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DOCTRINE OF TERRITORIAL
NEXUS WHETHER CONFINEDTO TAXING STATUTES?
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ABSTRACT
Jurisdiction is a sine-qua-non of sovereignty. Its an
expression of power which the sovereign expresses over its
subjects. While this principle is unambiguous, the power of a
sovereign to legislate matters beyond its jurisdiction is a debatable
one. There is no express prohibition with regard to the same in
international law. But However states have to adhere to the doctrine
of territorial nexus in order to rule out the probability of arbitrariness.
The enforcement of taxing statutes beyond its territorial limits also
functions on same principle. In Indian context, in recent times this
issue has resurfaced especially with regards to Income Tax Act,
1961. There is no express provision at disposal which lays down
that the Act shall have extra-territorial operation or application.
However, parliament has been granted power under Article 245 of
Constitution of India and it can be also inferred that an Act having
extra-territorial operation cannot be declared to be illegal. Therefore
it can be purported that if an Act operates extra-territorially if and
only if some nexus can be established between the subject matter
and the object to be achieved thereupon. This article seeks to
explore this proposition with valid arguments, authorities and logicaldeductions.
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INTRODUCTION
It would be a wrong assumption that the doctrine of territorial
nexus came into existence after the International bodies preached
about the same but this principle traces its origin since the time
when colonies and provinces under the British were empowered to
make laws coupled with strict restrictions. In order to keep the
clonies under the authority of the Crown, it was the law that non-
sovereign legislatures such as Canadian Provinces, Australian
States and British colonies could only legislate with regard to their
own territory and were debarred from legislating with extra-territorial
effect1.
Hence the principle originally stemmed from the need to
keep the colonys powers to legislature under check2. However, as
the time took its leap and as the colonial rule collapsed the
principle proliferated into the jurisprudence of other nations, and
found its way into the Constitutions of various nations of the world;
with some modifications and rationale behind it has been altered
too; for instance Article 245 of Constitution of India. Lord Halsbury
gave a reasonable justification for its employment by stating, Themore reasonable theory is that the language was used, subject to
the well known and well considered limitation that they were only
legislating for those who were actually within their jurisdiction and
within the limits of the colony3
In this paper, I seek to analyse the applicability of this
doctrine in todays world. In this regard, I have relied on various
commentaries, articles, legal opinions of lawyers and most
importantly recent trend in the way judicial pronouncements have
been delivered by courts in India and UK. The reasons of itsadoption in present scenario under the Constituion of India from
1Mr. Avtar Singh,Introduction to Interpretation of Statutes, (2001) at p. 156.
2Maxwell on Interpretation of Statutesat p. 173.
3Macleodv. Attorney General of New South Wales, (1891) AC 455 (PC).
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former colonial rule. To analyse this, I have attached core attention
to taxing statutes that deal with the situation of the property and
the nexus to be established with respect to legislation pertaining to
foreigners. This would clear the clouds as to how much nexus
needs to be actually established for a statute to e upheld as valid.
Whether the court should look into the extent of liability, when
nexus has been established has also been considered. A brief
overview of this principle with regards to criminal legislation has
also been dealt with. Though the primary aim of this paper is to
holistically understand the Doctrine of Territorial Nexus in toto and
its applicability in Indian taxing statutes.
CONSTITUTION OF INDIA VIS-A-VISDOCTRINE OF TERRITORIAL NEXUS
Priorto the Constitution of Indias existence , Section 99 (1)4
of the Government of India Act, 1935 codified this principle, while
Section 99 (2) enumerated certain matters for which federal alws
can be made, even with extra-territorial operation. Apart from the
matters so enumerated, both the Federal and Provincial legislatures
had o abide by the principle of territorial nexus5. The principle also
enumerates that a law made by a legislature must bear a real
territorial connection with the subject-matter with which it is
dealing. An important case where the direct application of this
principle is evident is the recent Enrica Lexiecase where in the
Indian Penal laws were applied to Italian navy personnel
4Subject to the provisions of this Act, the Federal Legislature may make laws for
the whole or any part of British India and a Provincial Legislature may make lawsfor the Province or for any partthereof5
S.D. Sharma, Applicability of the Doctrine of Extra-territoriality to Legislation bythe Indian Legislature, 28 (3/4), Journal of Comparative Legislation andInternational Law, 3
rdSeries, Vol. 28, No. (1946), pp. 91-95.
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deployed on a foreign ship having killed Indian fishermen
assuming them mistakenly as Pirates, as the test of universality6
comes into play which enumerates on universal crimes against
humanity or universal offences against which a State can enforce
jurisdiction outside its territories as well. The same principle had
been applied long back to Canadian Case ofCroftv. Dumphy.7 In
this case, the Canadian Customs Act, 1927 that authorised seizure
of vessels and cargo hovering within twelve miles from the coast
was challenged as ultra vires, as the Parliament was operating
beyond its territories. However, the Privy Council held that, despite
the general principle that States can operate only within their own
territory, the Act was held not to be ultra vires. The reasoningbehind this can be derived from Lord Uthwhatts judgement in a
leading case8 wherein he stated No doubt the enabling statute to
be read against a background that only a defined territory has been
committed to the charge of the legislature. Concern by subordinate
legislature with affairs or person outside its own territories may,
therefore, suggest a query whether the legislature is in truth
minding its own business. It does not compel the conclusion that it
does not
This brings us to a inference though not a prerequisite but asto there must be some extent of nexus between the statute and the
territory to which it seeks to apply and compels us to ponder upon
the question as to what is the extent and importance of this
principle, and how far this nexus must be established for the statute
to be upheld.
However, Section 6 of the Independence Act, 1947 the
principle was modified to a considerable extent and confined in very
different light. It stated that the Legislature of the Dominion of India
was concerned with full power to make laws for that Dominion
including laws having extra-territorial effect. The reason for the
6Section 404 of Restatement (Third) Foreign Relations Law, (1987).
