Fixed Establishment: The Indirect Tax Avatar

Introduction

As an ingredient of “permanent establishment”, the concept of “fixed place of business” has been in vogue in the international tax arena for long, perhaps even for more than a century. With the sheer passage of time, its nuances have been perfected to an extent that there are minimal avenues of differences on the nuances of “fixed place”. Nonetheless it is not without a reason that tax litigation is considered evergreen. The transmigration of this concept in the indirect tax sphere, referred to as “fixed establishment”, has however, resulted into different kind of doubts over the salient features of the concept and particularly whether there are any mutative variations on account of such transmigration. In this backdrop, this article seeks to explore the VAT dimension of fixed establishment concept.

Fixed establishment in a PE context

Under the extant rules of international tax, premediated by the OECD Model Tax Convention¹ and the UN Model Tax Convention², business income of a non-resident is not taxable in the source State unless inter alia there exists a permanent establishment (PE) of the non-resident in such source State. There are various situations envisaged in these Models – enshrined in their respective Article 5 – wherein a PE comes into existence, which implies that there is a “fixed place of business through which the business” of the non-resident is carried out in the source State.

In its decision in Morgan Stanley³ the Supreme Court emphasised that “in order to decide whether a permanent establishment stood constituted one has to undertake what is called as a functional and factual analysis of each of the activities to be undertaken by an establishment”. Thus, a detailed factual inquiry was insisted upon by the Supreme Court. This aspect was re-emphasised by the Supreme Court in E-Funds⁴ wherein the existence of a PE was ruled out in the absence of any fixed place of business being identified which was at the disposal of the non-resident.

In its leading decision on the subject – Formula One⁵ – the Supreme Court explained the relevant legal tests and conceptual nuances of the emphasis on “fixed place” in the following terms:

“30.…In the first type of PE i.e. associated permanent establishments, primary requirement is that there must be a fixed place of business through which the business of an enterprise is wholly or partly carried on. It entails two requirements which need to be fulfilled: (a) there must be a business of an enterprise of a contracting State (Formula One World Championship Ltd. in the instant case); and (b) PE must be a fixed place of business i.e. a place which is at the disposal of the enterprise. It is universally accepted that for ascertaining whether there is a fixed place or not, PE must have three characteristics: stability, productivity and dependence. Further, fixed place of business connotes existence of a physical location which is at the disposal of the enterprise through which the business is carried on.

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33. The principal test, in order to ascertain as to whether an establishment has a fixed place of business or not, is that such physically located premises have to be ‘at the disposal’ of the enterprise. For this purpose, it is not necessary that the premises are owned or even rented by the enterprise. It will be sufficient if the premises are put at the disposal of the enterprise. However, merely giving access to such a place to the enterprise for the purposes of the project would not suffice. The place would be treated as ‘at the disposal’ of the enterprise when the enterprise has right to use the said place and has control thereupon.

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40. The term ‘place of business’ is explained as covering any premises, facilities or installations used for carrying on the business of the enterprise whether or not they are used exclusively for that purpose. It is clarified that a place of business may also exist where no premises are available or required for carrying on the business of the enterprise and it simply has a certain amount of space at its disposal. Further, it is immaterial whether the premises, facilities or installations are owned or rented by or are otherwise at the disposal of the enterprise. A certain amount of space at the disposal of the enterprise which is used for business activities is sufficient to constitute a place of business. No formal legal right to use that place is required. Thus, where an enterprise illegally occupies a certain location where it carries on its business, that would also constitute a PE. Some of the examples where premises are treated at the disposal of the enterprise and, therefore, constitute PE are: a place of business may thus be constituted by a pitch in a marketplace, or by a certain permanently used area in a customs depot (e.g. for the storage of dutiable goods). Again, the place of business may be situated in the business facilities of another enterprise. This may be the case for instance where the foreign enterprise has at its constant disposal certain premises or a part thereof owned by the other enterprise. At the same time, it is also clarified that the mere presence of an enterprise at a particular location does not necessarily mean that the location is at the disposal of that enterprise.”

From these decisions of the Supreme Court, which comprise the bulk of jurisprudence on the subject, it is unequivocally clear that determining whether a non-resident enterprise has a fixed place of business in the source State is a mixed question of fact and law wherein overwhelming emphasis is additionally placed upon the nature of activities carried out in the source State.

