TaxTMI 
TaxTMI 
2013 (9) TMI 519
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....ised on 01.07.2002 and 01.07.2004 and 01.07.2006. As per the said agreement, the assessee was to pay service charges to M/s. Sonata Software Ltd. for rendering the following services: (a) Advise and assistance to SITL relating to compliance of various laws, Orders, Regulations and legal requirements of the Central, State and other governmental and local authorities concerning the conduct of the business and affairs of SITL. (b) Training employees of SITL in the above areas; (c) Assist and liaise with various government departments as and when required by SITL (d) Overseeing the compliance requirements in regard to Companies Act, including matters related to Board of Directors and shareholders, contractual matters, advice and assistance in maintenance of statutory records, filing required return and form etc. Further, all out of pocket expenses including travel, conveyance etc. were to be billed separately by Sonata Software Ltd. and was to be reimbursed by the assessee. The quantum of service charges was determined by adopting the following basis. The expenditure incurred by SSL on account of insurance, salaries, allowances, directors' remuneration's e....
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....ercial expediency means anything that serves to promote and includes every means suitable to that end and expenditure which a prudent man may incur for the purpose of business. The decisions rendered in the following cases were referred to for the above proposition viz., Indian Steel & Wire Products Ltd. v. CIT [1968] 69 ITR 379 (Cal.) & Calcutta Landing & Shipping Co. Ltd. v. CIT [1967] 65 ITR 1, (Cal.). It was argued that it was the prerogative of the businessman how to run the business and it is not upon the Revenue to prescribe what expenditure an assessee should incur and in what circumstances it should incur. It was reiterated that every businessman knows his interest best - CIT v. Dhanrajgirji Raja Narasingirji [1973] 91 ITR 544 (SC). The decision of the Hon'ble Supreme Court in the case of CIT v. Walchand & Co. (P.) Ltd. [1967] 65 ITR 381 was referred to and it was submitted that in applying the test of commercial expediency whether the expenditure was wholly and exclusively laid out for the purpose of business, reasonableness of the expenditure has to be judged from the point of view of the business man and not of the revenue. The Hon'ble Bombay High Court's decision in th....
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....9/- should be allowed as business expenditure. 7. The AO however was of the view that (i) Payment of service charges by the Assessee to SSL is mere diversion of income without services rendered by SSL. Mens rea for this claim is to reduce taxable profit and claim more section 10-A profit in SSL. (ii) The receipts on account of Service Charges in the hands of SSL have not been credited separately as the income of its non-section 10A activity. However, these receipts have been reduced from the expenditure claimed of section 10A activity of SSL. The net implication of this is that the profits of the section 10A activity of SSL have increased and on which no tax has been paid. Whereas in fact, these receipts are clearly pertaining to the non section 10A activity of SSL and therefore such receipts should have been offered to tax. (iii) The assessee has contended that the said agreements have been executed in the best interest of the business between two independent corporate entities. It has also been contended that the same has been incurred out of commercial expediency. It has further been submitted that it is prerogative of the businessman as to how to run its business and the depar....
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....ng the Tribunal order for the earlier assessment years. 10. At the time of hearing it was agreed by the parties that similar issue had come for consideration in assessee's own case in A.Y 2001-02 in ITA No.3702/M/04 and this Tribunal on identical issue held as follows: "7. The next issue arising from the appeal of assessee relates to the disallowance of Rs. 6,55,88,590/- on account of service charges paid to Sonata Software Ltd. (SSL). Brief facts giving rise to this appeal are these: The assessee is 100% subsidiary of SSL. It came into existence in the year under consideration with the object to carry out one of the activities of SSL which was not eligible for exemption u/s.10A. Prior to the year under consideration, SSL was carrying out two independent activities i.e. (i) activity eligible for exemption u/s. 10A and (ii) the activity not eligible for exemption u/s. 10A. Separate accounts were maintained by SSL for these activities. Direct expenses relating to these activities were accounted for in the separate accounts respectively. However, service charges were common and later on allocated to these activities on the basis of turnover. The assessee, after its incorporation, to....