7AIR 1933 PC 16
8Wallace Bros v. CIT, Bombay , AIR 1948 PC 118
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change in the language that codified this principle was that the
British realised that they no longer have control over India, and that
it was no longer a colony. Taking greater cognizance of the fact that
India was soon going to be a sovereign the legislation sought to
remove the generally accepted limitation of colonial legislative
jurisdiction, a limitation that only the Courts of a colony are bound to
recognise. After such a dramatic change in the political structure,
resulting in practically a reversal in the law, it is interesting to
analyse how the courts have evolved the principle.
Article 245 (2): No law made by Parliament shall be deemed
to be invalid on the ground that it would have extra-territorial
operation. Thus, it is clear that the Parliament may make laws with
extra-territorial operation. However, the Courts are under certain
restrictions as to when they can exercise such jurisdiction. Some of
these restrictions were laid down in Vishwanathan v. Abdul Wajid.
Looking at the nature of these restrictions, one can see that they
are merely situations that are outside the Courts power to enforce.
However, the privilege of making laws with extra-territorial
operation is not given to the State Legislatures. The most evident
illustrations on this point are the cases that deal with situation ofthe property A State can effectively legislate only with regard to
those properties which are clearly situated within the boundaries of
that State. This applies even to trusts which administer such
properties. However, if a nexus can be established as regards the
income generated from the property, or though persons connected
with the functioning of the property, or through persons connected
with the functioning of the property, the statutes governing such
properties may be upheld.
This was made clear in the case of State of Bihar v.Charusiladasi. In this case, the Bihar Hindu Religious Trusts Act,
195, which applied to all trusts in Bihar, so long as they have some
and not necessarily all property in the State, was challenged on the
ground that it lacks territorial nexus. The Supreme Court rejected
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this argument stating that when the endowments themselves are
situated in Bihar, and the trustees who run the trust are also
situated in Bihar, there is sufficient nexus established between the
religious trusts and the property. The real nature of this nexus led
the Court to uphold the statute, even though the properties
themselves might be situated outside the State. Now to undertake
an analysis of what are the requirements for a sufficient nexus, and
what amounts to a real one?
THE TWO-PRONG TEST FOR ESTABLISHING THE EXISTENCE
OF NEXUS
In State of Bombayv. R.M.D. Chamanbaugwala9, the test
for testing the sufficiency of territorial connection was laid down.
These were:
1. The connection must be real and not illusory.
2. The liability sought to be imposed must be pertinent to the
connection.
The meaning of real and not illusory can be analysed bylooking at taxing statutes that have incorporated this principle in
their ratios.10
In the above-mentioned case, a company incorporated in the
State of Mysore, printed and published its newspaper there, but
circulated them in the State of Bombay. The State of Bombay
sought to levy tax on the money made by the citizens by winning
crossword puzzle competitions that the newspaper sponsored. It
was argued was as per Entry 62 of List II of Schedule VII of the
India Constitution. The Company argued that it was not entitledto pay this state tax as it violated the Principle of Territorial
Nexus as the company was incorporated outside the State. The
9AIR 1957 SC 699
10State of Bihar v. Charusiladasi, AIR 1959 SC 1002.
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Apex Court rejected this argument and held that as the
standing invitations, filing up of the forms and the payment of
money took place within the State of Bombay, there was
sufficient territorial nexus and that entitles the State of Bombay
to levy this tax, and the statute imposing such tax cannot be
struck down on the grounds of extra-territoriality.11
In Wallace Bro s. v. CIT, Bomb ay12, Section 4-A that added
to the Income Tax Act, 1922 by way of an amendment to the Act
in 1935, was challenged. This section made a company
incorporated and managed exclusively form oustside British
India liable to be assessed for income tax in British India on
entirety of its income, if the income of the company is accrued in
British India was greater than that it accrued from its operation
outside British India in that particular year. Relying on the
reasoning mentioned, the Privy Council upheld the impugned
amendment.
In State of Bombay v. United Motors (India) Ltd.,13 the
territorial cope of Entry 54 of List II of schedule VII on the Indian
Constitution was analysed. A. 246(3) reads, Legislature of any
state specified in Part A or Part B of the First Schedule hasexclusive power to make laws for such state or any part thereof
with respect to any of the matters enumerated in List II in the
Seventh ScheduleThe Apex Court held that for such State or
any part thereof only means that the statute must be for the
purpose of that State and further ruled that the activities within
the State concerning buying and selling of the goods were held
to be sufficient basis to tax the goods, even if the actual sale
and purchase was not14.
11State of Bombay v. R.M.D.C., AIR 1957 SC 699
12AIR 1948 PC 118
13AIR 1953 SC 252
14S.R. Bhansali, The Constitution of India, First Edition (2007) Vol. II, India
Publishing House, Jodhpur.
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RULES OF CONSTRUCTION: THE
PRESUMPTION OF TERRITORIALITY
Usually, there is a presumption that the legislation is
territorial, i.e. that the statute is not intended to apply to persons
or situations outside the territories to which the statute is
expressed to apply to.15 This is rule even when no express
limitation or restriction on the basis of territorial nexus is
imposed on the legislative competence. Thus, the usual rule of
construction is that the legislature is presumed to be within its
constitutional powers and is not expressly violating the principleof territorial nexus. This implies that when there are two possible
constructions, the one which leads to a conclusion that does not
violate this principle will be preferred.
CORRELATION BETWEEN
TERRITORIAL NEXUS AND EXTENT OF
LIABILITYAs per the Governement of India Act, 1935 so long as a
nexus was established between the provisions of a statute and
the territory where it is sought to apply, the proportionality of the
liability so imposed could bot be looked into.16 Even post-
independence, this position was reiterated in State of Bombay v.
R.M.D.Chamanbaugwala.17 Although the GOI Act, 1935 has
been repealed and the Constitution of India is silent on this
point, it is argued that the present position is that articulated in
R.M.D.Chamanbaugwala. The reasoning behind this position is
15Cross, Statutory Interpretation (3
rdEd., J. Bell and G. Engle eds., 1995), at pg.
