International Tax Issues in Entertainment Industry Including Film Production

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International Tax Issues in

Entertainment Industry

including Film production

Romesh S A Sankhe

September 12, 2012

Seminar on ‘Emerging sectors’

Direct Taxes Regional Training

Institute, Mumbai

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Contents

Sector Outlook

International Tax Issues

Direct Taxes Code

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Sector Outlook

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Largest film producing market in the world with over 1,000 films released every year

and more than 3 billion tickets sold annually

The number of TV channels grown from 5 (1991) to 550 plus (2011), more than 50%

were added in the last five years

With successful hosting of ICC Cricket World Cup and annual Indian Premier

League (IPL) along with recent Formula One Grand Pix (F1 Race) the sports

entertainment industry in India is on rise

Sector Outlook | Industry Growth

0

500

1000

1500

2009 2010 2011 2012 2013 2014 2015

587 652 738 834 957

1104 1275

Media & Entertainment Industry in India

Size (in INR Billions)

Projected CAGR

growth of 14%

Source: FICCI-KPMG report on Entertainment 2011

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India’s association with overseas entertainment industry is growing over the years

“Slumdog Millionaire” the film based in India and shot in India won eight

academy awards (Oscar) including best film

Awards for best original score, best song, best lyrics and best sound mixing

went to Indian artists

“Robot (Endhiran)” the highest grosser Indian film collected over INR 375

crores, in which costumes, special effects, stunts, animations were executed by

foreign professionals

Over 65 overseas players participates in a mega event of IPL which is held for

two months every year

International sensations such as Akon, Bryan Adams, Lady Gaga, Shakira all

had their concerts in various cities of India and more such artists will be visiting

India in coming months

All are targeting the 700 million plus Indian population below 30

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Sector Outlook | Global Association

With second largest population in the world and growing per capita

income levels, India has become one of the top target market for global

entertainment industry

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International Tax Issues

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International Film Co-production

Benefits of international film co-production are as under:

the ability to pool financial resources

access to the partner government's incentives and subsidies available under film

co-production treaty

India has a film co-production treaty with Brazil, France, Germany, Italy,

Switzeland, United Kingdom, etc.

access to the partner's market, or to a third market

access to a particular project initiated by the partner

cultural benefits

the opportunity to learn from the partner

Possible tax implications in India on the co-production agreement

Exposure to constitution of ‘Association of Persons (AOP)’

If not deemed as AOP, then the foreign resident is exposed to constitution of

Permanent Establishment (PE) such as Fixed base PE, Service PE, etc.

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Association of Persons (AOP)

Based on tax provisions and various judicial precedents till date, the essential

ingredients of AOP are as under;

Two or more persons,

Voluntary contributions,

A common purpose or common action,

Combination of joint enterprises,

Some kind of scheme for common arrangement

Some notable judicial precedents:

Geoconsult ZT Gmbh (AAR) [2008] - The common management and common

design held to be against the tax payer

Hyosung Corporation (AAR) [2009] - Separate contracts, independent work

execution and back to back guarantee proved to be in favor of the tax payer

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Taxation of AOP 1/2

Key tax implications are explained hereunder in brief:

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Consortium

• Not treated as ‘separate entity’

and hence profits & gains are

taxable in the hands of each

member separately

• Losses, if any, will be eligible for

set off in the hands of each

member against the gains from

its other business income,

• Deduction of common business

expenses possible

AOP

• Treated as a separate taxable

entity and hence entire profits of

the project is taxable at

maximum rate of 30.90%/

32.45%/42.02%

• Losses, if any, will not be

eligible for set off in the hands

of members, due to separate

entity treatment

• Deduction of common business

expenses difficult

Status &

taxation

Treatment of

Losses

Head office

expenses

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Taxation of AOP 2/2

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Consortium

• Each member can avail their

treaty benefits as per its

eligibility

• Members are eligible for tax

credit in their home country

• Cross charges may be

deductible

• Not possible for non-residents

AOP

• Treated as a separate taxable

entity, hence each member is

not eligible for treaty benefits

• May not be eligible for the

foreign tax credit in their home

country

• Remuneration to members is

not allowed

• Treated as resident, hence

possible

Applicability

of tax treaty

Treatment of

foreign tax

credit

Remuneration

cross charges

Taxability of

global income

If co-production contracts are indivisible contracts then it may result in

significant tax inefficiencies

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AOP | Key Differentiators

Partnering

Well defined scope, rights and obligations of Consortium partners

Pre-work arrangement

Separate contracts by each parties with the Contractors with clearly identified and

