Tax on Employee Secondment from US to India: EY's Supreme Court Challenge

In a significant development in international taxation, Ernst & Young (EY) has filed an appeal in the Supreme Court challenging the Delhi High Court's decision on the taxation of employee secondment arrangements from the United States to India. This case highlights the complex interplay between domestic tax laws, international tax treaties, and the evolving nature of cross-border employment arrangements in the global business landscape.

Understanding Employee Secondment Arrangements

Employee secondment refers to the temporary transfer of employees from a parent company (usually located in a foreign jurisdiction) to a subsidiary or associated enterprise in another country. In this arrangement, employees continue to be on the payroll of the parent company while working for and under the supervision of the Indian entity.

These arrangements typically involve:

• The foreign parent company continuing to pay the employee's salary
• The Indian subsidiary reimbursing the parent company for salary costs
• Transfer of specialized skills, knowledge, or management expertise
• Temporary duration, usually ranging from months to a few years
• Maintenance of employment relationship with the parent company

The Ernst & Young Case: Background and Controversy

The dispute centers around whether Ernst & Young's employee secondment arrangements from its US operations to its Indian entity created a taxable presence in India and whether the reimbursements constituted income taxable under Indian tax laws.

The tax authorities contended that:

• The arrangement created a Permanent Establishment (PE) of the US entity in India
• Reimbursements received constituted 'Fees for Technical Services' (FTS) under Section 9(1)(vii) of the Income Tax Act, 1961
• The US entity maintained effective control over seconded employees
• Services rendered were technical and managerial in nature

EY argued that:

• Mere cost reimbursement without any profit element should not attract tax
• No independent service contract existed between the US and Indian entities
• Employees were under the complete control of the Indian entity
• The arrangement did not create a PE under the India-US tax treaty

Delhi High Court's Decision

The Delhi High Court upheld the tax department's position, ruling that the secondment arrangement indeed created tax implications for the foreign entity. The court's reasoning included:

Permanent Establishment Creation: The court found that the continuous presence of US employees in India, combined with the nature of services provided, could constitute a PE under certain circumstances.

Fees for Technical Services: The reimbursements were characterized as payments for technical and managerial services, making them taxable under the FTS provisions of both the Income Tax Act and the India-US Double Taxation Avoidance Agreement (DTAA).

Substance Over Form: The court applied the substance over form principle, looking beyond the contractual arrangement to examine the economic reality of the transaction.

Key Legal Provisions Involved

Income Tax Act, 1961

Section 9(1)(vii): This section deems income by way of fees for technical services to accrue or arise in India if such services are utilized in India, making it taxable even for non-residents.

Section 5: Defines the scope of total income for non-residents, including income received or deemed to be received in India and income accruing or arising or deemed to accrue or arise in India.

India-US Tax Treaty Provisions

Article 5 (Permanent Establishment): Defines when a foreign enterprise has a taxable presence in India. It includes fixed places of business, construction sites lasting more than specified periods, and dependent agents.

Article 12 (Fees for Technical Services): Governs the taxation of technical, managerial, or consultancy services. Under the treaty, FTS may be taxed in India, but specific conditions must be met.

Article 15 (Dependent Personal Services): Addresses taxation of employment income, which becomes relevant in determining whether seconded employees create a PE.

Supreme Court Appeal: What's at Stake?

EY's appeal to the Supreme Court raises several critical questions that will have far-reaching implications:

1. Reimbursement vs. Service Fee

The fundamental question is whether pure cost reimbursement, without any markup or profit element, can be characterized as payment for services. This distinction is crucial because:

• Reimbursements are generally not taxable as they represent recovery of costs
• Service fees imply a commercial transaction with profit motive and attract tax
• The characterization affects withholding tax obligations and compliance requirements

2. Control and Supervision

Who exercises control over seconded employees determines tax liability:

• If the Indian entity has complete control, the foreign company may not have a PE
• If the foreign company retains supervisory control, it may create a taxable presence
• The degree of integration with the Indian entity's operations matters

3. Treaty Interpretation

The case will clarify how tax treaty provisions should be interpreted in secondment scenarios, particularly:

• Whether the India-US DTAA provides protection against such taxation
• How to reconcile domestic law provisions with treaty obligations
• The application of Most Favoured Nation (MFN) clauses, if any

Implications for Multinational Companies

The Supreme Court's decision will significantly impact how multinational companies structure their employee secondment arrangements in India:

Tax Planning and Compliance

Companies must carefully document and structure secondment arrangements to:

• Clearly establish the employment relationship and reporting lines
• Maintain proper transfer pricing documentation for reimbursements
• Ensure compliance with withholding tax obligations if applicable
• Consider advance pricing agreements (APAs) for certainty

Commercial Considerations

The ruling may force companies to reconsider:

• Whether to continue with secondment or opt for local hiring
• Structuring reimbursements with appropriate markups to reflect arm's length pricing
• The duration and nature of secondment assignments
• Alternative arrangements like international hiring or consultant agreements

Current Tax Landscape for Secondments (FY 2026-27)

As of October 2026, companies dealing with employee secondments should be aware of the following:

Withholding Tax Rates: If secondment payments are treated as FTS, the withholding tax rate under the India-US treaty is generally 10-15% depending on the nature of services, subject to treaty benefits.

Permanent Establishment Risks: The tax department has been increasingly scrutinizing secondment arrangements to determine PE existence, particularly in sectors like IT, consulting, and financial services.

Transfer Pricing Requirements: All cross-border secondment arrangements must comply with transfer pricing regulations under Sections 92 to 92F of the Income Tax Act, requiring arm's length pricing.

Equalization Levy: While primarily applicable to digital services, companies must also consider the 2% equalization levy on e-commerce operators, which may apply in certain scenarios.

Best Practices for Managing Secondment Tax Risks

To minimize tax exposure and ensure compliance, companies should:

1. Formal Secondment Agreements: Execute detailed agreements clearly specifying terms, control mechanisms, and reimbursement formulas
2. Transfer Pricing Documentation: Maintain robust documentation showing that reimbursements are at cost or with appropriate arm's length markup
3. Employment Contracts: Ensure employment contracts clearly establish the Indian entity as the employer during secondment
4. Supervision and Control: Document that seconded employees report to and are supervised by the Indian entity
5. Regular Tax Assessments: Conduct periodic reviews of secondment arrangements to assess PE and tax exposure
6. Advance Rulings: Consider seeking advance rulings from the Authority for Advance Rulings (AAR) for clarity on tax treatment

Comparative International Perspective

India's approach to secondment taxation is evolving, and the Supreme Court's decision will position India within the global tax framework. Other jurisdictions have addressed similar issues:

United Kingdom: Generally treats pure cost recharges more favorably, not creating a PE if employees are under local control.

Singapore: Has specific safe harbor provisions for short-term secondments that don't create PE.

Australia: Focuses on the degree of control and whether the foreign entity maintains an entrepreneurial role.

Awaiting the Supreme Court's Verdict

The Supreme Court's decision in the EY case will be a landmark ruling that clarifies several ambiguities in international taxation of employee secondments. Tax professionals, multinational companies, and tax authorities are keenly watching this case as it will establish important precedents for:

• Distinguishing between cost reimbursement and service fees
• Determining when employee presence creates a PE
• Interpreting tax treaty provisions in secondment contexts
• Balancing revenue interests with commercial realities

The outcome will shape how India positions itself in the global economy—balancing legitimate tax revenue collection with creating a favorable environment for international business operations and knowledge transfer. Until the Supreme Court pronounces its judgment, companies must navigate carefully, maintaining compliance while preserving operational flexibility in their cross-border employee deployment strategies.