516
A. Singh, supra note 1, at pg. 15717
AIR 1957 SC 699.
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that it is only the validity of the legislation that is being tested on
the benchmark of the Principle of Territorial Nexus, and not the
policy itself, which concerns the nature and extent of liability
imposed.18 This proposition is also supported by the UK case
law. 29 thus the current position is that when the court looks into
existence of nexus to determine whether the statute is intra vires
or not, it will not look into the extent of liability that the statute
seeks to impose which would form a different question
altogether.
THE PRESUMPTION OF
CONSTITUTIONALITY
There most of the debates that have taken place as to the
Constitutionality and applicability of the Section 9 of the Income Tax
Act, 1960. While examining the constitutionality of a statute, the first
and most basic obstacle encountered is the strong presumption in
favour of the con-stitutionality of a statute,18a presumption which
the Supreme Court itself has stated, only the clearest and
weightiest evidence can displace.19 This presump-tion is taken
even further in matters involving economic policy and exercise of
discretion in fiscal matters. The interference of the Court in such
matters must not happen unless the exercise of legislative
judgment appears to be palpably arbitrary 20 the view reflected in
the legislation is not possible to be taken at all.21
Similarly, in the matter of the constitutionality of 9 of the Act,
there is definitely a presumption in favour of the benevolent aspect
of the legislator, 22 one which must be sustained taking intoconsideration matters of common knowledge, matters of common
report, the history of the times and assuming every state of facts
which can be conceived existing at the time of legislation.23
18G.G. in Council v. Raleigh Investment Co. Ltd., AIR 1944 FC 51
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At the same time it is just as well settled that such a presump-
tion is a rebuttable one 24 and if it is in fact shown that a certain
legislation is unfair to the point of palpable arbitrariness, the Courts
may strike down such legislation as unconstitutional. It is submitted
that 9 of the Act, as it stands, is unconstitutional and rebuts the
presumption of constitutionality since firstly, it is beyond the
legislative competence of the Parliament to the extent that it seeks
to tax fees for technical services that were not rendered in India and
secondly, as it offends Art. 14 of the Constitution by treating
dissimilar entities similarly.
EXTRA TERRITORIAL OPERATION SANSTERRITORIAL NEXUS: PARLIAMENTS
COMPETENCE
Taxes are the lifeblood of the government, but it cannot be over-
emphasized that the blood is taken from the arteries of the
taxpayers and, therefore, the transfusion has to be accomplished in
accordance with the principles of justice and fair play.19
-Nani Palkhivala
CONSTITUTIONAL POSITION OF EXTRATERRITORIAL LAWS
To explore the validity of legislations having extra territorial
op-eration, due consideration of the history of Art. 245 is required.
65 of the Government of India Act, 1915, dealt with the legislative
power of the Indian legislature at that time. Clause (a) was strictly
territorial; while clauses (b) and (c) allowed the legislature to make
laws with extraterritorial effect, provided that the nexus
requirements (all subjects of His Majesty and all native Indiansubjects respectively) were satisfied. The inclusion of clauses (b)
and (c) was necessitated by a few decisions which imposed a strict
19Kanga & Palkhivala, The Law and Practice of Income Tax, IX (Dinesh Vyas Ed., 2004)
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nexus requirement.20 Thus, clauses (b) and (c) widened the
requirement of a nexus to that extent.
99(1)21 of the Government of India Act, 1935, which conferred
legislative power, modified the position of law in so far as it
permitted legislation only for the whole or any part of British India.
It, however, also provided in 99(2) for certain exceptions to this
rule.22
The Privy Council in the Wallace Brotherscase23 clarified the
position of law, clearly laying down the necessity of a definite
territorial nexus. In A.H.Wadiav. CIT,24 however, while further
impressing on the need for territorial nexus, the Bombay High Courtdeclared that there was nothing unconstitutional about an extra
territorial legislation as long as such nexus requirement is fulfilled.
More recently, 6(1) and 6(2) of the Indian Independence Act,
1947, provided that the legislature of each of the New Dominions
shall have full power to make laws for that Dominion, including laws
having extra-territorial operation.
20Blackwood v. The Queen, (1882) 8 AC 82; Provincial Treasurer of Alberta v.
Kerr, (1933) AC 710.21
99(1), Government of India Act, 1935: Subject to the provisions of this Act,the Federal Legislature may make laws for the whole or any part of British Indiaor for any Federal State and a Provincial Legislature may make laws for theProvince or for any part thereof.22
99(2), Government of India Act,1935: Without prejudice to the generality ofthe powers conferred by the preceding sub-section, no Federal law shall, on theground that it would have extra-territorial operation, be deemed to be invalidinsofar as it applies (a) to British subjects and servants of the Crown in any partof India or (b) to British subjects who are domiciled in any part of India whereverthey may be or (c) to or to persons on, ships or aircraft registered in British India
or any Federated State wherever they may be.23
Wallace Bros. & Co. Ltd. v. CIT, (1947-48) 75 IA 86. Speaking for a three judgebench, Uthwatt, J. stated that the general conception as to the scope of incometax is that given a sufficient territorial connection between the person sought tobe charged and the country seeking to tax him, income tax may properly extendto that person in respect of his foreign income.24
(1949) 17 ITR 63 (FC).
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Today, under our present constitutional scheme, the Parliament
may make laws which operate extra-territorially.25 Arts. 245 (1) and
(2)26 of the Constitution prescribe the extent of laws made by
Parliament and it is declared that no law made by Parliament shall
be invalid on the ground that it would have extra-territorial
operation.27
Therefore, the Parliament undoubtedly has power to enact law
having extra-territorial application.28 On the face of it, it would ap-
pear that the law as it stands is clear and precise in disregarding
any previous requirement of territorial nexus. This interpretation
would also seem the most logical, keeping with the principle of
sovereignty as enshrined in the Preamble, since the Government of
India Acts gave law-making power to the legislatures of British
India, while the Constitution gives such power to a sovereign and
independent India.