Fixed establishment: Relevance in GST law

The notion of fixed establishment is an innovation of the goods and services tax (GST) law inasmuch as there was no definition of fixed establishment in the predecessor indirect tax legislation (i.e. the Finance Act, 1994 which was the governing law for service tax in India).⁶ The concept of fixed establishment is principally relevant towards determining the “location” of the parties to the supply, as evident from a review of the relevant statutory provisions which state as under:⁷

“(14) ‘location of the recipient of services’ means,—

(a) where a supply is received at a place of business for which the registration has been obtained, the location of such place of business;

(b) where a supply is received at a place other than the place of business for which registration has been obtained (a fixed establishment elsewhere), the location of such fixed establishment;

(c) where a supply is received at more than one establishment, whether the place of business or fixed establishment, the location of the establishment most directly concerned with the receipt of the supply; and

(d) in absence of such places, the location of the usual place of residence of the recipient;

“(15) ‘location of the supplier of services’ means,—

(a) where a supply is made from a place of business for which the registration has been obtained, the location of such place of business;

(b) where a supply is made from a place other than the place of business for which registration has been obtained (a fixed establishment elsewhere), the location of such fixed establishment;

(c) where a supply is made from more than one establishment, whether the place of business or fixed establishment, the location of the establishment most directly concerned with the provision of the supply; and

(d) in absence of such places, the location of the usual place of residence of the supplier;”

These statutory provisions clearly reveal that under the GST rules ordinarily the registered place of the supplier/recipient determines their respective locations but such location would change in the event the supply is effectively connected with their fixed establishment elsewhere.⁸ Evidently therefore, the concept of fixed establishment is deployed to ascertain the location which should be considered for the purposes of the GST law, both in the context of the supplier and the recipient. Thus, effectively, the presence of a fixed establishment can only alter the place of supply, it can, even determine if the supply would be taxed at all or not depending upon the application of the extant rules governing import, export and other related facets.

Contours of fixed establishment in GST law

Having noted the relevance of the fixed establishment concept under the GST law, it is relevant to ascertain its contours. As if drawn from a summation of the judicial delineation of its PE comparable, the statutory definition of fixed establishment is sufficiently relatable, being defined in the following terms:⁹

“Section 2 (50) fixed establishment means a place (other than the registered place of business) which is characterised by a sufficient degree of permanence and suitable structure in terms of human and technical resources to supply services or to receive and use services for its own needs.”

There are many takeaways of this statutory definition, which for ease of reference can be enlisted below in distinct terms:

(a) At the outset it is relevant to note that the test of “ownership” is conspicuously missing in this definition which implies that it is not necessary that an enterprise owns a place in order for such a place to be characterised as its fixed establishment.

(b) Another notable aspect is the exclusion of a “registered place of business” from the scope of fixed establishment. In other words, only an unregistered place of business can be considered as constituting a fixed establishment and a registered business place is specifically outside the confines of a fixed establishment.¹⁰

(c) The definition also reveals that the inbuilt test i.e. “which is characterised by a sufficient degree of” tilts the determination heavily in favour of a factual inquiry, which as the Supreme Court in Morgan Stanley¹¹ had characterised as the test of “functional and factual analysis of each of the activities to be undertaken by an establishment”.¹² Unsurprisingly therefore, here too, the inquiry translates into a mixed question of fact and law.

(d) However, the “disposal” test stressed upon by the Supreme Court in PE context does not appear to find place in this statutory definition. In other words, it does not appear necessary that a place should be exclusively at the disposal of the enterprise in order to translate it into its fixed establishment. In fact, the expression “sufficient degree” may be argued as repelling the “exclusivity”. One wonders if this construction of the definition may lead to a situation wherein a single place is considered to constitute fixed establishment of multiple enterprises in the event other tests stand satisfied.

(e) Nonetheless, the “stability, productivity and dependence” test laboured upon by the Supreme Court in Formula One¹³ appears to have been statutory adopted, albeit in a qualified sense as is relevant in a VAT set-up. The test of “sufficient degree of permanence and suitable structure” is clearly relatable to its PE version even though it is qualified by the ability of such a structure “to supply services or to receive and use services for its own needs”. In other terms, fixed establishment appears to mirror the PE equivalent with the underlying emphasis being on the fact that the business of the enterprise can be carried out from such an establishment.

