Facts of the Case

The petitioner, Ernst and Young LLP, filed a writ petition challenging the certificate and order dated 17.09.2025 passed under Section 195 of the Income-tax Act, whereby the Assessing Officer directed withholding of tax at 5.25% on payments proposed to be made to Ernst & Young (EMEIA) Services Limited, a UK-based entity, treating the same as business income taxable in India. The petitioner had sought a nil withholding certificate contending that the payments did not constitute fees for technical services under Article 13 of the India-UK DTAA and that the UK entity did not have a permanent establishment in India. The Assessing Officer rejected the application primarily on the ground that the UK entity had a “virtual service permanent establishment” in India under Article 5(2)(k) of the DTAA.

Issues Involved

Whether the concept of a virtual service permanent establishment is recognised under Article 5(2)(k) of the India-UK DTAA, whether the rejection of the nil withholding certificate under Section 195 was legally sustainable, and whether the matter required remand for fresh adjudication in light of binding judicial precedent.

Petitioner’s Arguments

The petitioner argued that the sole basis for rejection of the nil withholding certificate was the alleged existence of a virtual service PE, which is not contemplated under the India-UK DTAA. Reliance was placed on the decision of the Delhi ITAT in Clifford Chance Pte. Ltd. v. ACIT, and the subsequent dismissal of the Revenue’s appeal by the Delhi High Court, wherein it was held that service PE provisions require physical presence of employees in India and do not recognise any concept of virtual PE. It was contended that Article 5(2)(k) of the India-UK DTAA is pari materia with Article 5(6) of the India-Singapore DTAA interpreted in Clifford Chance. The petitioner therefore prayed for issuance of a nil withholding certificate.

Respondent’s Arguments

The Revenue contended that proceedings under Section 195(2) are protective and prima facie in nature and that the impugned order was a reasoned order warranting no interference. It was argued that the services were rendered “within India” through employees or other personnel, and that physical presence was not a mandatory requirement under Article 5(2)(k). Alternatively, it was submitted that if the Court were to disagree with the Revenue’s stand, the matter should be remanded to the Assessing Officer for fresh consideration.

Court Order / Findings

The Delhi High Court held that the provisions of Article 5(2)(k) of the India-UK DTAA are pari materia with the service PE provisions of the India-Singapore DTAA interpreted in Clifford Chance. Relying extensively on its earlier judgment in Clifford Chance, the Court held that the words “within a Contracting State through employees or other personnel” have a clear territorial connotation and require physical presence of personnel in India. In the absence of such physical presence, no service PE can be said to exist. The Court categorically rejected the concept of a “virtual service permanent establishment” as being alien to the DTAA and the Income-tax Act. Consequently, the sole ground relied upon by the Assessing Officer to reject the nil withholding certificate was held to be untenable.

However, instead of issuing a writ directing grant of a nil withholding certificate, the Court deemed it appropriate to set aside the impugned certificate and order dated 17.09.2025 and remand the matter to the Assessing Officer for fresh consideration in light of the legal position settled by the Court.

Important Clarification

The High Court clarified that service permanent establishment provisions under tax treaties must be interpreted strictly. Concepts not expressly provided in the DTAA, such as a virtual service PE, cannot be read into the treaty by administrative interpretation. Physical presence of employees in India is a sine qua non for constitution of a service PE under Article 5(2)(k) of the India-UK DTAA.

Final Outcome

The writ petition was allowed. The impugned certificate and order dated 17.09.2025 issued under Section 195 were set aside, and the matter was remanded to the Assessing Officer to pass a fresh order on the petitioner’s application for a nil withholding certificate within two weeks, in accordance with law and the principles laid down in Clifford Chance.

 

Link to download order https://www.mytaxexpert.co.in/uploads/1769503893_ERNSTANDYOUNGLLPVsASSISTANTCOMMISSIONEROFINCOMETAXINTERNATIONALCIRCLE122NEWDELHI.pdf

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