JUDICIAL EXPOSITION OF EXTRA-
TERRITORIAL TAXATION LAWS
The view taken by the Supreme Court in this regard, in consonance
with principles of international law and sovereignty, is that a
legislature which passes a law having extra-territorial operation may
find that what it has enacted cannot be directly enforced but the Act
is not invalid on that account, and the courts of its country must
25 Vodafone International Holdings B.V. Union of India, (2010) 7 Taxmann 13
(Bom).26 The Constitution of India, 1950, Art. 245(1): Subject to the provisions of thisConstitution, Parliament may make laws for the whole or any part of the territoryof India, and the Legislature of a State may make laws for the whole or any partof the State. (2) No law made by Parliament shall be deemed to be invalid on theground that it would have extra-territorial operation.27
Electronics Corporation of India Ltd. v. CIT, 1989 Supp (2) SCC 642: 83 ITR 43 (SC).28
Maneka Gandhi v. Union of India, (1978) 1 SCC 248: AIR 1978 SC 597.
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enforce the law with the machinery available to them.29 In other
words, while the enforcement of law cannot be contemplated in a
foreign State, it can, nonetheless, be enforced by the courts of the
enacting State to the degree that is permissible with the machinery
available.30
Therefore, the question that arises is whether a nexus with some-
thing in India is necessary to establish tax liability in such cases.
The Supreme Court has stated that unless such a nexus exists,
Parliament has no competence to make such extra-territorial law.
The provocation for an extra-territorial law must be found within
India itself and while a law may have extra-territorial operation in
order to serve a certain object, that object must be related to some-
thing in India in the first place. It is absolutely inconceivable that a
law should be made by Parliament which has no relationship with
anything in India.31 It is just as true that this connection must be a
real one and the liability sought to be imposed must be pertinent to
that connection.32
Therefore, the presence of Art. 245(2) notwithstanding, there must
be a territorial nexus between the transaction sought to be taxed
and India, for a tax liability to be placed on such a transactionhappening outside India. The question of the validity of 9 had
arisen previously, in Electronics Corporation of India Ltd. v. CIT,33
and the Supreme Court had referred the question of
constitutionality to a Constitution Bench. The case, however, was
withdrawn on settlement and never came up for hearing. While
discussing the challenge on the constitutional validity of 9, the
Court stressed on the necessity of a territorial nexus, but also went
29 British Columbia Electric Railway Company Limited v. The King, (1946) AC
527, approved in Electronics Corporation of India Ltd. v. CIT, 1989 Supp (2) SCC642: (1990) 183 ITR 4330
G.V.K. Industries Ltd. v. ITO, 228 ITR 56431
Electronics Corporation of India Ltd. v. CIT, 1989 Supp (2) SCC 642.32
The State of Bombay v. R. M. D. Chamarbaugwala, 1989 Supp (2) SCC 642:AIR 1957 SC 699.33
1989 Supp (2) SCC 642: (1990) 183 ITR 43 (SC).
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on to state that if, due to such extra territorial application, un-
enforceability arises as a consequence, this in itself cannot be
found as sufficient basis to challenge the validity of the statute.
INTERNATIONAL PERSPECTIVE ON REQUIREMENT OF
NATIONALITY
The argument of the authors that the words any person must be
read to mean any residents is also supported by many countries
and their statutes. The authors would first give examples of a few
countries with similar provisions and then deal extensively with U.K.decisions which provide effective guidelines in the Indian situations.
WITHHOLDING TAX PROVISIONS IN STATUTES OF VARIOUS
COUNTRIES
In various countries, withholding tax in case of non-residents
applies only when payments are made by residents to non-
residents. According to the Japanese Income Tax Act and its
withholding provisions, withholding tax applies only if they are paid
in Japan or if they are paid abroad and the payer also has an office,residence within Japan.34
As per the French Tax Code, only that interest paid by a French
debtor to a non-French tax resident is subject to French withholding
tax.35 A similar provision exists in the Russian and Singaporean
system as well.36
34Japan, Income Tax Act, Act No. 33 of March 31, 1965, Chapter V: Withholding at
Source of Income of Nonresidents or Corporation, Art. 212. See also Japan External
Trade Organization, available at http://www.jetro.go.jp/en/invest/setting_up/laws/section3/page4.html (Last visited on September 2, 2011).35
See Tax Directorate, The French Tax System, available at http://www.impots.gouv.fr/
portal/ deploiement/p1/fichedescriptive_1006/fichedescriptive_1006.pdf (Last visited
on September 2, 2011.36
Withholding Tax on Interest on CorporateDebt, available at http://us.practicallaw.com/7-385-8420 (Last visited on October 2, 2010)
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Thus, these examples from a few other countries suggest that it is
generally followed that withholding tax is applicable only when
payments of whatever nature are made from a resident, either a
person or a corporation to a non-resident. Although the authors
agree that this would vary from statute to statute, examples of these
countries should serve as effective guidelines to the Indian
legislature and judiciary in resolving certain confusions regarding
application of 195.
U.K. CASE LAWS ON TEST OF NATIONALITY
In a decision of the House of Lords in Clark v. Oceanic
Contractors,37 followed in Andre Agassi v. Robinson38 their
Lordships had to directly consider the question of whether
chargeability is ipso facto sufficient nexus to attract TDS provisions.
A TDS provision for payments made outside England, was not
given extraterritorial application, based on principles of statutory
interpretation.
In these English cases, the provisions in question were 18 and
555 of their taxing Act called Corporation Taxes Act, 1988. 18read as clearly as to say that it applies to any person, whether a
Commonwealth citizen or not, although not resident in the United
Kingdom from any trade profession or vocation exercised within
the United Kingdom. Further, even 555 was apparent enough to
state that where a payment is made (to whatever person) and it
has a connection of a prescribed kind with the relevant activity , the
person by whom it is made shall on making it deduct out of it a sum
representing income tax and shall account to the Board for the
sum.