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.... incurred by SSL on account of insurance, salaries and allowances, directors remuneration, electricity and water charges, printing and stationery, professional charges, repairs and maintenance, rent for offices and also depreciation. The assessee was categorically asked to furnish supporting evidences to show that the said services stated at (a) to (d), above were rendered by SSL. However, the assessee has not furnished the same till the finalization of the assessment. The only evidences submitted are the debit/credit notes raised on the assessee by SSL according to which the expenses incurred in SSL have been apportioned to the assessee on the basis of turnover of the assessee and SSL. Payment pf service charges from SITL to SSL is mere diversion of income without services rendered by SSL. Mens rea for this claim is to reduce taxable profit and claim more 10-A profit in SSL. (iii) The receipts on account of Service Charges in the hands of SSL have not been credited separately as the income of its non-10A activity. However, these recetts have been reduced from the expenditure claimed of 10A activity of SSL. The net implication of this is that the profits of the 10A activity ....
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....he Assessing Officer in support of the expenditure included in the debit notes show that not only legal and other specified services were the subject in the agreement but also other services which are not specifically stated in the agreement were also included." 10. The CIT(A) examined the details of the expenditure which had been allocated on the basis of respective turnover which was given along with debit notes. It has been made clear that such details were also furnished before Assessing Officer. (See page 23-24 of the order). It was noted by CIT(A) that entire expenditure was incurred commonly for SSL and assessee and was allocated on the basis of turnover. According to him, business activities of SSL was much more expenditure oriented than business activity of assessee. Hence, in his opinion, the expenditure on support services to the assessee in the ratio of turnover was patently wrong. After going through the agreement, it was also held that SSL was required to advise the assessee in the matters of finance, accounts, taxation, legal, administration, HRD etc. and proper maintenance of record, compliance under various laws and training of employees. He also noted that assess....
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.... heads - 1) STP units entitled to deduction u/s. 10A and non-STP which is not entitled for deduction u/s. 10A on the basis of turnover ratio. In our considered opinion the allocation of expenditure contained in the Paper book at page 27 to 31 appears to be appropriate. As per details contained in pages 27 to 31, it can be seen that the appellant company has only allocated expenses of Support Service Division between section 10A and non-section 10A activities in the ratio of turnover has been called for by the Assessing Officer by this letter dated 20.01.2000 appearing at page 35 of the Paper book. Further, direct expenses relating to section 10A and non-section 10A activity has been directly charged against the profits of these activities and do not call for any interference." . The above observations of the Tribunal resolve the controversy before us. Admittedly, prior to incorporation of assessee company, SSL was carrying on two units independently i.e. unit exempted u/s. 10A and the unit not exempted. Direct expenses incurred were separately booked to respective units. Only the support services expenses were allocated on the basis of turnover. Such allocation has been found to b....
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....ee had claimed expenses under the head "Deputation Expenses" of Rs. 5,51,27,246/- and Rs. 1,36,63,680/- under the head "Other Expenses". These expenses were claimed as having been incurred by M/s. Sonata Software Ltd. (SSL) on behalf of the Assessee, which the Assessee had reimbursed to SSL. The AO called upon the Assessee to establish that SSL had really incurred these expenses on behalf of the Assessee. The Assessee filed debit notes raised by SSL regarding the above expenses. According to the AO no supporting evidence was filed and therefore the Assessee failed to establish that the payment was made to SSL in respect of services performed for and on behalf of the Assessee. The AO also held that the Assessee failed to establish that expenses in question were incurred for the purpose of business of the Assessee. The AO also held that there was already an agreement between the Assessee and SSL whereby SSL was rendering common services in the areas of Finance, Accounts, Taxation, Legal Administration, HRD etc. for which the Assessee was making payment to SSL. The AO held that the Assessee failed to establish that the reimbursement of expenses in question were different from the serv....