divisible scope and obligations are preferable,

If Contractor insist for a single agreement then one agreement can be executed

containing separately identifiable and divisible scope, rights and obligations of

each party,

Contract execution

Raising of separate invoices and receiving separate payments from Contractor

Actual implementation and conduct of parties is vital, otherwise

arrangement could be held as sham and disregarded

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Shooting of Films in India

Section 9(d) - No income deemed to accrue or arise on shooting of films in India, if

The producer is

An Individual who is neither resident nor a Citizen of India, or

A firm or company not having any partner/shareholder who are citizen or resident of India

Producer’s operations are confined only to ‘shooting of films’ in India

Examples: Mission Impossible 4, Singularity, Eat Pray love, Slumdog Millionaire,

The Mighty Heart, etc.

Section 9(1)(vi) - Explanation 2 specifically excludes consideration received towards sale,

distribution or exhibition of cinematographic films from the ambit of royalty

Whether the same be taxable under 9(1)(i) due to ‘business connection’?

Whether the consideration towards Video rights, broadcasting rights, DTH rights or

music rights may still be taxable as ‘royalty’?

Exhibition of Films in India

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Production of Films | Indian branch 1/3

At the initial stages of Indian business, the production of movies may be undertaken by

the foreign companies through its Indian branch

Branch constitutes fixed base PE in India and hence the foreign company will be

liable to tax both under the Act as well as tax treaty

Therefore, foreign producers of the Indian films will be governed by the provisions

of the income tax Act

Section 285B - Submission of statement by producers of films

Statement in form 52A to assessing officer per film per year, within 30 days from

end of the financial year or completion of the film, whichever is earlier

Stating the details of persons to whom the aggregate annual payments exceeds

INR 50,000

Failure to comply may attract penalty of INR 100 per day under 272A

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Rule 9A - Deduction of ‘Cost of Production’ for film producer

Outcome of exercise of power given to CBDT u/s 295 (1)

Recognizes the special characteristics of the production expenses which may

spread over a period beyond a year

Deduction Criteria

Censor

Board Certification

Exhibition/ Sale of rights

Release 90 days

before end of the financial year

Deduction of ‘Cost of production’

Full Deduction

Extent of amount realized

No Deduction

‘Cost of Production’ includes all expenditure incurred on production of the film, except

Expenditure incurred on preparation of positive films

Expenditure incurred on advertisement of the film after Censor certificate

Subsidy received from the government will be reduced from the cost

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Exhibition on a commercial basis’ - Whether it includes paid preview, direct online

release, direct exhibition on Television, etc.

Yes, as per Vishesh Films Pvt. Ltd vs. Dy. CIT (Mumbai ITAT) ITA No 5569 &

5570/Mum/2004 dated August 27, 2008

The requirement of Rule 9A is exhibition of film and the mode has not been prescribed

Hence exhibition film on Television on commercial basis clearly falls within the ambit of

Rule 9A

‘Remuneration to actors, artists, etc. paid in Kind’ - Whether liable to TDS/withholding

tax?

Yes, as per Kanchganga Seas Foods Ltd. v. CIT (SC) [2010-TII-03-SC-INTL] and

Mr. Amitabh Bachhan Vs DCIT (Mumbai Tribunal) ITA No 1584 & 2509 /Mum/2006

dated November 29, 2006

Remuneration in kind should be properly accounted at its fair market value

It should be added to the Cost of production and the TDS needs to be deducted

Precaution while computing cost of production - Rule 9A may not override other

provisions of Act, hence the deduction may be subject to other conditions such as

compliance of section 40(a)(ia), 40A, 43B, etc.

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Film Artist and Other Professionals | Non-residents

Income tax Act - Section 115BBA

Entertainers - Person, who is neither Citizen nor resident of India, may liable to tax

on gross basis @20.60% earned from performance in India

Withholding of tax on above income covered under section 194E

No income tax return needs to be filed by such entertainer, if Indian income is

restricted to above mentioned sources

Others

Under ‘fees for technical services’ / ‘royalty’ and taxable at @10.30% ,or

in all the other cases, taxable on net income @30.90%, also needs to file return and

comply with other norms such as tax audit, etc.