(f) Nonetheless, there does exists a qualified incorporation of the PE’s variant in the VAT paradigm. Fixed establishment in the GST context is limited to permanence and structure qua human and technological resources whereas the stability, productivity and dependence test vis-à-vis fixed place PE is unqualified with respect to the nature of resources. Thus, arguably, the scope of fixed place PE is wider that than fixed establishment under the GST law.

(g) Another aspect which arises from the definition, insofar as it insists upon “sufficient degree of permanence and suitable structure in terms of human and technical resources …” is that it gives legislative validation to the generic understanding of the concept which is that such establishments are virtual extensions of business. This ties in with the premise underlying notions of PE as well.

(h) There appears to be, at least from a bare reading of it, some ambiguity on whether the “physical location” is mandatory for a place to qualify as a fixed establishment. The Supreme Court in Formula One¹⁴ culled out the prevailing legal position to categorically state that “fixed place of business connotes existence of a physical location which is at the disposal of the enterprise through which the business is carried on”. However, there appears to be no guidance in the GST definition of fixed establishment whether such a physical location is necessary. In other words, given the technologically advanced age that we live in, questions may soon arise, for example, whether a satellite, computer server, etc. constitute a fixed establishment.

(i) There is another aspect which requires consideration in the context of the GST law. While it gainfully employs the test of fixed establishment, as discussed above, there is reference is another class of establishment in the GST law. For illustration, the GST law carries a deeming fiction to the effect whereby “a person carrying on a business through a branch or an agency or a representational office in any territory shall be treated as having an establishment in that territory”.¹⁵ It is noteworthy that this provision does not refer to a fixed establishment and instead the standalone reference is to establishment. Applying the rule of statutory interpretation that different expressions imply that the legislature intended to convey a different meaning,¹⁶ arguably the position which emerges is that reference to “establishment” should not be conflated with “fixed establishment”.

Reflections from ECJ

Given the lack of an authoritative judicial pronouncement in India, it is expedient to trace the exposition of the concept of fixed establishment in other jurisdictions. To this end, our quest ends in rich findings insofar as the European Union Value Added Tax (EU VAT) regime has similar canonical dimensions of fixed establishment including its abundant categorical delineation through the observations of the European Court of Justice (ECJ). The EU VAT law¹⁷ similarly deploys the concept of “fixed establishment”.¹⁸ The “Implementing Regulations”¹⁹ define²⁰ fixed establishment to mean “any establishment, other than the place of establishment of a business … characterised by a sufficient degree of permanence and a suitable structure in terms of human and technical resources to enable it to receive and use the services supplied to it for its own needs”. A comparison of the definitions between EU VAT regime and the GST laws reveals that the latter can certainly be considered to be inspired by the former. Thus, the relevance of ECJ decisions on the subject cannot be overemphasised.

An appraisal of the key ECJ decisions reveals the following delineation of the legal position on the subject:

(a) Fixed establishment is a secondary reference point and not the default rule to determine the location. In multiple decisions, such as in TGE Gas Engg.²¹ and Berlin Chemie²², the ECJ has emphasised that it is actually the place where a person has established its business which is the primary reference point for determining the location. This is because such place has an objective criterion that is simple and practical, and it offers great legal certainty. In contrast, reference to fixed establishment is an exception to the general rule which has to be referred to if the stipulated conditions are satisfied and thus the fixed establishment offers at best a secondary point of reference to determine the location of the person. This aspect has recently been amplified by the ECJ in Cabot Plastics²³ wherein it has been declared that the principal place of business can be disregarded and reference to fixed establishment can arise “only if that place of business does not lead to a rational result or creates a conflict … [because of] the presumption that the services are provided at the place where the taxable person receiving them has established its business” and, furthermore, because such presumption saves both the tax authorities and the taxpayers from “having to undertake complex investigations in order to determine the point of reference for tax purposes”.²⁴

(b) Fixed establishment does not cover an occasion place of supply. The ECJ has concluded that the existence of fixed establishment is not to be easily presumed. According to it, “there cannot be a fixed establishment, first, without a discernible structure, which is evidenced by the existence of human or technical resources. Second, that structure cannot exist only occasionally”.²⁵ Instead, the “economic and commercial realities form a fundamental criterion” which requires that the substantive conditions set out in the definition of fixed establishment must be satisfied i.e. the location is “characterised by a sufficient degree of permanence and a suitable structure …”.²⁶