37Clark v. Oceanic Contractors, [1983] 2 WLR 94
38Andre Agassi v. Robinson, (2006) 1 W.L.R. 1380.
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Even in light of these clearly worded provisions which indicate the
scope of the provisions, the Court in the Agassi case applied the
principles mentioned above to hold it inapplicable outside the
territorial boundary. They held this on the basis of the fact that
transaction was entered into between non-resident companies; the
provisions could not be attracted.43 555 (2) is a TDS provision
and this was held inapplicable extraterritorially. If this case is to be
followed, clearly, the High Court should have excluded the
applicability of 195 as well in the Vodafone case.
In the above cases, the famous ruling in Ex parte Blain39 was
quoted to say that [i]f a foreigner remains abroad, if he has never
come into this country at all, it seems impossible to imagine that the
English legislature could ever have intended to make such a man
subject to particular English legislation.
It lay down, categorically that the dilemma of extraterritoriality of a
provision is a series of questions, of statutory construction.
These principles are that: The meaning adopted should be that
which advances the overall purpose of the legislation. This is to say
that the words of an Act are to be read in their entire context and in
harmoniously with the scheme of the Act, the object of the Act, and
the intention of Parliament. Further, results that would lead to
absurdity or to frustration of the objective of the legislation should
be avoided. If the words are ambiguous and open to two
interpretations, the benefit of interpretation is given to the subject.
Nothing must be implied in a taxing statute.
TERRITORIALITY OF 195 IN LIGHT OF THE PENALTIES
UNDER THE INCOME TAX ACT
39Ex Parte Blain, 12 Ch. D. 522. (C. A. I879)
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It is a widely accepted principle that unlike remedial provisions
which can be dealt with a little leniently, penal provisions, including
civil and criminal tax penalties, are to be strictly construed. This
means that if it is not clear whether the language of a penal
provision applies to the tax-payer s conduct, then the statute will
be interpreted narrowly in favour of the tax-payer.40
This was quoted with approval by Lord Esher MR in Tuck v.
Priester41 where he said that If there is a reasonable interpretation
which will avoid the penalty in any particular case we must adopt
that construction. If there are two reasonable constructions we must
give the more lenient one. That is the settled rule for penal
sections.The reason is that imposing penalties interferes with the
liberty of the subject by taking the subjects money or property by
fines or forfeitures. The penal terms must be sufficiently explicit to
inform those who are subject to it what conduct on their part will
render them liable to its. The citizen cannot be held to answer
charges based upon penal statutes whose mandates are so
uncertain that they will reasonably admit of different constructions.
This is the reason why if the statutory words are ambiguous or
obscure, a construction should be placed on them that is least
restrictive of the individuals rights.42
40See Saurabh Soparkar, Interpretation of Penal Provisions under Direct Taxes,
available at http://www.itatonline.org/interpretation/interpretation14.php (Lastvisited on September 12, 2011). See also, State of West Bengal vs. KesoramIndustries Ltd., (2004) (266 ITR 721); Cape Brandy Syndicate vs. IRC; 1921 (1)KD 64, 71. See also Somendra Chandra Bose, Interpretation of RevenueStatutes , available at http://www.itatonline.org/interpretation/interpretation6.php,(Last visited on September 12, 2010)41 Tuck v. Priester, (1887) 19 QBD 63842
SeeJohn L. Freeze, Extraterritorial Enforcement of Revenue Laws, 23 WASH.U. L. Q. 321 (1937-1938); Lawrence Robertson, Extraterritorial Enforcement ofTax Obligations, 7 ARIZ. L. REV. 219 (1965-1966); Robert A. Leflar, ExtrastateEnforcement of Penal and
Governmental Claims, 46 HARV. L. REV.193-225 (1932); B.J. George, Extraterritorial
Application of Penal legislation, 64 MICH. L. REV609-638 (1966)
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Under the Act, there are certain penalties enumerated for failure to
deduct tax at source under Chapter XVIIB. One of the most
significant penalties imposed is that the assessee is treated as an
assessee-in-default under 201 in case he defaults on TDS
payments. Further, 271C stipulates a penalty of the amount of tax
which has not been deducted. V arious other sections also impose
penalties which are in the nature of civil fines.43 276B in particular
is extremely stringent as it enforces a penalty of rigorous
imprisonment for a term which shall not be less than 3 months but
which may extend to 7 years and with fine. This is enforced when
there is failure to pay the tax deducted at source under Chapter
XVII-B to the credit of Central Government. Thus, failure to deducttax at source under 195 can lead to such a harsh penalty as well.
Furthermore, another roadblock in this respect is that of
enforcement. Enforcing such penal provisions against non-
residents can prove to be an area of difficulty for the income tax
department as well as the other authorities in question. Thus, it is
observed that in light of these penal provisions, which are both civil
and criminal in nature, it would be quite unfair to tax payments
made outside India by non-residents to other non-residents. It
would attract international denigration and can prove to be harmfulto Indias growth in the global corporate market.
9 OF THE INCOME TAX ACT, 1961 VIS-A-VIS DOCTRINES
ENCOMPASSING ITS EXTRA-TERRITORIAL OPERATION
if Nazi Germany had not invaded other countries but had
simply sou ght to el iminate the ent ire Jewish p opulat ion w ith in
its own terr i tor ial borders, th is would n ot have const i tuted aviolat ion of internat ional law, as incredib le as this now
seems. Mark Gibney in his book International Human Rights
Law: Returning to Universal Principles
43The Income Tax Act, 1961, 221 read with 201; 272A(2)(c); 272A(2)(g); 272A(2)(i).
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The territorial nature of law is an argument not only about law but
also about sovereignty.Andnot only sovereignty of a state in its
own territory but also the sovereignty practised by a state above its
citizens; wherever they may roam.