Tax treaty

Entertainers - Article dealing with “Artists and athletes” generally bestows the right

of taxation to the source state i.e. Indian income tax Act

Others - Those not covered under the term “Artist” may get covered under article

dealing with “Independent personal services” and generally may not be taxable in

India in the absence of their fixed base and number of days of stay below the

prescribed limit generally 180 days

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Sportsperson, sports Association | Non-residents 1/2

Income tax Act - Section 115BBA and CBDT circular No. 787 dated February 10, 2000

Sportsperson - Person, who is neither Citizen nor resident of India, may liable to

tax on gross basis @20.60% on their income earned from participation in any

game in India, advertisement and contribution of articles relating to any game in

India, subject to exemption under section 10(39)

Sports Association - Association, who is not resident of India, may liable to tax on

gross basis @20.60% on their income earned in relation to any game played in

India, subject to exemption under section 10(39)

Withholding of tax on above income covered under section 194E

No income tax return needs to be filed by such Sportspersons and Sports

associations, if Indian income is restricted to above mentioned sources

Taxation of others involved in sports

Sportsperson is not defined under the Act, generally it means “a person who takes

part in sports”

Persons such as Coaches, Supports staff, Umpires, Commentators. Cheerleaders,

etc. may not be covered under section 115BBA

If covered under ‘fees for technical services’ [section 9(1)(vii)] then taxable at his/her gross

income @10.30% in the absence of his/her fixed base and availability of PAN

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Sportsperson, sports Association | Non-residents 2/2

Taxation of others involved in sports (contd)

In all the other cases, may be taxable at net income pertaining to operations

carried in India @30.90%, also needs to file return and comply with other norms

such as tax audit, etc.

If employed by foreign company then short stay exemption may be availed

according to section 10(6)(vi)

Tax treaty

Sportspersons - Article dealing with “Artists and athletes” generally bestows the

right of taxation to the source state i.e. Indian income tax Act

Sports Association - Income earned by such entities will be covered under Article

dealing with “other income” as stated in CBDT Circular No. 787 (supra)

Others

May get covered under article dealing with “Independent personal services” and generally

may not be taxable in India in the absence of their fixed base and number of days of stay

below the prescribed limit generally 180 days

If employed by foreign company then exemption available under article dealing with

“Dependent personal services” subject to fulfillment of prescribed conditions

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Foreign Telecasting company 1/3

Income streams of foreign telecasting companies

Subscription charges for pay channel

Advertising revenues

Subscription charges - May not be covered under the term “royalty” under the Income

tax Act and hence may not be taxable in the absence of non-resident’s business

connection

Advertising revenues - Position varied over the years

Option of presumptive taxation on deemed profits i.e. 10% of the gross receipts

meant for remittance [gross receipts excluding amounts retained by advertising

agent and Indian agent’s commission] - CBDT Circular no.742 dated May 2, 1996

and no.765 dated April 15, 1998

The above circulars were withdrawn vide Circular no.6/2001 dated March 5, 2001,

w.e.f. March 31, 2001

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Profit attribution incase of PE

If non-resident’s operations are solely carried out through its PE in India and if the

PE is remunerated at arms length then no further profits could be attributed to the

non-resident operations in India, as held in

CBDT Circular no.23/1969 dated July 23, 1969

CBDT Circular No. 5/2004 dated September 28, 2004

DIT v. Morgan Stanley and Co Inc [2007] 292 ITR 416 (SC)

Set Satellite (Singapore) v. DDIT [2008] 218 CTR 452 (Bombay HC)

Worley Parsons Services Pty. Ltd [2008] 170 Taxman 91 (AAR)

Galileo International Inc v. DDIT [2009] 180 Taxman 357 (Delhi HC)

BBC Worldwide Ltd. [2011] 203 Taxman 554 (Delhi HC)

Rolls Royce Plc v. DDIT (Delhi ITAT)

Amadeus Global Travel v. DDIT (Delhi ITAT)

Circular 23/1969 was withdrawn vide Circular no. 7 dated October 22,

2009 - Whether this withdrawal will effect the above stated position ?

