http://JUDIS.NIC.IN SUPREME COURT OF INDIA Page 1 of 5  

CASE NO.: Appeal (civil)  351-355 of 2005

PETITIONER: Sedco Forex International Drill. Inc. & Ors.

RESPONDENT: Commissioner of Income Tax, Dehradun  & Anr.

DATE OF JUDGMENT: 17/11/2005

BENCH: Ruma Pal & Tarun Chatterjee

JUDGMENT: J U D G M E  N T With Civil Appeal Nos.375-426, 428-447, 462, 465-472,  474-476, 478, 480-481, 483-484, 545, 502-511,  513-521, 526-530, 534-544,546 of 2005

RUMA PAL, J  

       The appellant has filed these appeals as the agent of its  employees who are the assessees in the present case. The appellant  itself is a company which was incorporated in Panama.  It entered  into a wet lease with the Oil and Natural Gas Commission (ONGC)  under which the appellant agreed to supply oil rigs and the  employees to man the rigs to enable ONGC to carry on offshore  drilling within the territorial waters of this country.  The appellant also  entered into agreements (which were executed in the United  Kingdom) with each of its employees who are residents of the United  Kingdom. The schedule of work as specified in the agreements  envisaged 35 days or 28 days work  in a foreign location (in this case  India) followed by 35 days or 28 days "field break" in the United  Kingdom (UK).  "Field break" was defined in the agreements to  include, but was not limited to, undergoing training by attending  classes at such places as may be specified, on the spot  demonstration to update the knowledge in the latest techniques and  attending to the offshore drilling work on any project of the appellant  in any part of the world.  The agreements further provided that such  assignments would be obligatory and compulsory and that the  employee would have no option to deny or reject the same.  The  alternative schedule of time at location and at field breaks was to be  repeated continuously during the period of the agreements.  The  employees were to be paid the same monthly salaries for the  alternating periods.          The issue is whether the salary of the employees of the  appellant payable for field breaks outside India would be subjected to  tax under Section 9(1)(ii) read with  the Explanation thereto in the  Income Tax Act 1961 (hereinafter referred to as ’the Act’) for the  Assessment years 1992-93, 1993-94.  The Assessing Authority assessed the employees of the  appellant including the salary for the field breaks as part of the total  income under Section 9 (1)(ii) of the Act.  The Commissioner of  Income Tax dismissed the employees’ appeal.  The Tribunal however  held that the addition of such salary was not justified and the same  was deleted.  The Department’s appeal to the High Court was  allowed on the ground that the ’Off period’ and ’On periods’ formed  an integral part of the agreement between the appellant and its  employees and that it was not possible to give separate tax   treatment to the two periods.  It was further held that during the field

http://JUDIS.NIC.IN SUPREME COURT OF INDIA Page 2 of 5  

breaks the employees had to remain fit and had to undergo  demonstration and training and  all that had a nexus with the services  the assessees had to render in India.  Construing Section 9(1)(ii), the  High Court rejected the submission that the phrase "income earned in  India" meant that in all cases where services were rendered  outside  India, the salary could not be deemed to accrue in India, ipso facto.     The High Court held that the training during the period of field breaks  was directly connected with the works on the rigs in India,  and as  such the salary for the ’Off period’ was income "earned"  in India  within the meaning of the phrase in Section 9(1) (ii) of the Act.    The  third ground for reversing the view taken by the Tribunal was that the  assessment records showed that the employer company had paid the  salary of the employees including salary for the ’Off period’ out of the  income of the Indian operations.  Assailing the decision of the High Court, the employees,  through the appellant, have submitted that the High Court had not  taken into account the statutory change effected to Section 9(1)(ii).  It  was submitted that in 1999 the scope of the section was amended to  include salary for ’Off periods’ outside India  for the first time with  effect from 1st April, 2000. It was submitted that the impugned  decision in fact purported to give retrospective effect to the provisions  introduced in 1999 to cover the assessment years in question.  It was  submitted that the scope of Section 9(1)(ii) after its amendment in  1999 had been clarified by a circular issued by the Central Board of  Direct Taxes (CBDT) as being prospective and this was binding on  the Department.  It was contended that in any event the provisions of  the section must be construed in accordance with international  understanding and norms.  According to the appellant during the field  breaks, its employees were kept on standby  in the UK for serving  anywhere in the world which was not necessarily in India.           Appearing on behalf of the respondents, the Additional Solicitor  General submitted that the employees of the appellant company were  paid salary during the field breaks only as a consequence of and in  relation to the services rendered by them during the period that they  actually worked in India.  It necessarily followed that the salary  received for the ’Off period’ was taxable as arising out of services  rendered in India.  There was a reasonable nexus between salary  earned for the ’Off periods’ and the services rendered in India.  It was  further submitted that the amendment to the Explanation to Section  9(1) (ii) was brought about by the Finance Act 1999 and was  retrospective since it was clarificatory.  It was also stated that the  issue whether a statute is to be construed as being retrospective, if it  did not itself indicate either in terms or by necessary implication that it  was to operate retrospectively, has been referred to a Constitution  Bench.  As far as the CBDT Circular is concerned, it was said that it  was not binding on the respondents.  In our view, the opinion of the High Court is contrary to the  legislative history, context and construction of Section 9(1)(ii). Under  Section 4(1) of the Act the total income of the previous year of every  person  is subject to income tax. Section 5(2) defines the scope of  total income as far as non residents are concerned, "as all income  from whatever source derived which a)      is received or deemed to be received in India by or on behalf of  such person or b)      accrues or arises or is deemed to accrue or arise to him in  India in such year". In other words it is the receipt or accrual in India, whether  deemed or actual, which determines the taxability under the Act.   Section 9 of the Act defines income "deemed to accrue or arise in  India".  By Clause (ii) of sub-section (1) of Section 9 "income which  falls under the head ’Salaries’ if it is earned in India" is included in  such income.  In 1980 the Gujarat High Court in Commissioner of  Income-Tax vs. S.G. Pgnatale :([1980] 124 ITR 391 held that the  words ’earned in India" occurring in Clause (ii) must be interpreted as  "arising or accruing in India"  and not "from service rendered in India".  