(c) The legal relationship between a person and the alleged fixed establishment is irrelevant. It is now conclusively ruled by ECJ that, (i) a company cannot be presumed to have a fixed establishment in another location only because it has a subsidiary company in such other location; and (ii) there is no obligation upon the counterparty to examine the contractual relationships between the person and the alleged fixed establishment in order to determine whether a fixed establishment indeed exists.²⁷ In other words, determining whether a fixed establishment exists does not warrant the legal review of the contractual relationship and instead is a factual question which be examined from the perspective of the degree of permanence and suitability of the structure in question.

(d) Furthermore, exclusivity is also not a test to determine existence of a fixed establishment. The ECJ has repeatedly made it clear that even where there is only one customer to which a location serves does not imply that it such location would ipso facto constitute of a fixed establishment of such person.²⁸ In other words, the examination of the key question of suitable structure with a sufficient degree of permanence cannot be dispensed with while ascertaining the existence of fixed establishment even where the location is exclusively for the benefit, either contractually or otherwise, for the benefit of a person.

The aforesaid aspects were recently revisited by the ECJ in its decision in Cabot Plastics²⁹ in the wake of certain glaring facts, which merit a deeper examination in order to appreciate the position under EU VAT that even overwhelming accentuating circumstances cannot form the reason for dispensing with the inquiry into the definitional constituents of fixed establishment. In Cabot Plastics³⁰ the ECJ was dealing with a fact pattern which involved two distinct legal entities; first being Cabot Switzerland, which had its place of business in Switzerland but was also carrying out sales activity in Belgium; and Cabot Plastics, which was a Belgium entity, both entities being owned by an ultimate parent entity in the Cabot group. The two entities executed a “tolling agreement” in terms of which:

“(a) Cabot Plastics uses exclusively its own equipment to process, for the benefit and under the direction of Cabot Switzerland, raw materials into products used in the manufacture of plastics.

(b) Cabot Plastics stores on its premises the raw materials purchased by Cabot Switzerland, and then processes them into products used in the manufacture of plastics. It then stores those products before they are sold by Cabot Switzerland from Belgium to various customers on the Belgian market, on the European market or for export. The collection and transportation of the goods from Cabot Plastics’ facilities are carried out either by those customers, or by external hauliers used by Cabot Switzerland.

(c) Cabot Plastics also provides a series of additional services to Cabot Switzerland, in particular, storage of products, including managing products stored in third-party warehouses, making recommendations aimed at optimising the manufacturing process, carrying out internal and external technical checks and assessments, reporting the results to Cabot Switzerland and making deliveries or providing services needed by other production units. In that respect, Cabot Plastics provides comments regarding the operational requirements of its factories, facilitates customs formalities, complies with Cabot Switzerland’s quality control and quality assurance standards and procedures, provides Cabot Switzerland with support for improving the manufacturing processes and the planning of its business, provides it with administrative support in relation to customs and excise duties, acts as official importer on behalf of and at the request of that company and manages packaging equipment. Cabot Plastics carries out those additional activities in accordance with the conditions set out in the agreement.”

It is also critical to highlight that as an outcome of the aforesaid arrangement, the “services provided by Cabot Plastics to Cabot Switzerland constitute almost all of its turnover”. In other words, the facilities and business of Cabot Plastics are used exclusively to service the business needs of Cabot Switzerland. It was in this background that the ECJ was called upon to determine whether Cabot Plastics could be considered to be the Belgium fixed establishment of Cabot Switzerland, which was the position taken by the Belgium VAT authorities. On the aforesaid fact pattern, the following were the key argument of these authorities:³¹

“(a) The technical resources constituting that fixed establishment are the production plants, the distribution centre and the storage areas which belong to Cabot Plastics, but which must be regarded as being made available to Cabot Switzerland under the agreement of 14-2-2012, since that agreement provides that Cabot Plastics’ equipment is to be used exclusively for the benefit and under the direction of Cabot Switzerland, so that Cabot Switzerland has free use of that equipment.

