions require to be slightly modified. The questions that arise for consideration in these appeals are restated as under:
(i) Whether the Tribunal misdirected itself both in law and on facts in holding that service charges received by the Appellant under the various SOSA Agreements were taxable as royalty?
(ii) Whether the Appellant has Permanent Establishment in India within the meaning of the Double Taxation Avoidance Agreement?
(iii) Whether the findings recorded by the Tribunal, in paragraphs 56, 57 and 59 are perverse and contrary to the terms of the Strategic Oversight Services Agreement (SOSA)?
(iv) Is Article 7(1) of the DTAA at all applicable to the Appellant, having regard to the fact that it has incurred losses in the relevant financial years?
4. Insofar as the fourth question is concerned, this Court had, on 16.01.2023, expressed its view that the said question is required to be considered by a larger Bench, considering this Court’s reservation regarding the decision of the coordinate Bench of this Court in the case of Commissioner of Income Tax (International Taxation)-2 vs. M/s Nokia Solutions and Networks OY; ITA 503 of 2022, decided on 02.12.2022.
5. Mr. Ganesh, learned Senior Counsel appearing for the appellant states that, at this stage, the appellant does not wish to press the fourth question as stated above because the appellant’s appeals can be decided on the basis of the first three questions.
6. He, however, reserves the right for pressing the said question at an appropriate stage if the need so arises.
7. In view of the above, this Court considers it apposite to examine the first three questions as set out above in the first instance.
8. Learned Counsel for the parties agree that if the decision in any of the three questions is in favour of the appellant, it would not be necessary for this court to consider the fourth question and the same will be taken as given up finally.
9. Arguments have been partly heard on the first three questions.
10. List for further proceedings on 20.04.2023”.

4. It is on the aforesaid basis that the Court appears to have proceeded to consider the challenge which stood raised and the issue of applicability of Article 7 of the Double Taxation Avoidance Agreement4 between India and the United Arab Emirates, in case losses had been suffered at an entity level was reserved for further consideration. The appeals were ultimately decided in terms of a final judgment rendered on 22 December 2023. The Court had identified the four principal questions which merited determination as being the following:-
“(i) Whether the Tribunal misdirected itself both in law and on facts in holding that service charges received by the Appellant under the various SOSA Agreements were taxable as royalty?
(ii) Whether the Appellant has Permanent Establishment in India within the meaning of the Double Taxation Avoidance Agreement?
(iii) Whether the findings recorded by the Tribunal, in paragraphs 56, 57 and 59 are perverse and contrary to the terms of the Strategic Oversight Services Agreement (SOSA)?
(iv) Is Article 7(1) of the DTAA at all applicable to the Appellant, having regard to the fact that it has incurred losses in the relevant financial years?”

5. As would be evident from the final decision rendered, Questions (i) and (ii) came to be answered in the affirmative. The Court while considering Question (iii) came to hold that the findings rendered by the Income Tax Appellate Tribunal5 on payments being liable to be viewed as royalty under Article 12 were unsustainable.
6. Question (iv), in light of the earlier orders of 16 January 2023 and 14 March 2023, was reserved and referred for our consideration. It however becomes pertinent to take note of the following observations which appear in the final judgment insofar as the issue of attribution is concerned. We deem it apposite to extract paragraphs 33 to 36 of the final judgment hereinbelow: –
“Re: Question No. (iv)
33. One of the principal contentions advanced by the Assessee is that even if it is assumed that the Assessee has a PE in India, there is no question of attributing any amount as income chargeable to tax under the Act to its PE, as it has incurred a loss on an entity level (global basis). According to the Assessee, income chargeable to tax under the Act could be attributed to its PE in India only if the Assessee had made profit on an entity level. Concededly, the said issue is covered in favour of the Assessee by a decision of the Coordinate Bench of this Court in Commissioner of Income Tax (International Taxation)-2 v. M/s Nokia Solutions and Networks OY. However, we have some reservations regarding the said view.
34. The profits attributable to the Assessee’s PE in India are required to be determined on the footing that the PE is an independent taxable entity. It is, thus, possible that an Assessee makes a net loss at an entity level on account of losses suffered in other jurisdictions, which is partly offset by profits arising from India. In these circumstances, if it is held that the Assessee has a PE in India, prima facie the Assessee would be liable to pay tax on the income attributable to its PE in India notwithstanding the losses suffered in other jurisdictions. This aspect was not deliberated in the case of Commissioner of Income Tax (International Taxation)-2 v. Nokia Solutions and Networks OY.
35. This Court was of the view that the fourth question as raised by the Assessee ought to be referred to a larger Bench. This was recorded by this Court in an order dated 14.03.2023. However, the learned senior counsel appearing for the Assessee had requested this Court to consider the other questions and had asserted that the Assessee would not press the fourth question, if the Assessee’s appeals are disposed of in its favour on the basis of the other questions as framed. The learned counsel for the parties had also agreed that if the appellant succeeded before this Court in respect of the first three questions, the Assessee would finally give-up the fourth question without any recourse.
36. In view of the above, this Court is confining further deliberations to the first three questions as set out above.”