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....ction pointing out specifically as to how these expenses were not related to the business of the Assessee. The CIT(A) deleted the addition made by the AO as he was satisfied that the expenses in question were incurred wholly and exclusively for the purpose of business of the Assessee and that the same were genuine. He therefore directed the AO to allow the claim of the Assessee. Aggrieved by the order of the CIT(A), the Revenue has raised Gr.No.3 before the Tribunal. 17. We have heard the submissions of the learned DR on Gr.No. 2 and 3 who relied on the order of the AO. The learned counsel for the Assessee reiterated submissions made before CIT(A) and the order of the CIT(A). 18. We have considered the rival submissions. While deciding Gr.No.1 of the Assessee, we have already seen the terms of the Agreement between the Assessee and SSL by which SSL agreed to render some common services in the areas of Finance, Accounts, Taxation, Legal, Administration, HRD, education, Training, Research etc. Clause-3 of the said agreement which have been referred to in the earlier part of this order clearly shows that the expenses covered by that agreement cannot and do not relate to expenditure ....
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....last month of the previous year, on or before the due date specified in sub-section (1) of section 139 ; or (B) in any other case, on or before the last day of the previous year. Provided that where in respect of any such sum, tax has been deducted in any subsequent year, or has been deducted- (A) during the last month of the previous year but paid after the said due date ; or (B) during any other month of the previous year but paid after the end of the said previous year, such sum shall be allowed as a deduction in computing the income of the previous year in which such tax has been paid." ; According to the AO, the payment in question is in the nature of Royalty because it was for a right to use software and therefore the Assessee ought to have deducted tax at source and since the Assessee had not so deducted tax at source, the sum in question was allowed as deduction in computing income under the head business income and an addition was made accordingly to the business income of the Assessee. The AO also relied on the decision of the Hon'ble Karnataka High Court in the case of CIT (International Taxation) v. Samsung Electronics Co. Ltd. wherein the issue w....
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....oftware into the hard disk of the designated computer and to take a copy for backup purposes, the end user has no other right and the said taking backup would have constituted an Infringement, but for the licence. Therefore, licence 1granted for taking copy of the software and to store It in the hard disk and to take a backup copy and right to make a copy Itself is a part of the copyright. Therefore, when licence to make use of the software by making copy of the same and to store it in the hard disk of the designated computer and to take back up copy of the software, it is clear that what is transferred is right to use the software, an exclusive right which the owner of the copyright i.e., the respondent -- supplier owns and what is transferred is only right to use copy of the software for the Internal business as per the terms and conditions of the agreement. The decision of the Delhi High Court In Commissioner of Income-tax Delhi - V v. M/s. Dynamic Veritcal Software India Pvt. Ltd. in ITA No. 1692/2010 Dated 22.02.2011 relied upon by Sri Aravind Dattar, learned senior counsel appearing for the respondent in some of the cases in support of his contention that by no stretch of ima....
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....e operative only if it is downloaded to the hardware of the designated computer as per the terms and conditions of the agreement and that makes the difference between the computer software and copyright in respect of books or prerecorded music software as book and prerecorded music CD can be used once they are purchased, but so far as software stored in dumb CD is concerned, the transfer of dumb C.D. by itself would not confer any right upon the end user and the purpose of the CD is only to enable the end user to take a copy of the software and to store it in the hard disk of the designated computer if licence is granted in that. behalf and in the absence of licence the same would amount to infringement of copyright, which is exclusively owned by non-resident suppliers, who would continue to be the proprietor of copyright. Therefore, there is no similarity between the transaction of purchase of the book or prercorded music C.D. or the C.D. containing software and in view of the same the Legislature in its wisdom, has treated the literary work like books and other articles separately from computer software within the meaning of the 'Copyright' as referred to above under Section 14 o....
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....Court was dealing with a question as to whether the Tribunal was justified in holding that the consideration for supply of software was not a payment by way of royalty, and hence was not assessable both u/s.9(1)(vi) of the Act and the relevant clause of DTAA with Sweden. The facts of the aforesaid case were that the assessee company was incorporated in Sweden and was one of the leading suppliers of telecommunication equipment comprising of both, hardware and software. The assessee company had entered into agreements with ten cellular operators in India for supply of hardware and software. The Assessing Officer was of the view that the income of the assessee was taxable in India, both, under the Income-tax Act, 1961 as well as under the treaty between India and Sweden. He held that it was business income and Assessee had a PE in India. The CIT(A) held that the receipts in respect of license to use software which is part of the hardware alone could be taxed in India as royalty. The Assessee argued before Tribunal that the payment made by the assessee for the use of software in the equipment does not amount to royalty. The Tribunal in the aforesaid context examined the issue as to whe....
