2012 (3) TMI 45 - AAR - Income Tax

Payments for Software Sales in India by Japanese Company Deemed Royalties. Customers Must Deduct Tax.

The Authority ruled that payments received by a Japanese company from the sale of software products in India through an independent reseller constitute ... India-Japan DTAC – Japanese company, subsidiary of USA company – product sold are copyrighted material in software form - right to use the application is given to customers by way of vendor licence key and through an independent reseller in India - license is provided on a non-exclusive and non-transferable basis – taxability of payments received for sale of product – whether royalty or business income – withholding of tax – Held that:- As held in Citrix Systems Asia Pacific Pty. Ltd. (2012 - TMI - 210758 - Authority For Advance Rulings) that there cannot be a user of software over which exists a copyright without a use of the copyright therein. The payment for such use can only be royalty. Therefore, in present case, what is paid by the reseller to the applicant and what is paid for updates and maintenance are royalty as defined in Article 12 of the India-Japan DTAC and not business income covered by Article 7 of the India-Japan DTAC.Further, tax needs to be deducted by the customers while making the remittances to the applicant as consideration for the software supplied to them. Issues:1. Taxability of payments received from the sale of software products under India-Japan Double Taxation Avoidance Agreement.2. Determination of whether payments constitute royalties or business profits.3. Requirement of tax deduction by customers for software supplied on a non-exclusive, non-transferable basis.Analysis:Issue 1: Taxability under India-Japan DTAAThe applicant, a company incorporated in Japan, sought an advance ruling regarding the tax implications of payments received from the sale of software products in India. The Revenue contended that both the resellers and end-users have rights subject to their agreements with the applicant, with payments being considered as royalty under the Income-tax Act and the Tax Convention. However, the applicant argued that the income should be treated as business income under Article 7 of the India-Japan DTAA since the rights granted are non-exclusive and non-transferable. The Authority analyzed previous rulings and concluded that the payments received by the applicant through the independent reseller in India would not be classified as business income under the DTAA.Issue 2: Royalties vs. Business ProfitsThe Authority considered whether the payments received by the applicant from the sale of software products constituted royalties or business profits. The applicant relied on a previous ruling to support their argument that the payments should not be considered as royalty. However, the Authority referenced a recent ruling to establish that payments made for the use of copyrighted software inherently involve royalty. Consequently, the Authority ruled that the payments received by the applicant from the sale of software products to end users through the independent reseller in India would be classified as royalty under Article 12 of the India-Japan DTAA.Issue 3: Tax Deduction RequirementRegarding the tax deduction by customers while remitting payments to the applicant for the software supplied on a non-exclusive, non-transferable basis, the Authority ruled that tax needs to be deducted by customers. This decision was based on the conclusion that the payments for software use constituted royalty, aligning with the provisions of the India-Japan DTAA.In conclusion, the Authority ruled that the payments received by the applicant from the sale of software products in India through an independent reseller would be considered as royalty under the DTAA. The ruling also affirmed the requirement for customers to deduct tax while remitting payments for the software supplied on a non-exclusive, non-transferable basis.