7. As is apparent from the tentative observations entered by the Division Bench, it found itself unable to concur with the submission that income attribution would be impermissible if the enterprise had on a global level suffered a loss. The Division Bench observed that the issue of attribution of profits to a PE in India would have to be determined on the basis of the latter being considered to be an independent taxable entity. It thus opined, prima facie, that once it is found that the assessee has a PE in India, it would be liable to pay tax on such income in India notwithstanding the losses that the enterprise as a whole may have suffered in other jurisdictions.
8. Nokia Solutions was considering a challenge to a decision rendered by the Tribunal and which in turn had sought to draw sustenance for holding that global profit or loss would constitute a relevant factor for attributing income to a PE on the basis of a decision rendered by a Special Bench of the Tribunal in Motorola Inc. Vs. Deputy Commissioner of Income Tax, Non-Resident Circle New Delhi (and vice-versa)6.
9. While noticing the aforesaid, the Court in Nokia Solutions had held as follows:-
“10. We may note, that the impugned order passed by the Tribunal has proceeded on the basis, albeit on a demurrer, that the respondent-assessee has a permanent establishment (“PE”) in India, and thereafter gone on to discuss, as to whether any profits could be attributed to it.
11. The Tribunal has returned a finding of fact, that the respondent assessee recorded a “global net loss” in the relevant assessment year, and therefore no profit could have possibly been attributed to it.
11.1 A discussion on this aspect is set forth in the following paragraphs of the impugned judgment passed by the Tribunal (page 88 of 97 ITR (Trib)) :
“The assessee emphatically denies that the appellant has a permanent establishment in India. However, without any prejudice to that basic contention, the assessee submitted that even assuming without conceding that the assessee has a permanent establishment in India, no profit or income can at all be attributed to the permanent establishment as the net profit of the assessee is loss and there are no taxable attributable profits available. The Assessing Officer has incorrectly determined the profits taking into gross profit into consideration and if the net profit is taken into consideration rightly, then the issue as to whether the assessee has a permanent establishment in India would end up as an academic issue.
The attribution of profits (net profit) stands covered in favour of the appellant by the judgment of the Special Bench in the case of Nokia Corporation for the assessment year 1997-98 and 1998-99 (involving same business as carried out by the appellant) as mentioned in the paper book Volume C-page 936, at 949-950 (para 287). The Special Bench held that the appellant-company’s world wide net profit margins as per its audited accounts are to be applied for determining the quantum of the income to be attributed to the permanent establishment. The effect being if the appellant-company is in net loss as per its audited accounts or the calendar years 2009 and 2010, which relate to the present assessment year 2010-11, there would be no profit or income attributable to the permanent establishment. There are losses in both years as per the audited accounts. Paper book- Volume A of compilation page 164, at 169 and page 180 at 185. The relevant portion of the said Special Bench Judgment is quoted herein below (page 287 of Volume C, at page 949-950) :
‘287 … Taking all these into consideration, we consider it fair and reasonable to attribute 20 per cent. of the net profit in respect of the Indian sales as the income attributable to the permanent establishment.
The following steps are involved in computing the income attributable to the permanent establishment :
First the global sales and the global net profit have to be ascertained. From the accounts presented before us as well as before the Income-tax authorities, the global net profit rate has been ascertained at 10.8 per cent. and 16.1 per cent. by the Commissioner of Income- tax (Appeals), to which no objection has been taken by either side. This percentage has to be applied to the Indian sales and by Indian sales, we mean the total contract price for the equipment as a whole and not the bifurcated price which the Assessing Officer has referred to in the assessment order. This will also be consistent with our view that the software and the hardware constitute one integrated equipment. The resultant figure would be the net profit arising in respect of the Indian sales. Out of this figure of net profit 20 per cent. shall be attributed to the permanent establishment to cover the three activities mentioned above. The Assessing Officer is directed to compute the income of the permanent establishment as directed above.’
The Revenue appealed before the hon’ble Delhi High Court against the said Special Bench judgment and the only ground raised by the Department was with regard to the rate of net profit (20 per cent.) applied by the Special Bench and not with regard to the method of taking the net profit rate of the foreign enterprise. The Revenue Department has thus accepted the finding of the Special Bench with regard to the net profit margin method and has allowed that finding to become final. The same method of attribution of profits to the permanent establishment on the basis of the net profit rate of the foreign enterprise has been applied by the Revenue in the cases of three other assessees who were in the same field of business as the appellant, viz., ZTE, Huawei and Nortel. Each of these assessees was engaged in the supply of telecom equipment to Indian telecom operators. The Income-tax Appellate Tribunal order passed in the case of Notel specifically records that in the cases of each of these two assessees, the Revenue had adopted the net profit rate of the foreign enterprise for determining the amount of profit income which was attributable to each enterprise’s respective permanent establishment. Hence, applying the said Special Bench judgment to the facts of the present case, as the appellant has global net loss as per its audited accounts, no profit or income can be attributed to the assessee in India.
To mention Special Bench ruling is in line with the provisions of article 7(1) of the India Finland Double Taxation Avoidance Agreement (DTAA), which is set out at page 719, at 723 of Volume B of the compilation. For the sake of convenience, article 7(1) is reproduced hereunder:
1. The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprises carries on business as aforesaid, the profits of the enterprise may be taxed in the other State but only so much of them as is attributable to that permanent establishment.’
Article 7( 1) thus provides as under :
‘(a) The profits of an enterprise can ordinarily be taxed only by the country in which it is located.
(b) If however, the enterprise has a permanent establishment located in another country (which is also a signatory to the Double Taxation Avoidance Agreement), through which it carries on its business, then a portion of its profits, to the extent it is attributable to the permanent establishment can be taxed in the other country.’
On a plain reading of article 7 (1) of the Double Taxation Avoidance Agreement, the question of attributing profits to the permanent establishment arises only if the foreign enterprise is making a profit. This is the condition precedent. If it is making a loss then no question arises at all of attributing any profit to the permanent establishment, which would be taxable in India.
The Assessing Officer has taken gross profit margins of the appellant-company for 2009 and 2010 as per its audited accounts instead of the net profit margins. The gross profit margins of the appellant-company for 2009 and 2010 were positive, and that was how the Assessing Officer could attribute profits to the permanent establishment. In so adopting the gross profit margins of the appellant-company, the Assessing Officer has acted in a manner which is directly contrary to article 7(1) of the Double Taxation Avoidance Agreement and also contrary to the said Special Bench judgment. It is the net profit margins which are to be considered as for attribution as per the Double Taxation Avoidance Agreement.
The computation made by the Assessing Officer in his assessment order is incorrect as the Assessing Officer has not allowed the payments made by the appellant to NSN India for the services rendered by NSN India as a deduction from the profit attributable to the alleged permanent establishment. If the said payments are allowed as a deduction from the gross profit figures taken by the Assessing Officer, then again the resultant figure would be losses. Consequently, even if the method of attribution adopted by the Assessing Officer is considered to be correct, in any event, there would be no profit/income attributable to the permanent establishment. The computation is as under :
xxxx xxxx xxxx
29. Consequently, even if the appellant has a permanent establishment in India, no profit or income can in law at all be attributed to permanent establishment which would be taxable in India. Hence, we hold that, the adjudication on issue of permanent establishment would be academic in nature.
12. Having regard to the following finding of fact returned by the Tribunal, we are of the view that the proposed questions of law, i. e., A and B would not arise for consideration.
13. We may also note, that a plain reading of the article 7 of the Double Taxation Avoidance Agreement entered into between India and Finland also persuades us to take the same view as that which is taken by the Tribunal.
13.1 A plain reading of the article 7(1) would show, that the issue of taxability would arise qua the respondent-assessee only if profits accrue to the respondent-assessee, and that too only to the extent they can be attributed to its permanent establishment in India.
14. Given this position, we are not inclined to entertain the appeal.”