What follows below is a brief look at the extra-territorial applicability
and doctrines surrounding the oft debated Section 9 of the Indian
Income Tax Act, 1961.
International taxation is based on political, residential or economic
allegiance between the taxpayer and the taxing state44.The general
principle, flowing from the sovereignty of States45, is that laws made
by one State can have no operation in another State46 unless givena sufficient territorial connection or nexus between the person
sought to be charged and the country seeking to tax him. Thus,
even under the Indian Income Tax Act, 1961 such a distinction
exists vide Section 4, section 5 and Section 9.
Section 4 and 5 of the Income Tax Act impose a general charge,
which is given a particular application in respect of non-residents by
Section 9 which enlarges the ambit of taxation by deeming income
to arise in India in certain circumstances.47 Thus, Indian income-tax
may extends to a foreign citizen or to income earned abroad only in
respect of certain cases where a connection between the income
sought to be taxed and the India can be established. Once, this
connection is established and the case of the assessee falls within
the ambit of Section 9, only then can the income earned abroad be
taxed48
44Schanz, Zur Frage Der Steuerpflicht, 9 Finanz-Archiv 365, 372 (1892)
45British Columbia Electric Railway Co.Ltd. Vs. King, (1946) AC 527 (PC) p. 53346
Electronics Corporation of India Limitedv. Commissioner of Income Tax andAnr. , AIR 1989 SC 1707, Para. 847
CIT, New Delhiv. M/s. Eli Lilly and Company (India) Pvt. Ltd, (Appeal No. 5114of 2007), decided on: 25/3/2007, 2948
Sheraton International Inc. v. Deputy Director Of Income Tax, [2007] 293 ITR68 (Delhi), 40
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This connection too should be based on (1) the residence of the
person; or (2) business connection49 within the territory of India.
This connection involves a consideration of two basic elements
viz.:
(a) the connection must be real and not illusory;50 and
(b) the liability sought to be imposed must be pertinent51 to that
territorial connection.52
There, however, exist various theories with regards to the taxing
power of states in cases of International Taxation all of which
pertain to different aspects of the underlying territorial nature of
taxation laws. A few of the main theories are described below:
1. Principle of Source Jurisdiction:
As per Finance Act, 1976, through insertion of clauses
(v), (vi) and (vii) in s.9 (1) for income by way of interest,
royalty or fees for technical services respectively, a source
rule was inserted. It means that the situs of rendering of
services is not relevant but the situs of the payer and
utilization of services to determine taxability of such services
in India.[10] Thus, Income having its source in India may betaxed regardless of the residence of the tax payer.53It is a
multi-faceted concept54 where utilization of services serves
as a concept of taxation under this principle. But non-
resident companies may only be taxed on those profits which
arise from a source within the taxing countrys
49Shyamal Mukherjee ,Attribution of Profits To Permanent establishments: A
Developing Countrys Perspective, 10 Geo. Mason L. Rev. 78550
Tata Iron & Steel Co. Ltd. v. State of Bihar, AIR 1958 SC 452, 4051International Tourist Corporation and Ors. v. State of Haryana and Ors, AIR1981 SC 77452
The State of Bombayv. R.M.D. Chamarbaugwala, AIR 1957 SC 699, 2753
Julie Rogers-Glabush (ed.), IBFD International Tax Glossary, 6th edn, p. 294,394.54
K. Vogel, Worldwide vs. Source Taxation Income A Review And Re-Evaluation Of Arguments,(Part I, Intertax 1988). pp. 216, 223.
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jurisdiction.55However, some countries may consider the
source country where the services are utilized and others
might treat the country where services originate as the
source. In India vide the Finance Act, 2010 and the
Explanationinserted in Section 9 (1) (vii), only the
rendering of services in India is pre-requisite to tax under this
rule.
2. Theory of Equivalence:
Also known as the exchange theory56, this is followed in
many countries, such as the United States of America. It is a
four-pronged approach to determine taxability. A states taxpasses57 if it (1) is assessed against a taxpayer with whom
the state has substantial nexus,58(2) is fairly apportioned,
(3) is non-discriminatory, and (4) is fairly related to the
services provided by the State. The elements of this test
were articulated in Complete Auto Transit,Inc. v. Brady59.
3. Effects Doctrine:
Any state may impose liabilities, even upon persons not
within its allegiance, for conduct outside its borders that hasconsequences within its borders which the state
represents.60 For example, a simple perusal of section
5(2) denotes that the words all income from whatever
source derived, have a very wide connotation to include any
55Adrian Ogley, The Principles Of International Tax-A Multinational
Perspective, Interfisc Publishing. (London, 1996) p.33-35.56
League of Nations, Report On Double Taxation,by Bruins, Einaudi, Seligman
and Sir Josiah Stamp 18 (1923)
57John A. Swain, State Income Tax Jurisdiction: A Jurisprudential And Policy
Perspective, 45 Wm. & Mary L. Rev. 31958
Quill Corp. v. North Dakota, 504 U.S. 298, 312-13 (1992)59
430 U.S. 274, 276-78 (1977)60
Haridas Exports v. All India Float Glass Mfrs. Association and Ors.,(2002) 6SCC 600 (para 60).
