2006 (1) TMI 167 - AT - Income Tax

Software Payments Not Royalties; No Tax Deduction Required Under Income-tax Act for Copyrighted Articles Purchase.

The Tribunal concluded that payments made by the assessee for software do not qualify as 'royalty' under section 9(1)(vi) of the Income-tax Act, 1961. ... Royalty - copyrighted article versus copyright - transfer of rights in copyright - use of copyright - business profits versus royalties - deduction under section 195 - Explanation 2 to section 9(1)(vi) - distribution right and material copyRoyalty - copyrighted article versus copyright - deduction under section 195 - Explanation 2 to section 9(1)(vi) - business profits versus royalties - distribution right and material copy - Characterisation of payments made for import and distribution of shrink wrapped (canned) software - whether they constitute 'royalty' within Explanation 2 to section 9(1)(vi) / relevant DTAAs and therefore require deduction of tax under section 195. - HELD THAT: - The Tribunal held that the payments were for acquisition of copyrighted articles (software copies) and not consideration for transfer of copyright or grant of a licence in respect of the copyright. The decision rests on statutory and contractual analysis: computer programmes are defined and protected under the Copyright Act and that protection (the copyright) is distinct from ownership of the physical medium or copy in which the programme is embodied; the distributor agreements expressly retained copyright with the vendor and did not effect assignment of exclusive rights under sections 18-19 of the Copyright Act. The agreements evidenced sale/distribution of copies (exercise of the copyright owner's rights) rather than transfer of copyright itself. The Tribunal followed and applied authoritative guidance in the OECD/UN Model Commentaries that classification depends on the nature of rights acquired, and that acquisition of a programme copy or rights limited to enabling operation normally yields business income (Article 7) rather than royalties. Domestic authorities including the Supreme Court decisions treating software on media as 'goods' and the CBDT circulars further supported treating these transactions as purchase/sale of goods. Consequently the payments do not fall within Explanation 2 to section 9(1)(vi) or the royalty definitions in the relevant DTAAs and thus are not chargeable as royalties for TDS under section 195. [Paras 6]Payments for import and distribution of shrink wrapped software are payments for copyrighted articles (purchase/sale of goods) and not royalties; therefore no deduction under section 195 was required and the appeals are allowed.Final Conclusion: The Tribunal allowed the appeals: payments for imported shrink wrapped software were held to be consideration for purchase/distribution of copyrighted articles (not transfer of copyright or licence giving rise to 'royalty'), and accordingly were not subject to withholding under section 195. Issues Involved:1. Whether payments made by the assessee for the purchase of software from foreign entities constitute 'royalty' under section 9(1)(vi) of the Income-tax Act, 1961.2. Whether the assessee is liable to deduct tax at source under section 195 of the Income-tax Act on such payments.3. Whether the payments made for software are for the acquisition of copyrighted articles or for the transfer of copyright itself.Issue-wise Detailed Analysis:1. Nature of Payments for Software:The primary issue is whether the payments made by the assessee for software constitute 'royalty' under section 9(1)(vi) of the Income-tax Act. The Tribunal previously held in the assessee's own case that the payments for software are not for acquiring any copyright but for the use of a copyrighted article. This view aligns with the decision in Tata Consultancy Services, where the Supreme Court held that software is considered goods. The Tribunal reiterated that the payments are for the purchase and sale of goods, not royalties.2. Liability to Deduct Tax at Source:The Tribunal examined whether the assessee was liable to deduct tax at source under section 195. The Assessing Officer had previously held the assessee in default under section 201 for failing to deduct tax on similar payments. However, the Tribunal found that since the software payments are for goods and not royalties, section 195 does not apply. The Tribunal emphasized that the payees had no permanent establishment in India, and thus, no income is deemed to accrue or arise in India.3. Distinction Between Copyright and Copyrighted Articles:The Tribunal analyzed whether the payments were for the acquisition of copyrighted articles or the transfer of copyright. The agreements between the assessee and the software vendors indicated that the copyright remained with the vendors, and the assessee only acquired the right to distribute the copyrighted material. The Tribunal clarified that the rights to reproduce, distribute, or rent the software were not transferred to the assessee. The payments were for the use of copyrighted articles, not for acquiring any rights in the copyright itself.Legal Interpretations and Precedents:The Tribunal referred to various legal precedents and statutory interpretations to support its conclusions. It cited the OECD and UN Model Commentaries, which distinguish between payments for the use of copyrighted articles and payments for the use of copyright. The Tribunal also considered rulings from the US and Australia, which supported the view that software payments are not royalties but payments for copyrighted articles.Conclusion:The Tribunal concluded that the payments made by the assessee for software do not constitute royalties under section 9(1)(vi) of the Income-tax Act. Consequently, the assessee is not liable to deduct tax at source under section 195. The appeals were allowed in favor of the assessee, affirming that the payments were for the purchase of goods (copyrighted articles) and not for the transfer of copyright.