10. It becomes pertinent to note that the Tribunal while considering the appeal preferred by Nokia Solutions had noticed the decision of the Special Bench in the assessee’s own case and which formed part of a batch of connected appeals including the one preferred by Motorola Inc. in the following context. Apart from a host of other issues which were raised for the consideration of the Special Bench of the Tribunal, the penultimate question was with respect to attribution of income. This becomes apparent from a reading of paragraphs 423 to 427 and which read as follows: –
“423. We have considered the matter of attribution of income to the PE carefully. For the assessment year 1997-98 the Assessing Officer has first bifurcated the value of the total supply of equipment i.e. both hardware and software into 70% for hardware and 30% for software. 70% of the supply value comes to Rs. 102,63,12,952/-. He has estimated the income at 40% thereof which comes to Rs. 41,05,25,180. From this figure he has deducted 5% as permissible expenses u/s 44C of the Income-Tax Act which comes to Rs. 2,05,26,259. The balance of Rs. 38,99,98,921 has been taken as the taxable income from hardware and is taxes @ 55%. A similar procedure has been adopted in the assessment year 1998-99, except that tax has been charged @ 48%. The CIT (Appeals) in paragraph 7 of his order for the assessment year 1997-98 has reduced the income to 5% of the sales to Indian parties. While doing so he has noted that the profit and loss account relating to Indian operations of the assessee is not substantiated with any documents and is, therefore, not reliable for the purpose of computing the income from sale of hardware. He has accordingly taken the assistance of Rule 10 of the Income-tax Rules to compute the profits on the basis of assessee’s global accounts. He has noted that the global accounts showed a net profit of 10.8%. The net profit on Indian sales was, therefore, taken at 10.8% but the CIT (Appeals) held that since the whole of this profit cannot be attributed to the Indian operations as the activities relating to manufacture and development of the products were undertaken outside India, he has ultimately held that the profits attributable to operations in India should be taken at 5% of the sales to the Indian parties. For the assessment year 1998-99, he has taken 7.9% of the sale value considering the fact the net profit on Indian sales was 16.1% as against 10.8% in the preceding year.

424. The Department in its appeals has taken the ground that the CIT(Appeals) was not justified in reducing the income from 40% of the value of the hardware to 5% of the sales to Indian parties. Actually, for the assessment year 1998-99, the ground should be that the CIT(Appeals) was not justified in reducing the income to 7.9%. It appears to be a mistake in drafting the ground No. 1. On the other hand the assessee in its appeals has taken up several contentions including the contention that no income can be attributed to the PE at all primarily because whatever expenses that are incurred by it are compensated by the assessee on cost plus basis, that if the expenditure incurred by the PE is taken into account then there will be no income left to be assessed, that there are several activities which do not lead to the existence of the PE and, therefore, they cannot contribute to the revenues of the PE, that no income can be attributed to the supervision because the supervision is only an incident of the sale and does not constitute an operation by itself, that the India specific accounts were wrongly rejected by the CIT (Appeals) and that at any rate the adoption of 5% and 7.9% of the sales to Indian parties is arbitrary and excessive.