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effect of a transaction felt in India.61 Like the extra-territorial
application of the MRTP Act, 1969, if the service is utilized in
India, there shall be enough effect felt in India for the
authorities to levy tax.[20] International law accepts that a
state may levy tax so long as there is some kind of real and
not illusory link between the state and the proposed taxpayer
based on nationality or domicile. Non-resident corporations
and individuals are subject to income tax on any income
effectively connected with their domestic business62 subject
to a simple three-fold test for determining sufficient territorial
nexus: the business must be of a (1) regular nature, (2) it
must be continuous, and (3) it should be of a substantialnature.63
4. Taxing E-commerce:
Electronic commerce is defined as the ability to perform
transactions involving the exchange of goods or services
between two or more parties, using electronic tools and
techniques,64 which includes physical telecommunications
networks, cable television, mobile, and cellular networks.65
Permanent establishment based on the use of an internetservice provider (ISP), software agent, server,
telecommunications device, cable, computer terminal, or
web page, are recognized as legally valid.66 The taxation of
transactions conducted entirely via electronic means is a
61Vodafone International Holdings B.V. v. UOI, WP No. 1325 of 2010, Decided
on: Sept. 8, 2010 (para 137).62
Internal Revenue Code, 871 to 877, Internal Revenue Code, 881 to 884.I.R.C.63
Spermacet Whaling & Shipping Co. v. Commissioner, 30 T.C. 618, 634 (1958).64U.S. DEPT OF TREASURY, Selected Tax Policy Implications of GlobalElectronic Commerce< http:www.ustreas.gov/treasury/internet.html> last visited15
thAugust 2012 (para 3.2.1).
65Howard E. Abrams & Richard L. Doernberg, How Electronic Commerce Works,
15 TAX NOTES INTL 1573 (1997), p. 1574.66
James D. Cigleret al., Cyberspace: The Final Frontier for International TaxConcepts?, 7 J. INTL TAXN 340, 346 (1996) p. 347.
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recent trend in International Taxation and thus has many
theories with regards to who has the power to tax a certain
transaction. However, the OECD supports the principle of
value creation- only activities, which create value, are
relevant in determining a states right to impose an income
tax. The mere fact that an enterprise is able to sell into a
jurisdictions marketplace does not indicate that the foreign
enterprise is creating value in the state.67Accessibility to a
market does not necessarily entail an enterprises
participation in the economic life of a country, but simply
reflects the enterprises participationwith the economic life of
a country. It remains appropriate therefore to limit the right ofincome taxation to those jurisdictions that serve as the origin
of that income by virtue of providing the economic life that
made possible the yield or the acquisition of the wealth68
Thus, these are the main jurisprudential theories with regards to
taxation and its territorial nature. As can be seen not all these
theories rigidly adhere to the principle of territorial nexus for the
purposes of taxation, however, most of them intend to levy tax
based on some form of territorial connection or other.
CRIMINAL LEGISLATION AND THE PRINCIPLE OF
TERRITORIALITY
67The Technical Advisory Group on Treaty Characterization of Electronic
Commerce Payments, Tax Treaty Characterization Issues Arising From E-Commerce-Report To Working Party No. 1 Of The OECD Committee On FiscalAffairs, 2001, 3568
See, e.g., Professors Bruins, Einaudi, Seligman and Sir Joshia Stamp, Reporton Double Taxation at 23, submitted to the Financial Committee of the League ofNations, April 5th 1923 (Doc. E.F.S.73.F.19) (the 1923 Report). See alsoReport of Technical Experts, Double Taxation and Tax Evasion, Report andResolutions, submitted to Financial Committee of the League of Nations,February 7th 1925 (the 1925 Report).
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The general principle is that a State has the jurisdiction to
punish criminal acts done within its territory by citizens and
foreigners alike. It may also punish the acts of its citizens,
irrespective of where the acts were committed.69 This also
supported by S. 2 and S. 4 of the Indian Penal Code, 1860.70 In this
regard, there is a presumption that a statute creating a criminal
offence doe not, in the absence of clear and specific words to the
contrary, make an Act done by a foreigner outside the territorial
jurisdiction of the State an offence triable in the criminal court of the
State.71
An interesting aspect of the law here is that of Universal
Jurisdiction with respect to certain crimes. For instance, certain
offences such as genocide and piracy are those that can be tried by
any State, irrespective of where such a crime has been
committed.72
CONCLUSION
69Sessex Peerage Case, (1844) 11 CI & Fin 85.
70Indian Penal Code, 1860, Section 2: Every person shall be liable to
punishment under this Code and not otherwise for every act or omission contraryto the provisions thereof, of which he shall be guilty within India.Section 4: The provisions of this Code apply also to any offence committed by:(1) any citizen of India in any place without and beyond India;(2) any person on any ship or aircraft registered in India wherever it may be.71
Air India v. Wiggins, (1980) 2 All ER 593 (HL).72
Universal Jurisdiction, Amnesty International, available at,http://www.amnestyusa.org/international_justce/pdf/UniversalJurisdiction.pdf.Last accessed on 17th August, 2012.
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In India, the principle of territorial nexus has gone through a
variety of changes. Starting with the British restriction on extra-
territorial legislation, it has evolved into one where the Parliament
has a free hand to do so. However, this free reign is also subject to
certain limitations; and States annot undertake extra-territorial
legislation at all, as per the Indian Constitution.
This principle has particular application in raltion to taxing
and property related statutes, where there needs to be a direct
territorial nexus between the property/activity so taxed and the
statute that taxes it. The principle is essentially one that tests the
competence of the legislature to enact a particular statute, and
RMD Chamanbaugwala is the leading case that laid down the real
and direc requirement of this principle.
As regards whether the courts, while testing a statute on the
grounds of nexus, may also look into the proportionality of the
liability so imposed, the conclusion is a resounding no, as the
principle only seeks to test the competence of a legislation and not
its merits. This is also supported by the position in the UK.
The general presumption is that a statute will have nexus
and that the legislature did not intend to violate this principle, unless
expressly provided for. Hence, when a statute is unclear or
ambiguous, effect will be given to it, such as in keeping with this
principle.
The Parliament is also competent to make laws relating to
foreigners, and relating to Indian Citizens outside the territory of
India. However, the prime restriction and general principle is that no
legislature may make laws relating to non-citizens who are not
within the territorial limits of the State. There is also a presumptionthat a statute was not drafted intending to violate principles of
international law; and while this cannot be a consideration when the
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statute is unambiguous to start with; it is certainly a consideration
when it is not.73
Also as regards criminal legislation, while in the ordinary
course of things a State has prime responsibility to punish the acts
of its citizens, there are exceptional circumstances in which other
states may also undertake investigation or prosecution. These are
situations like genocide that warrant such universal jurisdiction.
