India-Japan DTAA | Reimbursement of Seconded Employee Salaries on Cost-to-Cost Basis Not FTS When Indian Entity Is Real Employer : ITAT Delhi

The Income Tax Appellate Tribunal, Delhi, has clarified that reimbursement of salary expenses for seconded employees, made on a cost-to-cost basis without markup, does not constitute Fee for Technical Services (FTS) under the India-Japan Double Taxation Avoidance Agreement when the Indian entity is the true employer. This ruling resolves a long-standing ambiguity in cross-border employment structures and provides critical guidance for multinational enterprises operating in India.

Background & Facts

The Dispute

The three appeals before the Tribunal involve two Japanese parent companies - M/s Honda R&D Company and M/s Honda Motor Co. Ltd. - and their Indian subsidiaries. The central issue was whether reimbursements received by the Japanese entities from their Indian group companies for salaries paid to seconded employees constituted Fee for Technical Services (FTS) under Article 12(4) of the India-Japan Double Taxation Avoidance Agreement (DTAA). The Assessing Officer treated these reimbursements as FTS and made additions aggregating Rs. 21,52,75,467 for AY 2018-19 in the case of Honda R&D Company, with similar additions in the other two appeals.

Key Facts

• Honda R&D Company (Japan) is engaged in automotive R&D, including engine design, material development, and electronics innovation.
• Under a Basic Secondment Agreement dated 01.10.2016, Japanese employees were seconded to Honda R&D (India) Pvt. Ltd. for specific technical projects.
• The Indian company, not the Japanese parent, was designated as the employer during the secondment period.
• The seconded employees were subject to the Indian company’s rules, policies, and supervision.
• The Indian company had exclusive rights to terminate, promote, discipline, or suspend the seconded employees without consent from the Japanese entity.
• The Japanese company did not retain any lien on employment; employees ceased working for it during secondment.
• The Indian company determined salary amounts based on its own policies and bore all financial risks related to employment.
• Salaries were paid by the Japanese company in Japanese Yen for administrative convenience, but fully reimbursed by the Indian company on a cost-to-cost basis.
• Tax Deducted at Source (TDS) under Section 192 of the Income-tax Act, 1961, was applied by the Indian company on salary payments.
• Employment contracts were executed directly between the Indian company and each seconded employee, with no authority granted to the Japanese entity to manage or control the employees in India.

Procedural History

• 01.10.2016: Basic Secondment Agreement executed between Honda R&D Company (Japan) and Honda R&D (India) Pvt. Ltd.
• AY 2018-19: Reimbursements of Rs. 21,52,75,467 received by Honda R&D Company from its Indian subsidiary.
• 23.03.2024: Draft assessment order issued by Assessing Officer treating reimbursements as FTS.
• 26.11.2024: Dispute Resolution Panel (DRP) upheld the addition.
• 25.12.2024: Final assessment order passed under Section 147 read with Section 144C(13) of the Income-tax Act.
• 11.03.2026: Hearing before ITAT Delhi.
• 27.05.2026: Judgment pronounced.

The Parties' Positions

For the Assessee (Honda R&D Company and Honda Motor Co. Ltd.)

• The seconded employees were fully integrated into the Indian company’s workforce.
• The Indian company was the sole employer during secondment, with full control over terms of employment.
• Reimbursements were strictly cost recovery, with no profit element or markup.
• Payments were treated as salary under Indian tax law, with TDS deducted under Section 192.
• Precedents in Advics Co. Ltd. v. ACIT and Toshiba Corporation v. DCIT supported deletion of the addition.
• Explanation 2 to Section 9(1)(vii) of the Act excludes payments chargeable under the head ‘Salaries’ from being classified as FTS.

For the Revenue (Department of Income Tax)

• The services rendered by seconded employees were of a technical nature, falling within the broad definition of FTS under Article 12(4) of the DTAA.
• Reliance was placed on Centrica India Offshore (P) Ltd. v. CIT to argue that provision of technical personnel constitutes FTS.
• The fact that salary was initially paid by the Japanese entity and later reimbursed indicated that the foreign entity was the real provider of services.
• The DRP order emphasized that the employees were on deputation and retained dual accountability.
• The Revenue contended that the term ‘technical’ should be interpreted broadly to include know-how and expertise.

Relief Sought

The assessee sought deletion of the addition of Rs. 21,52,75,467 for AY 2018-19 and similar amounts for AY 2022-23, arguing that the payments were not FTS but salary reimbursements. The assessee also sought restoration of the position that such reimbursements are not taxable in India as FTS under the DTAA.

The Legal Issue

The central question was whether reimbursement of salary costs for seconded employees, made on a cost-to-cost basis by an Indian company to its foreign parent, constitutes Fee for Technical Services under Article 12(4) of the India-Japan DTAA, when the Indian entity is the true employer with full control over the employees.