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Profit attribution incase of PE

The withdrawal of circular 23/1969 may not affect the prevailing legal position,

because:

Most of the above rulings do not refer to Circular 23/1969 including Circular

5/2004 which is not yet withdrawn, the rulings were passed considering the

judicial position under section 9(1)(i)(a) which remains unchanged

Supreme court in its ruling in the case of CCE v. M/s Ratan Melting and Wires

Industries [2008] 220 CTR 98 has held that:

“Circulars and instructions issued by the Board are no doubt binding in law on the

authorities under the respective statutes, but when the Supreme Court or the High

Court declares the law on the question arising for consideration, it would not be

appropriate for the Court to direct that the circular should be given effect to and not the

view expressed in a decision of this Court or the High Court. So far as the

clarifications/circulars issued by the Central Government and of the State Government

are concerned they represent merely their understanding of the statutory provisions.

They are not binding upon the court. It is for the Court to declare what the particular

provision of statute says and it is not for the Executive. Looked at from another angle,

a circular which is contrary to the statutory provisions has really no existence in law.”

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Payment for Transponder | New Skies ruling 1/7

Facts

Dutchco owned and operated satellites

for telecasting companies

These satellites were located outside

India and there was no presence of

Dutchco in India

The telecasting companies would relay

their programmes through the

communication transponders on the

satellites by using their own earth

stations to uplink and downlink the

signals

The transmission facility was availed of

by telecasting companies according to

their needs

Satellite

Downlink Earth station

Uplink Earth station

• Encryption of data into

TV signals

• Uplinking of the

signals

• Downlinking of the

signals

• Distribution of signals

in the footprint area

• Facilitating the

signal

transmitting

process

• Amplifying the

signals

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Satellite




TV signals


signals


signals




signal

transmitting

process

• Amplifying the

signals

Issues

Whether the payment received by

Dutchco from its customers for use of its

satellite will satisfy the definition of

“royalty” under the India / Netherland

treaty?

Whether the services rendered by

Dutchco through its satellite amount to

“secret process” or only “process”?

Whether the process needs to be “secret”

to be treated as “royalty”?

Definition of “royalties” in India / Netherlands

treaty:

“….means payments…. received as a consideration for the use of, or the

right to use, any …., secret formula or process,

or for information….”

The missing comma

“…., secret formula or process, ….” Should this be interpreted as:

A. “secret formula or secret process” ; or

B. “secret formula, or process” ?

What is the significance of there being no comma after “formula”?

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Satellite




TV signals


signals


signals




signal

transmitting

process

• Amplifying the

signals

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Ruling of Special Bench of the Tribunal

The services rendered by Dutchco through

its satellite amounts to a “process”

Payment by telecasting companies is for

the use of or right to use the “process”

The process in a transponder is not secret

Process need not be “secret” to be

characterized as “royalty” under the treaty

– i.e. interpretation B. (“secret formula, or

process”) is correct

The payment made to Dutchco by

telecasting companies will be taxable as

“royalty”

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Satellite




TV signals


signals


signals




signal

transmitting

process

• Amplifying the

signals

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Key observations of the Tribunal

The process of uplinking and downlinking

is embedded in the transponder which is

used by the telecasting companies as per

their needs through the earth stations

owned by such companies

Once the process in the transponder is

predetermined by Dutchco, it is made

available to the customers

Dutchco has no right to interfere in the

transmission process

Without knowing the process involved in

the transponder, the telecasting

companies will not be able to telecast their

programmes in the desired area at the

desired time

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Satellite




TV signals


signals


signals




signal

transmitting

process

• Amplifying the

signals

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Key observations of the Tribunal

PanAmSat decision is overruled

The word “secret” does not qualify the

word “process” in the royalty definition

under the provisions of the Act as well

as Tax Treaty

Skycell decision is distinguished

In telecommunication process, customer

merely makes a request to the service

provider and does not take part in the

process unlike the telecasting process

ISRO decision is distinguished

The ruling in ISRO was in context of a

navigational transponder which is

different from the communication

transponder used by the telecasting

companies

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Payment for Transponder | Post New Skies 6/7

Verizon Communication Singapore (Chennai ITAT) [January 2011]

While analyzing payments made by Indian customers towards International Private

Leased Circuit or dedicated bandwidth, the tribunal observed as under:

This capacity is made available on a dedicated basis to the customer for the entire contract period,

usually a year

The amount received by tax payer from Indian customers is also for the use of a ‘process’ and

would therefore qualify as royalty under Act as well as treaty

The Delhi special bench ruling in the case New Skies satellite has been referred and

relied upon

Asia Satellite Telecommunication (Delhi HC) [January 2011]

The High Court observed that:

The transponder is not distinct and separate from the satellite

The transponder is situated in orbit and merely because the satellite had a footprint in India would

not mean that the process took place in India

The payment can not be deemed to be the payment for the process

Hence, payment for transponder are not ‘royalty’ under the Act

However, the special bench ruling in the case New Skies satellite has not been

specifically discussed, reliance placed on Isro (AAR), Ishikawajima Harima Heavy

Industries (SC) and OECD commentary

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Payment for Transponder | Finance Act 2012 7/7

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Explanation 5 to section 9(1)(vi) inserted with effect from 1 June 1976 to provide

that:

The royalty includes and has always included consideration in respect of any right,

property or information, whether or not -

The possession or control of such right, property or information is with the payer

Such right, property or information is used directly by the payer

The location of such right, property or information is in India

Explanation 6 to section 9(1)(vi) inserted with effect from 1 June 1976 to provide

that:

The expression “process” includes and shall be deemed to have always included

transmission by satellite (including up-linking, amplification, conversion for down-linking

of any signal), cable, optic fibre or by any other similar technology, whether or not such

process is secret

Government clarified in May 2012, that completed assessments will not

be reopened !!

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Finance Act 2012 | Clarificatory amendment

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Explanation 6 clarifies ‘process’ however royalty covers ‘use of process’, hence all the

payments towards satellite transmission may not be covered under section 9

No withholding tax obligations could be enforced on the payment made prior to

announcement of Finance Bill 2012

Mumbai ITAT (August 2012) in Channel Guide India Limited, observed that:

“The taxpayer cannot be held to be liable to deduct tax at source relying on the

subsequent amendments made in the act with retrospective effect. The law cannot

possibly compel a person to do something which is impossible to perform relying on

Kirshna Swamy S. Pd (SC) 281 ITR 305”

If nonresidents satellite companies have filed their returns in India, then benefits of recent

amendments in Section 201 could be availed by the taxpayers with retrospective effect

relying on following judicial precedents where in similar cases, section 40(a)(ia) was given a

retrospective effect

Virgin Creations (Calcutta HC)

Piyush C Mehta (Mumbai ITAT)

By virtue of non-discrimination article in the tax treaty the benefit could be extended to

non-residents

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Direct Taxes Code

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Key amendments for Entertainment industry 1/2

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Tax provisions Income tax Act DTC

the transfer of all or any rights

in respect of cinematographic

films

Not taxable due to specific

exemption vide

explanation 2 to section

9(1)(vi)

Included in ‘royalty’

Shooting of films in India by

non-resident who is not a

Indian citizen

Not taxable due to specific

exemption vide section

9(1)(d)

There is no specific

exemption

Deduction to film producer and

film distributor

Rule 9A and

Rule 9B

Rules are yet to be notified

Income earned from house

property such Multiplex,

studio, stadium, etc.

May be considered as

business income, based

on the judicial precedents

Included in ‘income from

letting of house property’

and the standard deduction

reduced to 20%

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Key amendments for Entertainment industry 2/2

Increase in withholding tax rate from 10.51% to 20% for royalty and fees for

technical services - In the following cases the payments to non-residents may liable to

higher withholding tax:

India has more than 75 tax treaties, out of which over 30 tax treaties provide for a

withholding tax rate of 15% to 20%

Resident from a non tax treaty country may liable to higher withholding tax rate of 20%

Permanent establishment - No threshold limit has been specified for construction site,

building site, services rendered etc. hence following circumstances may lead to

constitution of PE of foreign residents from a non-tax treaty country:

Building site, construction site, rendering of services or leasing of equipments within

India for a day or more

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Open House

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Thank you

The views expressed in this presentation are solely that of the speaker and do not constitute any kind of professional

advice. These views or opinion expressed in this presentation should not be applied or used without a prior professional

advice, as the review of the facts and prevailing judicial position is of utmost importance in the analysis of tax

implications.

Romesh S A Sankhe

(E) [email protected]

(M) 9892 892504

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International Tax Issues in Entertainment Industry Including Film Production

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