The approach of the Courts has continuously reflected the
political atmosphere at the time, the widest interpretation being
preferred, so as to uphold the questionable statute, so long as it
may be enforceable. Although the change in the law began withlegislative amendment, it is both enactment and interpretation that
have contributed to the meaning of the principle today.
Though it would seem like the courts are, in reality, trying to
find a nexus in most cases, to save the statute, determining it on a
case-specific basis, thus taking into account many factors while
reading the enactment, the final result shows much more
consistency. They have continuously upheld the broadest
interpretations of the principle, the presumption of it being satisfied
always paramount, only curbing the States power to legislate when
it is not practicable. Thus even though the enacted law has
undergone severe changes, the Courts have played a vital role in
maintaining stability in the principles application
73Salmon v. Commissioner of Customs and Excise, (1966) 3 All ER 871.
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Ask SIR as to how should you incorporate Wadia Case
GVK case and VIH case???
http://www.mehta-mehtaadvisory.com/territorial-
nexus-revisited-gvk-industries-v-union-of-india/
Territorial Nexus Revisited: GVK
Industries v. Union of IndiaPosted onMay 4, 2011byTeam - Mehta & Mehta
We have previously discussed issues surrounding the application of
the territorial nexus doctrine to income tax law in several posts (here,
here, here and here). In its recent decision in GVK Industries v. Union
of India, a Constitution Bench of the Supreme Court has confirmed
that the doctrine applies to Parliamentary laws. The precise question
of the constitutionality of Section 9(1)(vii) of the Income Tax Act, 1961
was not answered by the Constitution bench.In GVK, the following questions were referred to the Constitution
bench:
(1) Is the Parliament constitutionally restricted from enacting legislation
with respect to extra-territorial aspects or causes that do not have, nor
expected to have any, direct or indirect, tangible or intangible impact(s)
on, or effect(s) in, or consequences for: (a) the territory of India, or any
part of India; or (b) the interests of, welfare of, wellbeing of, or security
of inhabitants of India, and Indians?
(2) Does the Parliament have the powers to legislate for any territory,
other than the territory of India or any part of it?
The Court explained the constitutional scheme by holding, The grant
of the power to legislate, to the Parliament, in Clause (1) of Article 245
comes with a limitation that arises out of the very purpose for which it
http://www.mehta-mehtaadvisory.com/territorial-nexus-revisited-gvk-industries-v-union-of-india/http://www.mehta-mehtaadvisory.com/territorial-nexus-revisited-gvk-industries-v-union-of-india/http://www.mehta-mehtaadvisory.com/territorial-nexus-revisited-gvk-industries-v-union-of-india/http://www.mehta-mehtaadvisory.com/territorial-nexus-revisited-gvk-industries-v-union-of-india/http://www.mehta-mehtaadvisory.com/territorial-nexus-revisited-gvk-industries-v-union-of-india/http://www.mehta-mehtaadvisory.com/author/admin/http://www.mehta-mehtaadvisory.com/author/admin/http://www.mehta-mehtaadvisory.com/author/admin/http://www.mehta-mehtaadvisory.com/author/admin/http://www.mehta-mehtaadvisory.com/territorial-nexus-revisited-gvk-industries-v-union-of-india/http://www.mehta-mehtaadvisory.com/territorial-nexus-revisited-gvk-industries-v-union-of-india/http://www.mehta-mehtaadvisory.com/territorial-nexus-revisited-gvk-industries-v-union-of-india/7/29/2019 Consti - III Project
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has been constituted. That purpose is to continuously, and forever be
acting in the interests of the people of India. It is a primordial condition
and limitation Clause (2) of Article 245 carves out a specific
exception that a law made by Parliament, pursuant to Clause (1) of
Article 245, for the whole or any part of the territory of India may not be
invalidated on the ground that such a law may need to be operated
extraterritorially. Nothing more. It was specifically held that any laws
enacted by Parliament with respect to extra- territorial aspects or
causes which have no impact on or nexus with India would be ultra
vires Article 245 of the Constitution of India.
In a few Tribunal decisions such as Ashapura Minichem (discussedhere and here), there were remarks that the doctrine of territorial
nexus may not necessarily be relevant in tax laws (I t is thus fallacious
to proceed on the basis that territorial nexus to a tax jurisdiction being
sine qua non to taxability in a jurisdiction is a normal international
practice in all systems. This school of thought is now specifically
supported by the retrospective amendment to section 9). GVK
impliedly confirms that those observations must be read in their
context. The issue of whether in particular Section 9(1)(vii) especially
after the recent amendments satisfies the nexus requirements, is still
unanswered. As Ashapur Minichem held, the render + utilize formula
of Ishikawajima and Clifford Chance is now statutorily overridden by
the Finance Act, 2010. Perhaps, Courts may now again insist on a
factual live link to be established before the provisions of S. 9(1)(vii)
can be invoked.
BIBLIOGRAPHY
BOOKS:Avtar Singh, INTRODUCTION TO INTERPRETATION
OF STATUTES, (New Delhi:Wadhwa and Co., 2001).P. St. J.
Langan ed., MAXWELL ON THE INTERPRETATION OF
STATUTES, (London:Sweet & Maxwell, 12th edn., 1969).Cross,
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STATUTORY INTERPRETATION (J. Bell & G. Engle eds., London:
Butterworths,3rd edn., 1995),F.A.R. Bennion, STATUTORY
INTERPRETATION: A CODE, (London: Butterwoths, 3rdedn.,
1997).G.P. Singh, PRINCIPLES OF STATUTORY INTERPRETATI
ON, (New Delhi:Butterworths Wadhwa, 10th edn.,
2010).William N. Eskridge, LEGISLATION AND STATUTORY INTE
RPRETATION,(Foundation Press, 2nd edn., 2006)