2017 (11) TMI 981 - AT - Income Tax

Software supply receipts not taxable as royalty under India-USA DTAA

The Tribunal allowed the assessee's appeal, ruling that the software supply receipts were not taxable as royalty under the India-USA DTAA or section ... Supply of software on licence - Taxability in India - whether the payment received by the assessee from supply of software, is taxable in India as royalty in India or not either under section 9(1)(vi) or under Article 12(3) of India USA DTAA or both? - Held that:- Software is sold to be used only on one server in India and not in other jurisdictions. As clarified that clause 2.3 of the licensing agreement uses the word ‘applicable supplement’ which suggests that supplement would be different for different customers depending upon various customers. Though the order form is standard, but they may be different in supplement agreement so as to number of users, manage code, size base for different customers. It is only with a view to provide flexibility to customers, the clause subscription to overnight the Master Licensing agreement have been inserted. Thus, the reference made by the ld. CIT D.R. to these clauses and also supplement will not change the basic fact that what has been sold by the assessee is purely a copyrighted software given for use of the customers without transferring any kind of right to use and with lot of restrictions as given in clause 2.4 of the agreement. We completely agree with the clarification and submission made by the Ld. Counsel that supplementary agreement does not enlarge the scope of the main license agreement but only envisages providing access to all the persons within the enterprise. Thus, in view of the discussion made above and respectfully following the judgment of Hon’ble Delhi High Court, in the cases of DIT vs. Nokia Networks (2012 (9) TMI 409 - DELHI HIGH COURT) DIT vs. Ericsson A.B. (2011 (12) TMI 91 - Delhi High Court); DIT vs. Infrasoft Ltd. (2013 (11) TMI 1382 - DELHI HIGH COURT ); and CIT vs. Alcatel Lucent Canada (2015 (5) TMI 431 - DELHI HIGH COURT) we hold that the payment received by the assessee does not fall within the ambit of ‘royalty’ under Article 12(3) of India USA DTAA and hence, the same cannot be taxed under the terms of India USA Treaty. If the receipts cannot be taxed under the treaty as royalty, then it cannot be taxed under the domestic law under section 9(1)(vi) Income Tax Act and the amended provision cannot be read into treaty as held by the Hon’ble Delhi High Court in aforesaid cases. Accordingly, the appeal of the assessee is allowed. Issues Involved:1. Computation of total income and tax demand.2. Taxability of revenues from non-exclusive and non-transferable license agreements as royalty under section 9(1)(vi).3. Taxability of revenues as Fee for Technical Services/Fee for Included Services under Article 12(3) of the India-USA DTAA.4. Initiation of penalty proceedings under section 271(1)(c) of the Act.Issue-wise Detailed Analysis:1. Computation of Total Income and Tax Demand:The assessee challenged the computation of total income at Rs. 3,80,43,400 and the resultant tax demand of Rs. 38,04,340 by the Deputy Commissioner of Income Tax (DCIT), Circle 1(1)(2), International Taxation, New Delhi. The assessee argued that the income should be computed as NIL.2. Taxability of Revenues as Royalty Under Section 9(1)(vi):The core issue was whether the receipts from the supply of software should be treated as royalty. The assessee-company, incorporated in Delaware, USA, provided non-exclusive and non-transferable licenses for software to its customers in India. The Assessing Officer (AO) treated these receipts as royalty under section 9(1)(vi) of the Income Tax Act, supported by the retrospective amendments made by the Finance Act, 2012, which expanded the definition of royalty. However, the assessee contended that the sale of software is considered a sale of goods, not royalty, as per the Supreme Court's judgment in Tata Consultancy Services vs. State of Andhra Pradesh and other Delhi High Court rulings. The assessee argued that the India-USA DTAA did not incorporate these amendments and maintained the distinction between a copyright and a copyrighted article.3. Taxability Under Article 12(3) of India-USA DTAA:The AO also considered the receipts as royalty under Article 12(3) of the India-USA DTAA. The assessee argued that the software licenses were for internal use only, without transferring any copyright, thus not qualifying as royalty under the DTAA. The Delhi High Court in DIT vs. Infrasoft Ltd. and other cases had held that such transactions do not constitute royalty under the DTAA. The Tribunal agreed with the assessee, stating that the software licenses were for internal use, with significant restrictions, and did not transfer any copyright. Therefore, the receipts could not be taxed as royalty under the DTAA.4. Initiation of Penalty Proceedings Under Section 271(1)(c):The assessee also contested the initiation of penalty proceedings under section 271(1)(c) for alleged concealment of income. The Tribunal's decision to allow the appeal on the primary issues rendered the penalty proceedings moot, as there was no concealment of income.Conclusion:The Tribunal allowed the assessee's appeal, concluding that the receipts from the supply of software could not be taxed as royalty under Article 12(3) of the India-USA DTAA or under section 9(1)(vi) of the Income Tax Act. The Tribunal emphasized that amendments to domestic law could not be read into the treaty. Consequently, the tax demand and penalty proceedings were set aside.