TaxTMI 
TaxTMI 
2018 (5) TMI 1807
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.... 82,90,35,130/- as "Royalty" which has been brought to tax @ 10% in view of the India-Ireland DTAA as well as under the provision of Section 9(1)(vii) of the Income Tax Act. 3. The facts in brief are that Adobe Systems Software Ireland Ltd. (hereinafter referred to 'assessee') is a company incorporated under the laws of Ireland and is engaged into the licensing and distribution of computer software (Adobe products) outside of North America including India. Since, it is a tax resident of Ireland, therefore, assessee has claimed beneficial treaty provision of India-Ireland DTAA. The assessee had entered into non exclusive distribution agreements with Indian companies, namely, Ingram Micro India Private Limited; and Redington (India) Limited, wherein they have been appointed as distributor to distribute Adobe products in India. These products are delivered by the assessee to the Indian Distributors 'ex-warehouse' from the warehousing facility of the assessee outside India. For the Assessment Year 2008-09, the assessee has filed its return of income on 31st March, 2010 declaring 'Nil' income from the consideration paid by the Indian distributors to the assessee towards the purchase ....
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.... 4. Thereafter, the assessee submitted that in terms of Article 12 of DTAA which defines the scope of "royalty", the payment in concern will not fall under the ambit and scope of royalty, because only the payments which allow a person to use/acquire to use, copyright in a literary, artistic or scientific work alone are covered within the definition of "royalty". Here the payment made is for acquiring the right to use the product itself without allowing any right to use the copyright in the product and the same is not covered within the scope and definition of "royalty". Strong reliance was placed on the definition of 'copyright' as given in Section 14 of 'Indian Copyright Act, 1957' and also placed reliance on Article 12 of OECD Model Tax Convention. Apart from that, various decisions were also relied upon which have been incorporated in the impugned assessment order. It was further submitted that the receipts from supply of software by the assessee does not qualify royalty because; "The software distribution agreement entered into by Adobe Ireland does not grant the distributor/ end user any right in the copyright (which remains with Adobe Ireland), but merely a copy of t....
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....tor shall lake all reasonable measures to protect the Intellectual Property rights if Adobe, its licensors and suppliers in the Software Products and the Trade Marks, including providing such assistance and taking such measures as are reasonably requested by Adobe from time to time. Except as provided herein, Distributor is not granted any rights to any Intellectual Property or any rights, franchises or licenses with respect to the Software, the User Documentation, the Software Products or the Trade Marks. * The Indian distributor acts only as a channel/ intermediary between the owner/ exclusive right holder, to circulate copies to public which are not in circulation (i.e., not sold to public earlier) and the Indian distributor by itself does not have the 'right to issue copies'. In view of the above, it is evident that the software distribution agreement entered into by Adobe Ireland does not grant the Indian distributors/ customers in India with any right in the copyright (which remains with Adobe Ireland), but merely a copy of the computer program i.e. a copyrighted article/ a shrink wrapped product. Accordingly, no portion of the payment for sale of so....
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.... a work or any substantial part thereof namely, - in case of a computer programme - to sell or give on commercial rental or offer for sale or for commercial rental any copy of the computer program, it is therefore clear that the assessee has authorized to use of the copyright to the distributors in India. (ii) The Software owned by the assessee is patented software. Consideration for allowing the use of the patented article falls within the definition or royalty payment Even if it is considered that the software owned has not been patent, there is no denial of the fact that it is essentially an invention. The development of such software requires highly technical manpower, with highly sophisticated infrastructure and huge investments. Similarly the software can also be considered as a scientific work. Therefore, the software can also be said to be information developed out of scientific experience. (iii) The payment is also qualified for the use of secret formula or process. The software of Adobe when installed in a computer responds to every instruction in a specific way. It recognizes the command and as per its programming yields the desired result and reflects ....
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....uses of the agreement between the assessee and the distributors; Ingram and Redignton. The relevant clauses of the agreement as incorporated in the DRP order are reproduced hereunder for the sake of ready reference:- "(i) "End User: means a license of Software Products who acquires such products for use rather than distribution, and shall exclude distributor, dealers, resellers, VARs, OEMs, third party vendors, systems integrators, commission agents, or other parties who have licensed the product for distribution. (ii) End User License Agreement' or "EULA' means Adobe's current Software Product End User License agreement(s) for the relevant Software Product that is included with each Software Product generally in electronic form as part of a product installer. (iii) "Intellectual Property" means all intellectual property rights, similar and/or neighboring rights and sui generis rights inter alia, database protection, of whatever nature anywhere in the world and all rights pertaining thereto including but not limited to all present and future title to and/or interests therein, whether recorded or registered in any manner or otherwise, including wit....