425. We have carefully considered the argument raised by the Department as well as the assessee. In the present case it cannot be disputed that the research and development activities and the manufacture of the GSM equipment took place wholly outside India. W have also found, for reasons stated earlier, that the title and risk in the equipment also passed wholly outside India. The only activities which the assessee carried on in India through its PE were:
a) Net work planning,
b) Negotiations in connection with the sale of equipment, and
c) The signing of the supply and installation contracts.
426. In the case of Ahmadbhai Umarbhar, 18 ITR 472, the Supreme Court held that the income attributable to the manufacturing activity should be more then the income attributable to the activity of sale. In the case of Annamalia Timber Trust & Co. v. CIT, 41 ITR 781, the Madras High Court approved the tribunal’s decision that 10% of the income can be attributed to the signing of the contracts in India. The Calcutta High Court also approved the same percentage as income attributable to the signing of the contracts in India in the case of CIT v. Bertram Scott Ltd., 31 Taxman 444. We have kept the principles laid down in these judgments in mind. In the present case, as already noted, in addition to the signing of the contracts in India, the preliminary negotiations for the contracts and the network planning were carried out through the PE. We may clarify here that the network planning activity is different from the activities which are of the preparatory or auxiliary character. In respect of signing of contracts, alone, the income attributed is 10% in the decisions cited above. Two more activities have been carried out by the PE in India and, therefore, we have to attribute a higher income than what was attributed in the decided case. The negotiations which ultimately lead to the signing of the contracts may involve more effort on the part of the PE and the signing of the contracts is only the fructification of those efforts. Obviously, therefore, the income attributable to the negotiations part should be more and in addition to the income attributable to the signing of the contracts. Some income has to be attributed to the net work planning also. Taking all these into consideration, we consider it fair and reasonable to attributable 0% of the net profit in respect of the Indian sales as the income attributable to the PE. The following steps are involved in computing the income attributable to the PE.
427. First the global sales and the global net profit have to be ascertained. From the accounts presented before us as well as before the Income-tax authorities, the global net profit rate has been ascertained at 10.8% and 6.1% by the CIT (Appeals) to which no objection has been taken either side. This percentage has to be applied to the Indian sales and by Indian sales, we means the total contract price for the equipment as a whole and not the bifurcated price which the Assessing officer has referred to in the assessment order. This will also be consistent with our view that the software and the hardware constitute one integrated equipment. The resultant figure would be the net profit arising in respect of the Indian sales. Out of this figure of net profit 20% shall be attributed to the PE to cover the three activities mentioned above. The A.O. is directed to compute the income of the PE as directed above.”
11. As is evident from the aforesaid extracts of that decision, the reference to global sales and global net profit was made in the backdrop of the parties having failed to produce adequate material which may have independently established the profit margin of the PE in India. It was in the aforesaid backdrop that the Special Bench of the Tribunal ultimately appears to have held that a net profit of 20% should be attributed to the PE.
12. By the time the issue again arose for consideration of the Tribunal for AY 2010-11, it proceeded on the basis that the question of attribution already stood answered in light of the judgment handed down by the Special Bench pertaining to AYs’ 1997-98 and 1998-99. It was on the aforesaid basis that the Tribunal observed that since the Special Bench had already held that it would be Nokia’s worldwide net profit margin which was to be applied for determining the quantum of income attributable to the PE, the same principle should apply and govern the issue for AY 2010-11. It thus held that since Nokia on a global scale had suffered a net loss, no profit or income could be attributed to its PEs’.
13. The Tribunal also appears to have borne in consideration the fact that the Revenue while pursuing its appeal before this Court against the judgment rendered by the Special Bench in Motorola Inc. had confined it to the ultimate rate of net profit which had been applied. It thus took the view that the Revenue would be deemed to have accepted the legal position as propounded by the Special Bench, namely, of global profit or loss being relevant and determinative.
14. Our Court while ultimately upholding the view taken by the Tribunal in the case of Nokia Solutions dismissed the appeal of the Revenue holding that the view expressed by the Tribunal did not merit consideration. However, while doing so, the Court also observed that a plain reading of Article 7 persuades it to affirm the view that was taken by the Tribunal. This was further reiterated with the Court observing that the issue of taxability could arise only if profits had accrued to the assessee and that too only to the extent attributable to its PE in India.
15. Appearing for the assessee, Mr. S. Ganesh, learned senior counsel, at the outset contended that once the Revenue had accepted the formulation of the legal position by the Special Bench of the Tribunal in Motorola Inc. and had restricted its challenge only to the prescription of a profit percentage, it would not be permissible for them to re-agitate those questions.
16. Apart from the above, Mr. Ganesh commended for our acceptance the view expressed by the Court in Nokia Solutions when it had observed that the question of taxability would arise only if profits had accrued to the assessee at a global level. According to learned senior counsel, a plain and textual reading of Article 7 of the DTAA would also lead us to the same conclusion.
17. According to Mr. Ganesh, on a reading of Article 7 of the DTAA, it would be apparent that the profits of an enterprise based in UAE would ordinarily be taxable only in that State and not in India. It was his submission that if the enterprise based in the UAE were making a loss, the question of taxability either in UAE or in India would not arise at all. According to learned senior counsel, only if an enterprise were making a profit, could a PE through which it carries on business be subjected to tax and that too restricted to so much of the profit as is attributable to that PE. Consequently, according to Mr. Ganesh, for a foreign enterprise to be taxed in India, the following three conditions precedent would have to be conjunctively satisfied: –
A) The foreign enterprise must be making a profit;
B) The foreign enterprise has a PE in India; and
C) At least a part of the profit made by that enterprise is attributable to its PE in India and that part alone being liable to be taxed.
Learned senior counsel thus submitted that if a foreign enterprise like the appellant were making a loss, the question of attributing any profit to its PE in India would not arise and consequently that enterprise would have no tax liability in India.
18. Appearing for the Revenue, Mr. Kumar addressed the following submissions for our consideration. Learned counsel at the outset, submitted that the judgment of the Court in Nokia Solutions is clearly being read out of context and is distinguishable on facts. It was submitted that although the decision of the Special Bench of the Tribunal was subjected to an appeal before this Court, the same came to be dismissed with the Court refraining from even framing a question of law. Mr. Kumar contended that the Court in Nokia Solutions had refrained from rendering any definitive findings as would be apparent from the operative parts of that decision. Learned counsel sought to make good the aforesaid submission by inviting our attention to the following observations as appearing in that order of dismissal: –
“12. Having regard to the following finding of fact returned by the Tribunal, we are of the view that the proposed questions of law, i. e., A and B would not arise for consideration.
13. We may also note, that a plain reading of the article 7 of the Double Taxation Avoidance Agreement entered into between India and Finland also persuades us to take the same view as that which is taken by the Tribunal.
13.1 A plain reading of the article 7(1) would show, that the issue of taxability would arise qua the respondent-assessee only if profits accrue to the respondent-assessee, and that too only to the extent they can be attributed to its permanent establishment in India.
14. Given this position, we are not inclined to entertain the appeal.”

