Understanding Royalty, FTS & Reimbursements under DTAA – A Practical Case Study

Case Study Overview

This case study describes how the payments made by an Indian company to its foreign group company were taxed on the basis of international taxation rules. The issue largely was about whether a particular payment was to be considered as royalty, technical services fees, or mere reimbursement, and how the India Netherlands DTAA is to be applied in such cases.

This decision is significant in understanding the treatment of foreign companies in India, particularly in cases involving cross-border services, technology, and reimbursement. The decision also gives clarity on how Section 9(1)(vi) Income Tax Act is interpreted in treaty situations.

This case was decided by the Delhi Bench of the Income Tax Appellate Tribunal in Nunhems Netherlands B.V. vs ACIT (AY 2021-22).

Facts of the Case

Nunhems Netherlands B.V. was the taxpayer in the appeal case. This business was based in the Netherlands and was incorporated there. The taxpayer was engaged in agricultural research and development, particularly in the application of cutting-edge scientific techniques to improve plant varieties and vegetable seeds. Nunhems India Private Limited was an Indian subsidiary of the multinational corporation Nunhems Netherlands B.V.

This company was involved in the development and sale of vegetable seeds in India. However, the Indian company did not have the advanced scientific facilities and technology necessary for some of the specialized research work.

Testing and Research Arrangement

Under a long-standing service agreement, the Indian company used to send:

• Seed samples
• Dried plant leaves

to the Netherlands company for scientific testing and analysis. These samples were physically couriered from India to the Netherlands.

The Netherlands company carried out the following activities:

• Marker analysis testing of seeds and leaves

• Scientific examination using advanced chemicals and laboratory equipment

The entire testing and research work was performed outside India, at the research and development facilities of the Netherlands company. The Indian company did not participate in the testing process and did not have access to the underlying scientific methods or laboratory processes.

After completing the testing, the Netherlands company shared:

• Detailed test reports
• Scientific results and findings
• In the case of DH services, newly developed seeds

 with the Indian company. These results were uploaded through an internal group software platform used only for communication and coordination.

For these activities, the Netherlands company received a consideration of approximately ₹3.58 crore from its Indian subsidiary.

IT Support and Cost Reimbursement Arrangement

Apart from testing services, the Netherlands company also acted as a central cost coordinator for IT support services for group companies worldwide, including India.

The IT services were not provided directly by the Netherlands company. Instead:

• A third-party service provider was engaged for IT infrastructure and support
• Services included system maintenance, user access support, cybersecurity, data centre services, and application support
• Whenever the Indian company faced an IT issue, it raised a service ticket
• The third-party vendor resolved the issue.

The third-party vendor raised invoices on the Netherlands company, and the exact cost attributable to the Indian company was recovered without any markup. The Netherlands company did not earn any profit from these IT recoveries.

For the relevant year, the Netherlands company recovered approximately ₹10.66 crore from the Indian company towards IT support costs.

Return of Income and Assessment

• Testing service income was business income and not taxable in India
• IT support recoveries were pure reimbursements and not income
• No permanent establishment existed in India

The case was selected for scrutiny. During assessment, the tax authorities took a different view and held that:

• Testing services involved sharing of scientific experience
• Such payments were taxable as royalty under Section 9(1)(vi) Income Tax Act read with the India Netherlands DTAA
• IT support charges were technical in nature and taxable as Fees for Technical Services (FTS)

Accordingly, the Assessing Officer assessed the entire receipts as taxable income in India and raised a tax demand against the foreign company.

The matter travelled to the Dispute Resolution Panel and thereafter to the Income Tax Appellate Tribunal, leading to the present ruling

Issues Before the Tribunal

The Tribunal examined three key questions:

1. Whether testing and R&D services amounted to royalty under the India Netherlands DTAA
2. Whether IT support charges were FTS or mere reimbursement
3. Whether treaty provisions override domestic law under Taxability of foreign companies in India

Tribunal’s Decision

Testing Services – Treated as Royalty

The Tribunal held that:

• The foreign company was not merely performing routine tests
• It used advanced scientific knowledge and technology
• The test reports and developed seeds carried embedded scientific experience
• This information directly helped the Indian company in commercial seed production

• Article 12 of the India Netherlands DTAA
• Read with Section 9(1)(vi) Income Tax Act

The Tribunal clarified that:

• For royalty, the “make available” condition is not required
• Sharing of scientific experience itself is sufficient

IT Support Charges – Not Taxable

On IT support reimbursements, the Tribunal ruled that:

• Services were provided by a third-party vendor
• The Netherlands company only recovered actual costs
• No technology, skill, or system was transferred to the Indian entity
• The Indian company could not independently use the technology later

Therefore:

• The payments were pure reimbursements
• They did not qualify as FTS
• No tax was payable in India on these reimbursements

Key Legal Principles Explained Simply

• Royalty applies when scientific or technical experience is shared for commercial use
• FTS requires that technical knowledge is “made available”
• Reimbursements without profit are generally not taxable
• DTAA provisions override domestic law if they are more beneficial

Conclusion

The Tribunal clearly distinguished between:

• Royalty-type payments, which are taxable in India, and