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....ucts but not the copyright in the Software Product Distributor, its Dealers and customers' are prohibited from duplicating, reverse engineering, selling or licensing the Software Product or the copyright in the Software Product, or using the Software Product for any purpose other than as set out in this Agreement Without prejudice to the foregoing, Adobe reserves the right to: deal directly in the Software Products in the Territory, including the right to license End Users directly, via Internet distribution or otherwise; license other distributors for the Software Products in Ihe Territory; provide technical support in the Territory, and to enter into arrangements or agreements with third parties inducing but not limited to End Users, Dealers, OEMs, systems integrators or VARs in connection with the Software Products in the Territory. Eligibility and Distribution Rights: Without prejudice to the provisions of Clause 2 2 (Nature of Appointment), Adobe grants Distributor a non-exclusive, non-transferable license to distribute the Software Products in the Territory, and Distributor acknowledges that each Software Product, including each TLP Product, is to be licensed to ....
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....e to Adobe Nothing contained in this agreement shall be interpreted so as to exclude or prejudice the rights (if any) of Distributor or any End User under the European Directive on the Legal Protection of Computer Programs (as implemented-.in the relevant jurisdiction) with respect to the Software Products. 9. After relying upon the definition of 'end user' as given in the said agreement, the DRP held that license fees includes the fee for license to supply the software products in the Territory which comprises the larger part of license fee. The DRP has further noted the following facts before holding that both registered under the domestic law as well as the treaty. The said amount is to be taxed as royalty:- (i) The Software is licensed not sold. (ii) The license is for use of the software. (iii) The End User pays both for the software as also the Disk in which the software is enshrined. Larger part of the license fee is for the software. (iv) The End User; can use the software only if it binds itself to the terms and conditions prescribed as per the End User Licensing Agreement (EULA). (v) On acceptance of EULA, the End User can u....
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....ibutors have been granted the license to distribute shrink wrap products to the end users in India with copyright in such software vested with Adobe at all times. The distributors, the dealers and customers have been prohibited from duplicating, reverse engineering, selling or licensing the software products or otherwise exploiting the copyright in the said software products or using them for any purpose other than that set out in the agreement. There is no separate consideration payable by the Indian distributors for any right granted to distribute the software products in India. The payment at the most can be reckoned for acquiring the right to use the product itself without allowing any right in the copyright product. After referring to the Section 14 of the 'Copyright Act' and various exceptions carved out in Section 56 of the said Act, he submitted that none of the activities as enshrined in various clauses of Section 14 would apply. Thereafter, he referred to paragraphs 12 to 14 of OECD Model Tax Convention of 2010 and also UN Model commentary of Article 12, especially as given in paragraph 3 clause (12) and (13) and submitted that even under these commentaries; the nature of....
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....or onward sale and distribution to the customers in India. The copy of the agreements between the assessee and the Indian distributors has been placed in the paper book from pages 1 to 57. The relevant clauses of the said agreement had already been referred to while quoting from the DRP's order. However, for the sake of ready reference, relevant clauses are reiterated hereunder:- "End User" means a licensee of Software Products who acquires such products for use rather than distribution, and shall exclude distributors, Dealers, resellers, VARs, OEMs, third party vendors, systems integrators, commission agents, or other parties who have licensed tire product for distribution. "End User License Agreement" or "HULA" means Adobe's current Software Product End User license agreement for the relevant Software Product that is included with each Software Product generally in electronic form as part of a product installer. ............. "Intellectual Property" means all intellectual property rights, similar and/or neighboring rights and sui generis rights inter alia, database protection, of whatever nature anywhere in the world and all rights pertaining t....
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....Dealers and customers are prohibited from duplicating, reverse engineering, selling or licensing the Software Product or the copyright in the Software Product, or using the Software Product, for any purpose other than of set out in this Agreement. Without prejudice to the foregoing, Adobe reserves the right to: deal directly in the Software Products in the Territory, including the right to license End Users directly, via Internet distribution or otherwise; License other distributors for the Software Products in the Territory; provide technical support in the Territory, and to enter into arrangements or agreements with third parties including but not limited to End Users, Dealers, OEMs, systems integrators or VARs in connection with the Software Products in the Territory. 2.3 List of Software Products, future Adobe Software Products may be added to the License Fee List and Adobe shall use reasonable efforts to notify' Distributor within thirty (30) days of any such addition. Adobe reserves the right to discontinue the distribution or availability of any Software Product upon thirty (30) days prior notice to Distributor. If Adobe discontinues a Software Product so that i....