19. It was thus sought to be contended by Mr. Kumar that this Court ultimately declined to entertain the appeal of the Revenue in light of the findings of fact which had come to be rendered by the Tribunal. According to learned counsel, the decision of this Court in Nokia Solutions, and the correctness of which has been doubted by the Bench while referring the matter for our consideration, came to be rendered primarily influenced by the fact that the Revenue had failed to question the method of attribution and the net profit rate as was adopted by the Special Bench. According to learned counsel, the same must consequently be read as confined to the peculiar facts which obtained and that the said decision cannot possibly be read as an authority for the proposition of a global profit being an aspect of import insofar as attribution under Article 7 is concerned.
20. Proceeding then to the DTAA itself, it was Mr. Kumar’s contention that the Convention clearly contemplates an exercise of attribution being undertaken under Article 7 in light of the PE being treated as a separate and distinct enterprise in itself. According to Mr. Kumar, Article 7 mandates the attribution of profits to a PE acknowledging it to be a distinct and separate enterprise and thus such an exercise being undertaken independently.
21. According to learned counsel, the determination of business profit as per Article 7 is mandated to be undertaken on the basis that the PE is a separate enterprise and is operating independently of the enterprise of which it may be a PE. According to learned counsel, a reading of the provisions of the DTAA would lead one to the irresistible conclusion that the only relevant consideration for answering the question of business profit is the activities undertaken by the PE at its individual level and uninfluenced by the activities of the enterprise of which it may be a part.
22. In view of the aforesaid, it was contended that the taxability of the profit of the PE would have no connection with either the profit or the loss which the assessee earns or suffers at a global level. In view of the above, it was contended that the view expressed by the Court in its judgment of 22 December 2023 should be affirmed and the tentative view expressed therein confirmed as being representative of the correct position in law.
23. Mr. Kumar also sought to draw support for the aforenoted submissions from paragraphs 11 and 12 of the Commentary on Article 7 of the Model Tax Convention on Income and on Capital-Condensed Version7 dated 17 July 2008 and which read as follows:-
“11. When referring to the part of the profits of an enterprise that is attributable to a permanent establishment, the second sentence of paragraph 1 refers directly to paragraph 2, which provides the directive for determining what profits should be attributed to a permanent establishment. As paragraph2 is part of the context in which the sentence must be read, that sentence should not be interpreted in a way that could contradict paragraph 2, e.g. by interpreting it as restricting the amount of profits that can be attributed to a permanent establishment to the amount of profits of the enterprise as a whole. Thus, whilst paragraph 1 provides that a Contracting State may only tax the profits of an enterprise of the other Contracting to the extent that they are attributable to a permanent establishment situated in the first State, it is paragraph 2 that determines the meaning of the phrase “profits attributable to a permanent establishment”. In other words, the directive of paragraph 2 may result in profits being attributed to a permanent establishment even though the enterprise as a whole has never made profits; conversely, that directive may result in no profits being attributed to a permanent establishment even though the enterprise as a whole has made profits.
12. Clearly, however, the Contracting State of the enterprise has an interest in the directive of paragraph 2 being correctly applied by the State where the permanent establishment is located. Since that directive applies to both Contracting States, the State of the enterprise must, in accordance with Article 23, eliminate double taxation on the profits properly attributable to the permanent establishment. In other words, if the State where the permanent establishment is located attempts to tax profits that are not attributable to the permanent establishment under Article 7, this may result in double taxation of profits that should properly be taxed only in the State of the enterprise.”

