Payments for imported designs held consideration for outright sale, not royalty, under Explanation 2 to section 9(1)(vi).

HC held that payments made by the resident assessee to the non-resident for drawings and designs constituted consideration for an outright transfer of property and not "royalty" under Explanation 2 to section 9(1)(vi) or article XIII of the India-U.K. DTAA. Emphasizing that "royalty" requires the owner to retain proprietary rights and merely permit use or grant a right to use, the HC found that the importation of designs and drawings, approved under the import policy and by the RBI, amounted to a complete sale with no residual rights retained by the foreign company. Accordingly, the Tribunal's view was upheld and the question was answered in favour of the assessee.

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Issues Involved:
1. Whether the payment of £36,470 made by the assessee-company to the foreign party as consideration for the outright sale of drawings and design was 'royalty' exigible to tax u/s 9(1)(vi) of the Income-tax Act, 1961.

Summary:

Issue 1: Nature of Payment - Royalty or Outright Sale
The core issue was whether the payment of £36,470 made by the assessee-company to the foreign party for the outright sale of drawings and designs constituted 'royalty' under the Income-tax Act, 1961. The Income-tax Officer classified the payment as royalty u/s 9(1)(vi) and applied a 20% tax rate. However, the Commissioner of Income-tax (Appeals) and the Tribunal found that the transaction was an outright sale, not a royalty payment. The Tribunal emphasized that under clause 2 of article XIII of the Avoidance of Double Taxation Agreement between India and the U.K., such a transfer by outright sale cannot be termed as royalty. The Tribunal further noted that clause 3 of article XIII provides a different meaning to 'royalty' than Explanation 2 to section 9(1)(vi) of the Income-tax Act, 1961. Consequently, the provisions of the Double Taxation Agreement would prevail over the Act, as per Circular No. 333 of the Central Board of Direct Taxes dated April 2, 1982.

Issue 2: Precedence of Double Taxation Agreement Over Income-tax Act
The court addressed the contention that the Income-tax Act should prevail over the Double Taxation Agreement in case of inconsistency. The court held that the Agreement for Avoidance of Double Taxation, entered into u/s 90 of the Income-tax Act, must prevail over the Act's provisions. The court cited the notification enforcing the convention between India and the U.K. and the Andhra Pradesh High Court's decision in CIT v. Visakhapatnam Port Trust [1983] 144 ITR 146, which supported the precedence of the Agreement over the Act. The court concluded that the Agreement's specific provisions regarding 'royalty' would override the general provisions of the Income-tax Act.

Issue 3: Definition and Interpretation of 'Royalty'
The court examined the definition of 'royalty' in the Double Taxation Agreement, which includes payments for the use or right to use patents, trademarks, designs, models, plans, secret formulas, etc. The court noted that for a payment to be considered royalty, the owner must retain property rights and permit use. In this case, the foreign company did not retain any property rights in the designs and drawings, indicating an outright sale rather than a royalty transaction. The court referenced various judgments, including CIT v. Ahmedabad Manufacturing and Calico Printing Co. [1983] 139 ITR 806 and CIT v. Hindusthan General Electrical Corporation Ltd. [1971] 81 ITR 243, to support its interpretation.

Conclusion:
The court concluded that the payment of £36,470 was for an outright transfer of designs and drawings, not royalty. Thus, it was not taxable u/s 9(1)(vi) of the Income-tax Act, 1961. The question was answered in the affirmative and in favor of the assessee, with no order as to costs.

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