Software licence payments treated as royalty, requiring tax deduction at source and supporting default liability.

Consideration paid for a licence to use shrink-wrapped software was treated as royalty because the payer received only a limited right to use the software, not ownership or any modifiable intellectual property. The statutory definition in section 9(1)(vi) and the corresponding India-Switzerland DTAA provision were held to cover payment for the use of, or right to use, such software. As the remittance was taxable as royalty in India, tax deduction at source under section 195 was required, and failure to deduct justified treatment of the assessee as an assessee in default under section 201(1). The later Supreme Court ruling reversing the earlier Karnataka High Court view removed the assessee's contrary argument.

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Issues: Whether consideration paid for a licence to use shrink-wrapped software constituted royalty under section 9(1)(vi) of the Income-tax Act, 1961 and Article 12(3) of the DTAA between India and Switzerland, so as to require deduction of tax at source under section 195 of the Income-tax Act, 1961 and render the assessee liable as an assessee in default under section 201(1) of the Income-tax Act, 1961.

Analysis: The payment was held to be for a limited right to use software and not for transfer of ownership or any modifiable/exploitable intellectual property. The licence was treated as falling within the statutory meaning of royalty because the payer obtained the right to use the software and the consideration was a lump sum payment. The treaty definition of royalty was found to be materially similar and equally covered payments for the use of, or the right to use, such intellectual property. Since the remittance was royalty taxable in India, deduction of tax at source was required. The later Supreme Court decision reversing the earlier Karnataka High Court view removed the basis for the assessee's contention that no deduction was necessary merely because taxability was disputed.

Conclusion: The consideration was royalty, tax was deductible at source, and the assessee was correctly treated as an assessee in default under section 201(1) of the Income-tax Act, 1961.

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