(b) Secondly, as regards the human resources of that fixed establishment, the Belgian State submits that they are made up of the operational staff of Cabot Plastics made available to Cabot Switzerland, which makes it possible for Cabot Switzerland to make sales, in particular, in Belgium. It also notes that such staff provides, in addition to tolling services, additional services that are essential for Cabot Switzerland, such as receiving raw materials, monitoring quality, preparing orders, packaging finished products and taking inventories.

(c) Thirdly, as regards the possibility of receiving and using the services provided for the needs of that establishment specific to Cabot Switzerland, the Belgian State submits that the structure made available to Cabot Switzerland by Cabot Plastics enables it to receive and use the products resulting from the tolling, in order to carry out its own supply of goods in Belgium, from its fixed establishment.

(d) Fourthly, according to the Belgian State, that establishment has a sufficient degree of permanence, by reason of the very fact that the agreement of 14-2-2012 was concluded.”

Drilling down the issue into a set of logical questions, the ECJ reformulated the inquiry to highlight that essentially there were three overwhelming considerations sought to be projected by the authorities: (a) the recipient and the provider are legally independent entities but form part of the same group of companies; (b) the human and technical resources concerned belong to the service provider; and (c) the latter undertakes contractually to use its equipment and its staff exclusively for the provision of services and provides a series of ancillary or additional services (such as logistical assistance, contributing to the business of the recipient, etc.), which should be considered sufficient to give rise to a fixed establishment.

Notwithstanding these variables, the ECJ was not impressed and instead concluded that the facts did not give rise to a fixed establishment. The key reasons assigned by the ECJ can be summarised as under:

(a) When the definition of fixed establishment makes a reference to a “suitable structure”, while it is true that there is no reference in the definition to ownership of such a structure, nonetheless, it is “necessary for that taxable person to have the right to dispose of those human and technical resources in the same way as if they were its own, on the basis, for example, of employment and leasing contracts which make those resources available to it and cannot be terminated at short notice”. In other words, the person must either own or control the human and technical resources associated with a structure before such structure can be considered to be a fixed establishment of such a person.³²

(b) Legal relationship between two entities is irrelevant as the question of whether there exists a fixed establishment “must be assessed in the light of the economic and commercial reality, cannot depend solely on the legal status of the entity concerned, and the fact that a company has a subsidiary … does not, in itself, mean that it also has its fixed establishment”.³³

(c) Even if a person “undertakes contractually to use its equipment and its staff exclusively to provide the services” i.e. “even if it has only one customer, [it is still] assumed to use the technical and human resources at its disposal for its own needs”. It needs to be established by the tax authorities that “by reason of the applicable contractual provisions, a company receiving services had the resources of its service provider at its disposal as if they were its own”, when alone such person “could be regarded as having a suitable structure with a sufficient degree of permanence, in terms of human and technical resources”.³⁴ In other words, a structure devoted to exclusively serving one customer by itself is not sufficient to constitute a fixed establishment in the absence of evidence that the structure was not used by such customer “as if they were its own”. Put differently, a fixed establishment in such circumstance is constituted only if a person has “has immediate and permanent access to those resources as if they were its own resources”.³⁵

Upon a holistic appraisal of the circumstances, the ECJ concluded that Cabot Plastics was not a fixed establishment of Cabot Switzerland and the circumstances at hand at best were to the effect that “the tolling services at issue in the main proceedings are received and used by Cabot Switzerland, for its business of selling the goods resulting from those services, in Switzerland, since that company does not have a suitable structure for that purpose in Belgium”.

Conclusion

Technological advancements and changing business dynamics propel new ways of doing business, which renders taxation laws in a constant state of innovation and evolution. The adoption of fixed establishment concept in the GST laws is one such advancement in the Indian indirect tax system, which, however, awaits fructification from a judicial elocution perspective. On such account, the paper makes an attempt to pre-empt the judicial exercise which would delineate its contours by drawing inspiration from its deconstruction in other comparable realms.

At a larger level, this paper also makes a case for comparative tax analysis, which has its own merits. Whether it be between different species of tax laws (such as international tax and GST in this case) or across jurisdictions (such as between EU and India in this case), manifold learnings are available to the judicial systems from such comparison. The cross-dimensional analysis of fixed establishment undertaken in this paper manifests such learnings which are useful to ascertain and institute its contours, meaningful lessons being available under the other dimensions.