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....w, royalty is essentially a payment received as consideration for the use or right to use a particular integral property right, whether partially or entirely. 52. We find that the Tribunal has held that there was no payment towards any royalty and this conclusion is based on the following reasoning:- (i) Payment made by the cellular operator cannot be characterized as royalty either under the Income Tax Act or under the DTAA. (ii) The operator has not been given any of the seven rights under S.14 (a) (i) to (vii) of the Copyright Act, 1957 and, therefore what is transferred is not a copyright but actually a copyrighted article (iii) The cellular operator cannot commercially exploit the software and therefore a copyright is not transferred. (iv) Further, the parties to the agreement have not agreed upon a separate price for the software and therefore it is not open for the income tax authorities to split the same and consider part of the payment for software to be royalty (v) The bill of entry for importing of goods shows that the price has been separately mentioned for software and that this was only for the purposes of customs. There is no evide....
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....n question was in the nature of supply of goods. Therefore, this issue is to be examined keeping in view these findings. Moreover, another finding of fact is recorded by the Tribunal that the Cellular Operator did not acquire any of the copyrights referred to in Section 14(b) of the Copyright Act, 1957. 55. Once we proceed on the basis of aforesaid factual findings, it is difficult to hold that payment made to the assessee was in the nature of royalty either under the Income-Tax Act or under the DTAA. We have to keep in mind what was sold by the assessee to the Indian customers was a GSM which consisted both of the hardware as well as the software, therefore, the Tribunal is right in holding that it was not permissible for the Revenue to assess the same under two different articles. The software that was loaded on the hardware did not have any independent existence. The software supply is an integral part of the GSM mobile telephone system and is used by the cellular operator for providing the cellular services to its customers. There could not be any independent use of such software. The software is embodied in the system and the revenue accepts that it could not be used independ....
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....* ** ** "In Advent Systems Ltd. v. Unisys Corpn. 925 F. 2d 670 (3rd Cir. 1991), relied on by Mr. Sorabjee, the court was concerned with interpretation of uniform civil code which "applied to transactions in goods". The goods therein were defined as "all things (including specially manufactured goods) which are moveable at the time of the identification for sale". It was held : "Computer programs are the product of an intellectual process, but once implanted in a medium are widely distributed to computer owners. An analogy can be drawn to a compact disc recording of an orchestral rendition. The music is produced by the artistry of musicians and in itself is not a "good," but when transferred to a laser-readable disc becomes a readily merchantable commodity. Similarly, when a professor delivers a lecture, it is not a good, but, when transcribed as a book, it becomes a good. That a computer program may be copyrightable as intellectual property does not alter the fact that once in the form of a floppy disc or other medium, the program is tangible, moveable and available in th....
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....cation of the hardware/software supply was necessary because of the differential customs duty payable. 59. Be as it may, in order to qualify as royalty payment, within the meaning of Section 9(1)(vi) and particularly clause (v) of Explanation-II thereto, it is necessary to establish that there is transfer of all or any rights (including the granting of any license) in respect of copy right of a literary, artistic or scientific work. Section 2 (o) of the Copyright Act makes it clear that a computer programme is to be regarded as "a literary work". Thus, in order to treat the consideration paid by the cellular operator as royalty, it is to be established that the cellular operator, by making such payment, obtains all or any of the copyright rights of such literary work. In the presence case, this has not been established. It is not even the case of the Revenue that any right contemplated under Section 14 of the Copyright Act, 1957 stood vested in this cellular operator as a consequence of Article 20 of the Supply Contract. Distinction has to be made between the acquisition of a "copyright right" and a "copyrighted article". 60. Mr. Dastur is right in this submission which is based ....
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.... Hon'ble High court of Karnataka and Hon'ble High Court of Delhi are the decisions of High Court available as of now on the issue. 27. The next submission of the ld. Counsel for the assessee before us, by way of alternate submission was that as on the last date of the previous year the payments to the suppliers of software in a majority of cases had already been paid. In this regard the learned counsel sought to file before us additional evidence to show the payments made on or before the last day of the previous year. The ld. Counsel for the assessee drew our attention to the decision of the Special Bench of the ITAT, Visakhapatnam Bench in the case of Merilyn Shipping & Transports v. Addl. CIT. The Special Bench of the Tribunal in the aforesaid decision by a majority expressed the view that the provisions of section 40(a)(ia) of the Act are applicable only to the amounts of expenditure which are payable as on the date 31st March of every year and it cannot be invoked to disallow expenditure which had been actually paid during the previous year, without deductions of TDS. The ld. Counsel for the assessee submitted that the factum of actual payment can be verified by the AO and su....