Arguments Presented

For the Appellant

The assessee relied on the Advics Co. Ltd. and Toshiba Corporation decisions, both rendered by coordinate benches of the ITAT Delhi, which held that where the Indian entity is the real employer - exercising control, determining salary, bearing risk, and terminating employment - the reimbursement of salary cannot be recharacterized as FTS. The counsel emphasized that Explanation 2 to Section 9(1)(vii) of the Income-tax Act explicitly excludes payments chargeable under the head ‘Salaries’ from the definition of FTS. Further, the India-Japan DTAA, like the India-UK DTAA, excludes payments to employees from the scope of FTS. The Basic Secondment Agreement and individual employment contracts conclusively established the Indian company as the employer during the secondment period.

For the Respondent

The Revenue relied on Centrica India Offshore (P) Ltd. v. CIT, arguing that the provision of technical personnel, even if paid by the Indian entity, falls within the ambit of FTS. It contended that the Japanese company retained indirect control through policy guidelines and that the employees’ technical expertise was the core service provided. The Revenue also argued that the reimbursement mechanism masked the true nature of the transaction, and that the absence of a direct salary payment by the Indian company did not negate the foreign entity’s role as the service provider.

The Court's Analysis

The Tribunal undertook a detailed examination of the Basic Secondment Agreement and the individual employment contracts. It found that the agreement explicitly stated that the seconded employees would cease providing services to the Japanese entity and work exclusively under the sole control, direction, and supervision of the Indian company. The Indian company had the exclusive right to terminate, evaluate, discipline, and determine the salary of the seconded employees. The Japanese entity had no right to recall employees or replace them if terminated.

The Tribunal distinguished Centrica India Offshore on multiple grounds. In that case, the Indian entity did not enter into employment contracts with the seconded employees, did not determine their salaries, and merely reimbursed the foreign entity for salaries paid by it. In contrast, here, the Indian company was the employer in fact and in law. The Tribunal noted that the Supreme Court in Northern Operating Systems had upheld service tax liability in a different context - manpower supply - and that its reasoning did not apply to the interpretation of FTS under the DTAA.

"The payments made by the Indian entity to the Japanese entity are qua reimbursement of salary paid in Japan for services rendered in India by employees who are, during the period of secondment, employees of the Indian company. Such payments are outside the purview of FTS as they are chargeable under the head 'Salaries' under the Act."

The Tribunal further held that Article 12(4) of the India-Japan DTAA explicitly excludes payments to employees of the person making the payment. Since the Indian company was the employer, the payments made to the Japanese company were not payments to an employee of the Indian company, but reimbursements for salaries paid to employees of the Indian company. The Tribunal emphasized that the term ‘technical’ in FTS cannot override the clear exclusion of salary payments under the DTAA and the Act.

The Tribunal also rejected the Revenue’s argument that dual accountability implied continued employment by the Japanese entity. The agreement and employment contracts left no ambiguity: the Indian company was the sole employer during secondment.

The Verdict

The appeals of the assessee in ITA No. 548/Del/2025, 912/Del/2025, and 913/Del/2025 are allowed. The addition of Rs. 21,52,75,467 for AY 2018-19 and corresponding amounts for AY 2022-23 are deleted. The impugned assessment orders are set aside. The Tribunal held that reimbursement of salary costs for seconded employees, where the Indian entity is the true employer, does not constitute Fee for Technical Services under the India-Japan DTAA.

What This Means For Similar Cases

Employee-Employer Relationship Overrides Form

• Practitioners must now focus on substance over form in secondment arrangements: control, salary determination, and termination rights are decisive.
• Mere reimbursement of salary by an Indian entity to a foreign parent does not automatically trigger FTS if the Indian entity is the real employer.
• Employment contracts executed directly between the Indian entity and seconded employees are critical evidence.

TDS Under Section 192 Is a Strong Indicator

• Deduction of TDS under Section 192 on salary payments by the Indian entity strongly supports the classification of payments as salary, not FTS.
• Revenue authorities cannot recharacterize such payments as FTS merely because the salary was initially disbursed abroad.
• Practitioners should ensure Form 16 and TDS certificates are maintained and submitted as part of the record.

Precedents Now Form a Clear Framework

• Advics Co. Ltd. and Toshiba Corporation are now binding precedents in ITAT Delhi for similar facts.

• Centrica India Offshore is distinguishable where the Indian entity does not enter into employment contracts or determine salary.

• The Tribunal’s reliance on Explanation 2 to Section 9(1)(vii) reinforces that salary payments are statutorily excluded from FTS, regardless of DTAA wording.

• Always draft secondment agreements to clearly state: (i) Indian entity as employer, (ii) exclusive control and supervision, (iii) salary determination by Indian entity, (iv) no right of recall by foreign entity.

• Avoid language suggesting the foreign entity retains any managerial or disciplinary authority over seconded employees.

• Ensure TDS is deducted under Section 192 and documented in Form 16.