24. Having noticed the submissions which were addressed by respective parties, it would be appropriate to deal with the submission of Mr. Ganesh who had argued that once the Revenue had accepted the decision of the Special Bench in Motorola Inc. it would not be permissible for it to take a contrary stand or contend that the profit or loss of an enterprise at a global level would be irrelevant.
25. We find ourselves unable to sustain that submission for the following reasons. Firstly, and at the outset, it must be borne in mind that this Full Bench is called upon to consider a question of law which stands referred for its consideration. It is clearly not concerned with whether the Revenue could have maintained an appeal or not as also whether it was estopped from taking a particular position in law notwithstanding the dismissal of its appeal preferred against Motorola Inc. We thus find ourselves unable to recognise any impediment restricting the Revenue from advocating the acceptance of a particular position on a question of law.
26. More importantly, and in our considered opinion, the arguments of the appellants based on the decision of the Special Bench in Motorola Inc. are clearly misconceived and rest merely on a stray observation which appears in that decision. The Tribunal while deciding Nokia Solutions also appears to have similarly misconstrued those observations as would be evident from the discussion which ensues.
27. As is apparent from a careful reading of paragraphs 423 and 424 of Motorola Inc., the Special Bench found that authorities had found themselves unable to place any credence on the profit and loss account of the Indian PE since it had not been substantiated. It then proceeded to outline the steps that would be involved in computing the income attributable to the PE. It was in the aforesaid context that it observed that “First the global sales and the global net profit have to ascertained.” It then proceeded to observe that the global net profit had been identified to be 10% and 6.8% in the first appeal proceedings. It thus held that it would be appropriate to set apart 20% of that figure as the net profit of the PE.
28. It is therefore apparent that the observations appearing in Motorola Inc. have clearly been misinterpreted and read wholly out of context. The decision of the Special Bench cannot possibly be read as being an authority for the proposition which is canvassed for our consideration by the appellants in these proceedings. The Tribunal in Nokia Solutions had ultimately held that “….as the Appellant has global net loss as per audited accounts, no profit or income can be attributed to the PE.” The Tribunal too appears to have completely misconstrued Motorola Inc. as purporting to enunciate a binding legal principle of global loss being pertinent for the purposes of considering whether income is allocable to the PE. We thus find ourselves to read or construe the decision of the Special Bench as lending credence to the contentions which were canvassed at the behest of the appellants in these proceedings. The aspect of a failure on the part of the Revenue to question or assail the observations entered by the Special Bench, consequently, pale into insignificance.
29. However, and this we do propose to clarify. The observations that appear hereinabove are rendered solely in the context of our endevour to enunciate the correct legal position which would obtain and are not intended to shroud the ultimate judgment which the Court rendered and would continue to bind parties.
30. Having put the preliminary submissions to rest, and before we commence our discussion on the principal question that stands posited, it would be appropriate to notice the salient provisions of the DTAA Article 3(1)(g) defines the expressions “enterprise of a contracting state and enterprise of the other contracting State” as follows: –
“ARTICLE 3
GENERAL DEFINITIONS
1. In this Agreement, unless the context otherwise requires:
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(g) the terms “enterprise of a Contracting State” and “enterprise of the other Contracting State” mean respectively, an enterprise carried on by a resident of a Contracting State and an enterprise carried only a resident of the other Contracting State ;

31. A PE is defined by Article 5 in the following terms: –
“ARTICLE 5
PERMANENT ESTABLISHMENT
1. For the purposes of this Agreement, the term “permanent establishment” means a fixed place of business through which the business of an enterprise is wholly or partly carried on.

2. The term “permanent establishment” includes especially :
(a) a place of management ;
(b) a branch ;
(c) an office ;
(d) a factory ;
(e) a workshop ;
(f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources ;
(g) a farm or plantation ;
(h) a building site or construction or assembly project or supervisory activities in connection therewith, but only where such site, project or activity continues for a period of more than 9 months ;
(i) the furnishing of services including consultancy services by an enterprise of a Contracting State through employees or other personnel in the other Contracting State, provided that such activities continue for the same project or connected project for a period or periods aggregating more than 9months within any twelve-month period.

3. Notwithstanding the preceding provisions of this Article, the term “permanent establishment” shall be deemed not to include :
(a) the use of facilities solely for the purpose of storage, display or delivery of goods or merchandise belonging to the enterprise ;
(b) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage, display or delivery ;
(c) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise ;
(d) the maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise, or of collecting information, for the enterprise ;
(e) the maintenance of a fixed place of business solely for the purpose of carrying on, for the enterprise, any other activity of a preparatory or auxiliary character.

4. Notwithstanding the provisions of paragraphs (1) and (3), where a person – other than an agent of independent status to whom paragraph (5) applies – is acting on behalf of an enterprise and has, and habitually exercises in a Contracting State an authority to conclude contracts on behalf of the enterprise, that enterprise shall be deemed to have a permanent establishment in that State in respect of any activities which that person undertakes for the enterprise, unless the activities of such person are limited to the purchase of goods or merchandise for the enterprise.

5. An enterprise of a Contracting State shall not be deemed to have a permanent establishment in the other Contracting State merely because it carries on business in that other State through a broker, general commission agent or any other agent of an independent status, provided that such persons are acting in the ordinary course of their business. However, when the activities of such an agent are devoted wholly or almost wholly on behalf of that enterprise, he will not be considered an agent of independent status within the meaning of this paragraph.”

