Telecom Entities Have No Obligation To Withhold Tax

• Published date: 05 April 2024
• Subject Matter: Litigation, Mediation & Arbitration, Media, Telecoms, IT, Entertainment, Tax, Mobile & Cable Communications, Trials & Appeals & Compensation, Income Tax, Tax Authorities, Withholding Tax
• Law Firm: Majmudar & Partners
• Author: Ravi S. Raghavan

Overview

In a recent ruling in the Bharti Cellular Limited case (the "Taxpayer"), India's Supreme Court has held that because a "principal-agent" relationship does not exist between the Taxpayer and the distributor, the discounts offered by the Taxpayer on SIM cards and recharge coupons to distributors in a prepaid connection business model are not in the nature of commission payments and, therefore, do not attract the withholding tax provisions under Indian tax law.

Background

The Taxpayer offered both, prepaid and postpaid connections to the end user. The ruling concerns the "prepaid connection business model" wherein an end user pays for the services in advance by purchasing a prepaid product from a distributor. The way it typically works is that the Taxpayer enters into a franchise agreement with the distributor and sells the prepaid products at a discount over the printed price. The distributor then sells the prepaid products to end users at any price but not exceeding the printed price. The Indian tax authorities viewed the income (i.e., the difference between the discounted price paid to the Taxpayer and the final sale consideration received from end user) of the distributor as "commission/brokerage" paid by the Taxpayer to the distributor in the capacity of an agent. As a result, it was alleged that the Taxpayer failed to deduct tax on such commission payments under section 194H of the Income-tax Act, 1961 (the "IT Act").

Section 194H of the IT Act casts an obligation on a payer to withhold tax at source at the rate of 5% on payment or credit of an income by way of commission or brokerage to a resident. The term "commission or brokerage" is defined to include payments received or receivable, directly or indirectly, by persons acting on behalf of another person and rendering services in the course of buying or selling any asset (excluding securities).

Given the divergent views expressed by High Courts, various petitions were filed before the Supreme Court.

Supreme Court's ruling

On the basis of the provisions contained in Section 182 of the Indian Contract Act, 1872, the Supreme Court explained that an agent transacts in goods on behalf of the principal, whereas an independent contractor sells goods as his own. In an agency relationship, the transferee will be a debtor to the principal and not the agent. The sale proceeds received by an independent distributor belong to him exclusively. Further, as an independent distributor sells goods on his own...