No Sec. 194H TDS on Income of Franchisee/Distributor from Sale of Prepaid Coupons/Starter-kits | SC

Case Details: Bharti Cellular Ltd. vs. Assistant Commissioner of Income-tax - [2024] 160 taxmann.com 12 (SC)

Judiciary and Counsel Details

• • Sanjiv Khanna and S.V.N. Bhatti, JJ.

Facts of the Case

The assessee is a cellular mobile telephone service provider. The assessee provides starter kits (SIM Cards) and prepaid coupons of a specified value at discounted prices to its distributors. Further, such SIM cards are sold by distributors to end users. The Assessing Officer (AO) considered that the difference between the discounted price and the actual sale value is commission or brokerage. Accordingly, the AO contended that the assessee failed to comply with the provisions of tax deduction under section 194H.

The High Courts of Delhi and Calcutta have held that the assessee was liable to deduct tax at source under Section 194H. In contrast, the High Courts of Rajasthan, Karnataka and Bombay have held that Section 194H is not attracted.

The matter reached before the Supreme Court.

Supreme Court Held

The Supreme Court held that Explanation (i) to Section 194H defines that “commission or brokerage” includes any payment received or receivable, directly or indirectly, by a person acting on behalf of another person for services rendered (not being professional services) or for any services in the course of buying or selling of goods or in relation to any transaction relating to any asset, valuable article or thing, not being securities.

The expression “direct or indirect” used in Explanation (i) to Section 194H is no doubt meant to ensure that “the person responsible for paying” does not dodge the obligation to deduct tax at source, even when the payment is indirectly made by the principal-payer to the agent payee. However, tax deduction at source in terms of Section 194H is not to be extended and widened in the ambit to apply to true or genuine business transactions, where the assessee is not responsible for paying or crediting income.

In the present case, the assessee neither pays nor credit any income to the person with whom it has contracted. The word “indirectly” does not regulate or curtail how the assessee can conduct business and enter into commercial relationships. Neither does the word “indirectly” create an obligation where the main provision does not apply.

The legal position of a distributor is generally regarded as different form that of an agent. The distributor buys goods on his account and sells them in his territory. The profit made is the margin of difference between the purchase price and the sale price. The reason is that the distributor is an independent contractor in such cases. Unlike an agent, he does not act as a communicator or creator of a relationship between the principal and a third party. The distributor has rights of distribution and is akin to a franchisee.

Further franchise agreements provide a mechanism whereby goods and services may be distributed. In franchise agreements, the supplier or the manufacturer, i.e. a franchisor, appoints an independent enterprise as a franchisee through whom the franchisor supplies certain goods or services. There is a close relationship between a franchisor and a franchisee because a franchisee’s operations are closely regulated, and this possibly is a distinction between a franchise agreement and a distributorship agreement.

Franchise agreements are extremely detailed and complex. They may relate to distribution franchises, service franchises and production franchises. Notwithstanding the strict restrictions placed on the franchisees – which may require the franchisee to sell only the franchised goods, operate in a specific location, maintain premises which are required to comply with certain requirements, and even sell according to specified prices – the relationship may in a given case be that of an independent contractor.

An independent contractor is free from control on the part of his employer and is only subject to the terms of his contract. However, an agent is not entirely free from control, and the relationship to the extent of tasks entrusted by the principal to the agent is fiduciary. The distinction is that independent contractors work for themselves, even when they are employed to create contractual relations with third persons. An independent contractor is not required to render accounts of the business, as it belongs to him and not his employer.

Thus, the term ‘agent’ denotes a relationship that is very different from that existing between a master and his servant, or between a principal and principal, or between an employer and his independent contractor. However, servants and independent contractors are parties to relationships in which one person acts for another and thereby possesses the capacity to be involved in liability. Yet, the nature of the relationship and the kind of acts in question are sufficiently different to justify the exclusion of servants and independent contractors from the law relating to agency.

In other words, the term ‘agent’ should be restricted to one who has the power of affecting the legal position of his principal by the making of contracts or the disposition of the principal’s property, viz., an independent contractor who may, incidentally, also affect the legal position of his principal in other ways.

Accordingly, it was held that the assessee would not be under a legal obligation to deduct tax at source on the income or profit component in the payments received by the distributors or franchisees from the third parties or customers or while selling or transferring the prepaid coupons or starter-kits to the distributors.