32. The subject of business profits and its taxability is regulated by Article 7 which reads as under: –
“ARTICLE 7
BUSINESS PROFITS
1. The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the profits of the enterprise may be taxed in the other State but only so much of them as is attributable to that permanent establishment.
2. Subject to the provisions of paragraph (3), where an enterprise of a Contracting State carries on business in the other Contracting State through a permanent establishment situated therein, there shall in each Contracting State be attributed to that permanent establishment the profits which it might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar conditions and dealing wholly independently with the enterprise of which it is a permanent establishment.
[3. In determining the profits of a permanent establishment, there shall be allowed as deductions expenses which are incurred for the purposes of the business of the permanent establishment, including executive and general administrative expenses so incurred, whether in the State in which the permanent establishment is situated or elsewhere, in accordance with the provisions of and subject to the limitations of the tax laws of that State.]
4. Insofar as it has been customary in a Contracting State to determine the profits to be attributed to a permanent establishment on the basis of an apportionment of the total profits of the enterprise to its various parts, nothing in paragraph (2) shall preclude that Contracting State from determining the profits to be taxed by such an apportionment as may be customary ; the methods of apportionment adopted shall, however, be such that the result shall be in accordance with the principles contained in this Article.
5. No profits shall be attributed to a permanent establishment by reason of the mere purchase by the permanent establishment of goods or merchandise for the enterprise.
6. For the purposes of preceding paragraphs, the profits to be attributed to the permanent establishment shall be determined by the same method year by year unless there is good and sufficient reason to the contrary.
(7) Where profits include items of income which are dealt with separately in other Articles of this Agreement, then the provisions of those Articles shall not be affected by the provisions of this Article.”

33. It becomes pertinent to note that Article 5 while defining the expression “PE” brings within its ambit a varied nature of establishments and which need not necessarily be those which have a separate legal persona. As we view Article 5, it becomes apparent that the nature of establishments which are included within the meaning of the phrase “PE” range from a place of management to a mine or a building site and thus not being confined to a juridical entity as is ordinarily understood in law.
34. The fact that a PE for the purposes of taxation is viewed as a separate and distinct centre, was one which was noticed by us, albeit briefly, in International Management Group (UK) Limited vs. Commissioner of Income Tax-28 as would be evident from the following extracts of that decision: –
“107. We also bear in mind the submission of Mr. Vohra who had laid stress upon the memorandum of understanding and the services agreement being an indivisible contract and constituting a singular source of the income in question. Undisputedly, the income was earned by and was liable to be remitted to IMG. The service permanent establishment was undoubtedly not a separate legal entity which could have been possibly called upon to satisfy the test of economic ownership as suggested. While Conventions do accord an independent identity upon a permanent establishment, they do so for the purposes of taxation alone. A permanent establishment, however, need not in all circumstances be a juridical entity as is recognised in law. It is perhaps these and other limitations which constrained Vogel to express the following reservations with respect to the test of “economic ownership” (page 893):
“The effectively connected rule is not based on the force of attraction rule (No. 31 of OECD Model Convention 2014 Comm. on article 10; No. 24 of OECD Model Convention 2014 Comm. on article 11; No. 20 of OECD Model Convention 2014 Comm. on article 12; No. 15 of UN Model Convention 2011 Comm. on article 10). This means that dividends, interest and royalties flowing to a resident of a Contracting State from a source situated in the other State must not, by a kind of legal presumption, or fiction even, be related to a permanent establishment or a fixed base, as the case may be, which that resident may have in the source State, so that this State would not be obliged to limit its tax jurisdiction in such a case. The shares, debt claims, rights or property must form part of the assets of the permanent establishment respectively the fixed base or must be otherwise effectively connected with that establishment or base. This view is also put forward in Tech Mahindra Ltd. v. Commissioner of Taxation [[2016] FCAFC 130; 2016 ATC 20-582; (2016) 103 ATR 813.] , where the Australian Federal Court stated that profits which are made liable to tax in the source State under the ‘force of attraction’ notion are not attributable to a permanent establishment and therefore not effectively connected with it. The US Technical Explanation gives the example of dividends derived by a dealer in shares or securities from shares or securities that the dealer held for sale to customers. However, in respect of debt claims, rights and property, the UN Model Convention allows a limited force of attraction under article 7(1)(c) : Business activities in the source State of the same or similar kind as those effected through the permanent establishment may also be taxed in the source State. Consequently, interest received from debt claims and royalties received from rights and property effectively connected with such business activities may also be taxed unrestrictedly in the source State (No. 20 of UN Model Convention 2011 Comm. on article 11; No. 17 of UN Model Convention 2011 Comm. on article 12). For example, the proviso applies whenever both the permanent establishment’s business activities and the head office’s business activities carried out in the permanent establishment State consist of managing or trading shares, granting loans or licensing. However, it does not apply if the head office’s or the permanent establishment’s activities consist only of disposing of capital by buying shares or depositing funds into bank accounts. Such activities are not the business activities referred to in article 7(1)(c) of the UN Model Convention.
The risk that the permanent establishment proviso may be abused through the transfer of shares, debt claims, rights or property to a permanent establishment set up solely to benefit from privileged tax regimes in the permanent establishment State may be remote (No. 32 of OECD Model Convention 2014 Comm. on article 10; No. 25 of OECD Model Convention 2014 Comm. on article 12; No. 21 of OECD Model Convention 2014 Comm. on article 12). First of all, a permanent establishment can only be identified if a business is carried on therein. Secondly, the condition that the shares, debt claims, rights or property must be effectively connected to such a location requires more than merely recording these assets in the books of the permanent establishment for accounting purposes. Next to this, the OECD believes that domestic anti-abuse rules can be an adequate weapon.
According to the OECD, shares, debt claims, rights or property form part of the assets of a permanent establishment if the ‘economic’ ownership of these is allocated to that permanent establishment (No. 32.1-32.2 of OECD Model Convention 2014 Comm. on article 10; No. 25.1-25.2 of OECD Model Convention 2014 Comm. on article 12; No. 21.1-21.2 of OECD Model Convention 2014 Comm. on article 12). ‘Economic’ ownership means the equivalent of ownership for Income-tax purposes by a separate enterprise, with the attendant benefits and burdens, such as the right to the dividends, interest or royalty attributable to the ownership of a holding, debt claim, right or property, as the case may be, and the potential exposure to gains or losses from the appreciation or depreciation of that holding, debt claim, right or property. In the opinion of this author, the term ‘economic’ ownership is not appropriate for the allocation of assets to a permanent establishment. A permanent establishment itself can never be owner of an asset because it is not a separate legal entity. As a result, it can never be the ‘economic’ owner of an asset as well. The term is therefore misleading. It also guides away attention from what is actually relevant for answering the question of what assets must be allocated to a permanent establishment : The significant people’s functions. The author believes that this is an activity test and has nothing to do with an ownership test, and therefore is of the opinion that the relevant test is, or should be, whether the shares, debt claims, rights or property, as the case may be, are managed and their exploitation is directed and controlled by people active in or from a permanent establishment. If so, the asset concerned is effectively connected with that permanent establishment and the income received from it (i.e., dividend, interest respectively royalty must be attributed to that permanent establishment (see supra m.No. 124)). Whether the economic strength of a permanent establishment is enhanced is, as such, not a relevant criterion. Assets cannot create economic activity by themselves.”