http://JUDIS.NIC.IN SUPREME COURT OF INDIA Page 3 of 5  

Therefore as long as the liability to pay the amount under the head  "salaries" arose in India, Clause (ii) could be invoked.  But if the  liability to pay arose out of India and the amount was payable outside  India, Clause (ii), as it stood then, could not  be invoked.   To overcome this decision, Section 9 (1) (ii) was amended by  the Finance Act, 1983 with effect from 1.4.1979 to include an  Explanation to Section 9(1)(ii) which read as follows:- "Explanation\027For the removal of doubts, it is hereby  declared that income of the nature referred to in this  clause payable for service rendered in India shall be  regarded as income earned in India."

        Therefore with this Explanation, irrespective of where the   contract was entered into or where the liability to pay arose or where  the payment was actually received, if the service was rendered in  India, the salary for such service was exigible to tax  as income under  the Act. The High Court proceeded on the incorrect hypothesis that the  field breaks were limited to the training of the employees to render  them more fit for service in India.  That was not what the agreements  between the appellant and its employees said and there was no  ground for the High Court to have assumed that it was. The High  Court also did not address itself to the other aspects of the field break  namely the readiness of the employees for service anywhere at all.  The employees in this case had not  in fact ’served’ in India during   the field break period but they earned the income in UK as UK  residents \026the consideration for the salary being the undergoing of  training or updating of knowledge and being in a state of readiness to  serve anywhere at all.  The contract does not mention that the salary  was for a well earned rest. That was  a presumption which the High  Court raised but which was based on no evidence. Besides, the  clause in the contract relating to salary for service in India was  distinct from the clause relating to payment of salary for field breaks.  The first clause clearly fell within the extended meaning given to the  words ’earned in India’ in the main provision.  But the second clause  relating to the salary paid by the appellants to its UK employees for  the field break was not ’earned in India’. Since it did not fall within the  phrase.  The phrase is part of the statutory fiction created by Section  9(1). There is no question of introducing a further fiction by extending  the Explanation to include whatever has a possible nexus with  service in India . Therefore the salary paid for the field breaks in the  UK was not for "service rendered in India" within the meaning of 1983  Explanation to Section 9(1)(ii) of the Act. The High Court did not refer to the 1999 Explanation in  upholding the inclusion of salary for the field break periods in the  assessable income of the employees of the appellant. However the  respondents have urged the point before us.           In  our view the 1999 Explanation could not apply to  assessment years for the simple reason that it had not come into  effect then. Prior to introducing the 1999 Explanation, the decision in  CIT vs. S.G. Pgnatale  (supra) was  followed in 1989 by a Division  Bench of the Gauhati High Court in Commissioner of Income Tax  vs. Goslino Mario  reported in [2000] 241 ITR 314.  It found that the  1983 Explanation had been given effect from 1.4.1979 whereas the  year in question in that case was 1976-77 and said : "\005..it is settled law that assessment has to be made with  reference  to the law which is in existence at the relevant  time.  The mere fact that the assessments in question  has(sic) somehow remained pending on April 1, 1979,  cannot be cogent reason to make the Explanation applicable  to the cases of the present assessees.  This fortuitous  circumstance cannot take away the vested rights of the  assessees at hand".