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....of the Hon'ble Supreme Court in the case of Tata Consultancy Services (supra) went on to observe at para-56 of its judgment that when software is incorporated in a CD it becomes a tangible property and the payment made for acquiring the same is not a payment by way of royalty. In para-60 of its judgment, the Hon'ble Delhi High Court has approved the ruling of the Authority for Advance Ruling (AAR) in the case of Dassault Systems KK 322 ITR 125 (AAR). The facts giving rise to the ruling of the AAR were that the applicant, a Japanese company, engaged in the business of providing "Products lifecycle management" software solutions, applications and services, marketed licensed software products mostly through a distribution channel comprising value added resellers (VAR) who were independent third party resellers. To authorize a VAR to act as a reseller the applicant entered into a general VAR agreement. The terms of the agreement explicitly provided for the appointment of reseller/distributor of product on a non-exclusive basis for making the product available to the end-user within the territory for his internal use. The product was sold to the VAR for a consideration based on the stan....
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.... benefit of data or instructions contained therein without any further right to deal with them independently did not amount to transfer of rights in relation to copyright or conferment of the right of using the copyright. (iii) That the VAR had not been given an independent right to sell or offer for sale the software products of the applicant to the end-users. What the VAR did, in the course of carrying out its marketing function, was to canvass for orders, collect the purchase order from the interested customer and forward that offer to the applicant; and it was the applicant that accepted or rejected that offer. In the absence of an independent right to conclude the sale or offer for sale, section 14(b)(ii) of the Copyright Act, 1957, could not be invoked to bring the case within the fold of article 12(3) of the DTAA or section 9(1)(vi) of the Income-tax Act, 1961. 10. In Para 60 of its judgment the Hon'ble Delhi High Court has accepted the commentary on OECD Model Convention referred to in Dassault Systems KK (Supra), which is as follows: "Transfers of rights in relation to software occur in many different ways ranging from the alienation of the entire rights in the co....
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....ht holder, copying the programme onto the computer's hard drive or random access memory or making an archival copy is an essential step in utilizing the programme. Therefore, rights in relation to these acts of copying, where they do no more than enable the effective operation of the programme by the user, should be disregarded in analyzing the character of the transaction for tax purposes. Payments in these types of transactions would be dealt with as commercial income in accordance with article7. The method of transferring the computer programme to the transferee is not relevant. For example, it does not matter whether the transferee acquires a computer disk containing a copy of the programme or directly receives a copy on the hard disc of her computer via a modem connection. It is also of no relevance that there may be restrictions on the use to which the transferee can put the software." (Underlining by us for emphasis) 11. After referring to the aforesaid OECD Commentary, the AAR in its decision rendered in the case of Dassault Systems KK (supra) observed as follows: "It has been contended on behalf of the Revenue that the right to reproduce the work in any material form i....
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....he purpose of which it was supplied" will not constitute infringement of copyright. Consequently, customization or adaptation, irrespective of the degree, will not constitute "infringement" as long as it is to ensure the utilization of the computer programme for the purpose for which it was supplied. Once there is no infringement, it is not possible to hold that there is transfer or licensing of "copyright" as defined in the Copyright Act and as understood in common law. This is because, as pointed out earlier, copyright is a negative right in the sense that it is a right prohibiting someone else to do an act, without authorization of the same, by the owner. It seems to us that reproduction and adaptation envisaged by section 14(a)(i) and (vi) can contextually mean only reproduction and adaptation for the purpose of commercial exploitation. Copyright being a negative right (in the sense explained in paragraph 9 supra), it would only be appropriate and proper to test it in terms of infringement. What has been excluded under section 52(aa) is not commercial exploitation, but only utilizing the copyrighted product for one's own use. The exclusion should be given due meaning and effec....