35. The separate treatment which is liable to be accorded to the functioning of a PE is an aspect which also emerges from the following observations rendered by the Supreme Court in DIT (International Taxation), Mumbai vs. Morgan Stanley & Co. Inc.9:-
“19. Under Article 7, the taxability is of MNE. What is to be taxed under Article 7 is income of MNE attributable to the PE in India. The income attributable to the said PE is the income attributable to foreign company’s operations in India, which in turn implies the income attributable to the activities carried on by MNE through its PE in India. Therefore, there is a difference between the taxability of PE in respect of its income earned by it in India which is in accordance with the Income Tax Act, 1961 and which has nothing to do with the taxability of MNE, which is also taxable in India under Article 7, in respect of the profits attributable to its PE. Under Article 7, the taxability is of MNE. What is taxable under Article 7 is profits earned by MNE. Under the said IT Act, the taxable unit is the foreign company, though the quantum of income taxable is income attributable to PE of the said foreign company in India.”

xxx xxx xxx
34. Article 7 of the UN Model Convention inter alia provides that only that portion of business profits is taxable in the source country which is attributable to PE. It specifies how such business profits should be ascertained. Under the said article, a PE is treated as if it is an independent enterprise (profit centre) dehors the head office and which deals with the head office at arm’s length. Therefore, its profits are determined on the basis as if it is an independent enterprise. The profits of the PE are determined on the basis of what an independent enterprise under similar circumstances might be expected to derive on its own. Article 7(2) of the UN Model Convention advocates the arm’s length approach for attribution of profits to a PE.”
36. Klaus Vogel on Double Taxation Conventions10 succinctly explains the origins of the concept of a PE in the following words11:-
“A. General Issues

I. Overview and Main Features

Article 5 OECD and UN MC is the last but most elaborate of the articles which contain general definition of terms relevant throughout many different treaty articles (infra m.no. 4 et seq.). The article determines the threshold that functions as the essential demarcation line between short-term or ephemeral activities in the source State and ‘permanent establishments’ (PEs) (i.e., solidified sources of income which serve as a (primary or secondary) basis for the taxpayer in a State other than his or her State of residence). To a large extent, a PE does not only resemble the concept of residence in appearance but may also trigger similar, though not identical legal consequences.
Since the early 1920s, the PE threshold has been commonly used in DTCs to determine whether a particular kind of income shall or shall not be taxed in the country from which it originates Wherever distributive rules use the PE concept (infra m.no. 4 et seq.). they reconcile requirements of international justice (prerogative of source-based taxation) and practical prudence (prerogative of residence-based taxation). In connection with those rules, Article 5 OECD and UN MC serves to simplify and facilitate taxation of cross-border activities. At the same time, it is in line with trends to encourage liberalization of international trade. Thus, the PE principle was adopted to accomplish three main objectives:
– assigning tax revenue to the source State
– maintaining practicability by establishing a minimum threshold (i.e., by preventing pure and unconditional source-based taxation where the contact of the taxpayer to the source State is only occasional or peripheral (ef. no. 132 et seq. OECD MC Comm. on Article 5)); and
– placing the PE on equal footing with a local (i.e., resident) entrepreneur for the purposes of various articles, thus providing neutrality between the different forms of a secondary establishment available to foreign investors.”

37. The working of an enterprise in a Contracting State through the agency of a PE, the “functional integration” between the two and the import of the word “through” as it appears in Article 5 was lucidly explained in Vogel as under12:-
“7. ‘Through’: Functional Integration

134 Article 5(1) OECD MC (since 1977; see supra m. no. 45) requires that the business of an enterprise (for these terms, see supra m. no.27 et seq.) is carried on through the fixed POB. The preposition ‘through’ specifies the functional relation between the POB and the activities of the taxpayer. This relation can be described best by the notion of a functional integration of the POB in