Mar 28, 2024

“Man in the Middle”: SC Settles Issue of TDS on Mobile SIM Cards Distributors, Distinguishes ‘Singapore Airlines’

The Hon’ble Supreme Court of India (‘SC’), recently[1] settled the issue as to whether discount offered to distributors on SIM cards by telecom service providers or telecom operators partakes the character of ‘Commission’ and whether tax is required to be deducted at source under Section 194H of the Income-tax Act, 1961 (‘IT Act’).

The entire controversy, in the present case, revolved around telecom operators who entered into “Franchise / Distributor Agreements” (‘Agreement’) with independent parties (‘franchisees’) to distribute prepaid start-up packs (including SIM Cards) to retailers across the country. The start-up packs are offered to franchisees at a discounted rate which are further sold  to retailers appointed by them at sale price or any other price after retaining a margin for themselves. The revenue in this arrangement alleged that the relation between the telecom service provider and the distributor or franchisees is that of ‘principal to agent’ and income earned by the latter should be classified as “commission”, subject to deduction of tax at source (‘TDS’) under Section 194H of the IT Act. The revenue, thus, held that the difference between the discount price and sale price amounted to income earned by franchisees. By rejecting the contentions of the revenue, the SC has put an end to the divergent views on this issue, espoused earlier by various High Courts of the country.

In terms of the interpretation drawn by the SC, Section 194H of the IT Act creates an obligation upon a person “responsible for paying” to a resident, any income by way of “commission” or “brokerage”, to deduct tax at source at 5%. The term(s) commission or brokerage is further defined[2] in an inclusive manner[3]to include “any direct or indirect payment for services rendered on behalf of another person”. In other words, it envisages a contract of agency.[4] Terming agency as a triangular relationship between a principal, agent and the third party, the SC devised a litmus test to determine a relationship of agency. It opined that agency is characterised by: (a) legal power with the agent to alter the principal’s relationship; (b) degree of control by the principal over conduct of agent; (c) existence of a fiduciary relationship,; and (d) liability of an agent to render accounts to the principal. Determination of agency is, hence, a matter of investigation of the factual position between the parties.[5]

Thus, by applying this test to the facts of the case, the SC decided in favour of the telecom operators. Relying upon the terms of the agreement, it opined that since as per the agreement, the franchisees were free to determine the sale price offered to retailers, the income ultimately realised by them was on account of the transaction between the franchisee and the retailer. This meant that the telecom operator was not privy to the commercial arrangement. Thus, it would be impossible for the telecom operators to deduct tax at source on the income earned by franchisees. Furthermore, the income earned by the franchisees is a result of their personal efforts and thus, cannot be characterised as a remuneration paid by the telecom operator.

The SC also observed that the telecom operators and franchisees are bound by a franchise agreement, which basis its sui generis nature bestows upon the franchisees, the character of independent contractors or ‘middlemen’. Since the middlemen are bound by the terms of the contract, they are not subject to interference by the other party, which is often the case in an agency relationship.

Whilst deciding the issue in favour of the telecom service providers, the SC distinguished the present case from its earlier decision on Section 194H in the case of Singapore Airlines[6] (please refer to our December, 2022 edition of What’s Up in Tax[7]). Since, in Singapore Airlines, the dispute was regarding deduction of TDS on additional commission paid to travel agents by airlines, the SC concluded it was not applicable to the present case, where the dispute pertains instead to characterisation of the relationship of parties as that of a principal and agent. The SC, basis a factual interpretation, observed that in Singapore Airlines, the additional commission was determined by the airlines basis the data pertaining to the number of tickets sold as per the billing and settlement plan. It was, as per this data, that airlines were required to pay the commission to the travel agents, whereas in the present case, there was no payment made by the telecom operators in the first place.

Thus, the SC concluded that the scope of Section 194H of the IT Act, cannot be expanded to cover genuine business transactions, where an assessee is not even responsible for paying or crediting income.

[1] Bharti Cellular Limited v. Assistant Commissioner of Income Tax, (2024) INSC 148 (SC).

[2] Explanation 1 to Section 194H of the IT Act.

[3] Director, Prasar Bharati v. Commissioner of Income Tax, (2018) 7 SCC 800 (SC).

[4] Singapore Airlines Ltd. v. Commissioner of Income Tax, (2023) 1 SCC 497 (SC).

[5] Labreche v. Harasymiw, (1992) 89 DLR (4th) 95 (Foreign Court).





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