The reasoning of the Gauhati High Court  was expressly

http://JUDIS.NIC.IN SUPREME COURT OF INDIA Page 4 of 5  

affirmed by this Court in Commissioner of Income Tax vs. Goslino  Mario  [2000] 241 ITR 312 at 314]  These decisions are thus  authorities for the proposition that the 1983 Explanation expressly  introduced with effect from a particular date would not effect earlier  assessment years. In this state of the law, on 27th February, 1999 the Finance Bill,  1999 substituted the Explanation to Section 9 (1) (ii) (or what has  been referred to by us as the 1999 Explanation). Section 5 of the Bill  expressly stated that  with effect from 1st April, 2000, the substituted  Explanation would read: "Explanation\027For the removal of doubts, it is hereby  declared that the income of the nature referred to in  this clause payable for\027

(a)     service rendered in India; and

(b)     the rest period or leave  period which is  preceded and succeeded by services rendered  in India and forms part of the service contract  of employment, shall be regarded as income  earned in India."

The Finance Act 1999 which followed the Bill incorporated the  substituted Explanation to Section (9)(1)(ii) without any change.   The Explanation as introduced in 1983 was construed by the  Kerala High Court in Commissioner of Income tax vs. S.R. Patton   [1992] 193 ITR 49, while following the Gujarat High Court’s decision  in  S.G. Pgnatale  (supra), to hold that the Explanation was not  declaratory but widened the scope of Section 9(1)(ii).  It was further  held that even if it were assumed to be clarificatory or that it removed  whatever ambiguity there was in Section 9(1)(ii) of the Act, it did not  operate in respect of periods which were prior to 1.4.1979. It was held  that since the Explanation came into force from 1.4.1979, it could not  be relied on for any purpose for an anterior period. In the appeal preferred from the decision by the Revenue  before this Court, the Revenue did not question this reading of the  Explanation by the Kerala High Court, but restricted itself to a  question of fact viz., whether the Tribunal had correctly found that the  salary of the assessee was paid by a foreign company.  This Court  dismissed the appeal holding it was a question of fact.  [Commissioner of Income tax vs. S.R. Patton (1998) 8 SCC 608].              Given this legislative history of Section 9(1)(ii), we can only  assume that it was deliberately introduced with effect from 1.4.2000  and therefore  intended to apply prospectively .  It was also  understood as such by the CBDT which issued Circular No. 779  dated 14th September, 1999 containing explanatory notes on the  provisions of the Finance Act, 1999 in so far as it related to direct  taxes.  It said in paragraphs 5.2 and 5.3. 5.2 The Act has expanded the existing Explanation  which states that salary paid for services rendered in  India shall be regarded as income earned in India, so  as to specifically provide that any salary payable for  rest period or leave period which is both preceded and  succeeded by service in India and forms part of the  service contract of employment will also be regarded as  income earned in India.

5.3   This amendment will take effect from 1st April,  2000, and will accordingly, apply in relation to the  assessment year 2000-2001 and subsequent years".                   The Departmental understanding of the effect of the 1999  amendment even if it were assumed not to bind the respondents  under Section 119 of the Act, nevertheless affords a reasonable  construction of it, and there is no reason why we should not adopt it.

http://JUDIS.NIC.IN SUPREME COURT OF INDIA Page 5 of 5  

       As was affirmed by this Court in Goslino Mario  (supra), a  cardinal principle of the tax law is that the law to be applied is that  which is in force in the relevant assessment year unless otherwise  provided expressly or by necessary implication. [See also:  Reliance  Jute and Industries vs. CIT  (1980) 1 SCC 139].  An Explanation to  a statutory provision may fulfil the purpose of clearing up an  ambiguity in the main provision or an Explanation can add to and  widen the scope of the main section .  If it is in its nature clarificatory  then the Explanation must be read into the main provision with effect  from the time that the main provision came into force .  But if it  changes the law it is  not presumed to be retrospective irrespective of  the fact that the phrase used are  ’it is declared’ or ’for the removal of  doubts’.         There was and is no ambiguity in the main provision of Section  9(1)(ii).   It includes salaries in the total income of an assessee if the  assessee has earned it in India.  The word "earned" had been  judicially defined in  S.G. Pgnatale  (supra) by the High Court of  Gujarat, in our view, correctly, to mean as income "arising or accruing  in India".  The amendment to the section by way of an Explanation in  1983 effected a change  in the scope of that judicial definition so as to  include with effect from 1979, "income payable for service rendered in  India".           When the Explanation seeks to give an artificial meaning  ’earned in India’ and bring about a change effectively in the existing  law and in addition is stated to come into force with effect from a  future date, there is no principle of interpretation which would justify  reading the Explanation as operating retrospectively.              Even if it were to be held that the 1999 Explanation  to  Section 9(1)(ii) were applicable to the facts of the present case, it is  doubtful whether in the facts of this case the activity of the employees  in the UK could be said to be "rest" period or "leave" period within the  meaning of the words in Clause (b) of the 1999 Explanation.   However, it is not necessary to decide the issue as we are satisfied  that the 1999 Explanation would not apply to the assessment years in  question.  For the reasons aforesaid, the decision of the High Court is set  aside and the appeals are allowed.  There will be no order as to  costs.