2026 (3) TMI 123 - AT - Income Tax

Taxation of cross border software receipts: characterised as business profits, not royalty or FIS, absent a permanent establishment.

Receipts from sale of off-the-shelf software licences were held to be business profits, not 'royalty' under the India Canada DTAA, because the licences ... Characterisation of software receipts under Article 12 of India-Canada DTAA - existence of permanent establishment under Article 5 of India-Canada DTAA - taxation under section 44BB in absence of a PE - application of Article 7 (business profits) where no PE exists - onus to prove that the assessee has PE in India in terms of Article 5 of DTAA. HELD THAT: - The manner in which the DRP has held that the assessee has PE in India, itself speaks volume of perfunctory approach of DRP in holding that the assessee has PE in India. It is no more res integra that onus is on the Department to prove that the assessee has PE in India in terms of Article 5 of DTAA. [Re: Assistant DIT vs. E-funds IT Solution Inc.[2017 (10) TMI 1011 - SUPREME COURT]. The tax authorities have failed to discharge this onus. Hence, findings of the DRP that assessee has PE in India are without any merit. Software licence provide by the assessee is off the shelf software and not the customized software. Further, the case of the assessee herein is that it has no PE in India. The Revenue has also not been able to establish that the assessee has PE in India. Thus, the facts in the case of assessee are distinguishable from the decision rendered in the case of Paradigm Geophysical Pty. Ltd. vs. CIT (supra) as relied upon Revenue. Therefore, the said decision does not support the cause of Revenue. Given non existence of a PE, invocation of section 44BB was held to be unwarranted Final Conclusion: The Tribunal set aside the impugned assessment order for AY 2022-23, rejecting the DRP/AO's characterisation of the receipts as royalty/FIS and their finding of a PE; consequential invocation of section 44BB was held to be unwarranted. Issues: (i) Whether receipts from sale of software licences are taxable in India as 'royalty' under Article 12(3) of the India-Canada DTAA; (ii) Whether software maintenance fees are taxable in India as 'Fee for Included Services' under Article 12(4) of the India-Canada DTAA; (iii) Whether the assessee had a permanent establishment in India under Article 5 of the India-Canada DTAA so as to render receipts taxable under section 44BB of the Income-tax Act, 1961; (iv) Whether, in consequence of (iii), the entire receipts are taxable under section 44BB of the Income-tax Act, 1961.Issue (i): Whether receipts from sale of software licences are taxable in India as 'royalty' under Article 12(3) of the India-Canada DTAA.Analysis: The assessment year facts were found identical to earlier assessment years where a Coordinate Bench of the Tribunal considered the nature of the software licences and held them not taxable as royalty, treating the receipts as business income governed by the treaty. The record showed the software provided by the assessee was off-the-shelf with restricted use, and the reasoning and findings in the earlier Tribunal order apply to the impugned year. The revenue did not establish a distinguishing factual matrix.Conclusion: Receipts from sale of software licences are not taxable in India as 'royalty' under Article 12(3) of the India-Canada DTAA; conclusion in favour of the assessee.Issue (ii): Whether software maintenance fees are taxable in India as 'Fee for Included Services' under Article 12(4) of the India-Canada DTAA.Analysis: The Tribunal's prior determination on identical facts found maintenance receipts to be business income and not FIS; the AO/DRP did not bring forward any material distinguishing the impugned year. The nature of services and contracts on record did not support treating the maintenance fees as treaty-excepted service income separate from business profits in India.Conclusion: Software maintenance fees are not taxable in India as 'Fee for Included Services' under Article 12(4) of the India-Canada DTAA; conclusion in favour of the assessee.Issue (iii): Whether the assessee had a permanent establishment in India under Article 5 of the India-Canada DTAA so as to render receipts taxable under section 44BB of the Income-tax Act, 1961.Analysis: The onus to prove existence of a permanent establishment lay on the revenue. The DRP's finding of PE was based on treating licences as equipment royalty and speculative reasoning. The revenue failed to demonstrate presence or activities constituting a PE; the Tribunal's earlier order on identical facts held non-existence of PE, which applies to the impugned year.Conclusion: The assessee did not have a permanent establishment in India under Article 5 of the India-Canada DTAA; conclusion in favour of the assessee.Issue (iv): Whether, in consequence of (iii), the entire receipts are taxable under section 44BB of the Income-tax Act, 1961.Analysis: Section 44BB applies to non-residents engaged in provision of services in connection with exploration and extraction of mineral oils through a presence/activities in India. In absence of a proven PE and given that the receipts constitute business profits of a Canada resident governed by the India-Canada DTAA, the presumption of taxability under section 44BB is inapplicable. The Tribunal's prior findings disposing identical earlier years support this result.Conclusion: The entire receipts are not taxable under section 44BB of the Income-tax Act, 1961; conclusion in favour of the assessee.Final Conclusion: The appeal is allowed on core substantive issues determining that the impugned receipts are not taxable in India as royalty or FIS and that no permanent establishment existed in India for the assessee, resulting in the disallowance of taxation under section 44BB for the assessment year under consideration.Ratio Decidendi: Where revenue fails to prove existence of a permanent establishment in India and the relevant receipts constitute business profits of a treaty resident, those receipts are not taxable in India under domestic provisions such as section 44BB and must be governed by Article 7 of the applicable tax treaty.