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....dition, Distributor agrees to distribute Software Products that are "Collections" intact and not to separate any of the contents of "Collections" packages for individual distribution. Distributor agrees not to distribute the Software Products by rental or lease. Distributor shall not supply Software Products to Dealers outside the Territory, or to Dealers who Distributor knows, or by exercise of commercially reasonable efforts should know, will distribute Software Products outside the Territory. Any distribution by Distributor of Software Products outside the Territory shall be a material breach of this Agreement for which Adobe may terminate this Agreement under Clause 16.3 (Termination for Cause). Distributor is obligated to advise Dealers and other customers of this restriction, if Adobe makes Education Versions of the Software Products available to Distributor, such products are to be distributed to Educational Establishments only. Distributor shall not supply Education Versions of the Software Products to customers who are not Educational Establishments, or to customers who will distribute such products to customers who are not Educational Establishments. Distributor is obliga....
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....tomers are prohibited from duplicating, reverse engineering, selling or licensing the software product or the copyright in the software product or using the software product for any purpose other than which has been set out in the agreement. The distributors can distribute the software solely in the form of product which has been obtained from the assessee and distributor shall not alter the design or contents of the said product. Further, the distributor is prohibited from translating the software in any other computer language in whole or in part. Thus, it is a clear cut sale of shrink-wrap software product from the assessee company to the Indian distributors and then to the end users. Now under this agreement, whether the payment received from sale of such a copyrighted software product can be reckoned as "royalty" under the India-Ireland DTAA? The relevant paragraph 3(a) of Article 12 of the said treaty reads as under:- "3(a) The term 'royalties' as used in this Article means payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work including cinematograph films or films or tapes for rad....
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....ich the copy right owner has, is necessary to trigger the concept of "royalty" as defined in the treaty. The non exclusive and non transferable license enabling the use of a copyrighted product cannot be construed as an authority to enjoy any or all of the enumerated rights ingrained in a copyright. The parting of some kind of intellectual property right inherent in and attached to the software product in favour of the licensee/customer is what has been contemplated in the phrase, use and right to use the copyright in the treaty. 17. Since copyright has not been specifically defined under the treaty, therefore, the courts have held that the definition as enshrined in 'Indian Copyright Act, 1957' has to be seen. The relevant section of the copyright Act reads as under: "14. Meaning of copyright - For the purpose of this Act, "copyright" means the exclusive right to the provisions of this Act, to do or authorize the doing of any of the following acts in respect of a work or any substantial part thereof namely; (a) In the case of a literary, dramatic or musical work, not being a computer programme, - i) to reproduce the work in any material form including....
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.... acts which do not construe infringement of copyright. For the sake of ready reference relevant portion of section 51 and 52 are reproduced hereunder:- "51. When copyright infringed- Copyright in a work shall be deemed to be infringed- (a) when any person, without a licence granted by the owner of the copyright or the Registrar of Copyrights under this Act or in contravention of the conditions of a licence so granted or of any condition imposed by a competent authority under this Act- (i) does anything, the exclusive right to do which is by this Act conferred upon the owner of the copyright, or (ii) permits for profit any place to be used for the communication of the work to the public where such communication constitutes an infringement of the copyright in the work, unless he was not aware that had no reasonable ground for believing that such communication to the public would be an infringement of copyright; or when any person- (i) makes for sale or hire, or sells or lets for hire, or by way of trade displays or offers for sale or hire, or (ii) distributes either for the purpose of trade or to such an extent as to affect prejud....
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....ringes the vendors' right. 20. Here in the present case, from the reading of the relevant clauses of the argument, it is quite ostensible that no use or right to use of a copyright in the software has been ever divested either to the distributors or to the end users. Even for the sake of argument, it is accepted that copyright has been transferred, then requirement of law is that, assignments of the copyrights has to be complied with as provided in sections 18 & 19 of the Copyright Act, which reads as under: 18. Assignment of copyright - (1) The owner of the copyright in an existing work or the prospective / owner of the copyright in a future work may assign to any person the copyright either wholly or partially and either generally or subject to limitations and either for the whole of the copyright or any part thereof: Provided that in the case of the assignment of copyright in any future work, the assignment shall take effect only when the work comes into existence. (2) Where the assignee of a copyright becomes entitled to any right comprised in the copyright, the assignee as respects the rights so assigned and the assignor as respects the rights not....
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....consideration for computer software may be classified as royalties poses difficult problems but is a matter of considerable importance in view of the rapid development of computer technology in recent years and the extent of transfers of such technology in recent years and the extent of transfers of such technology across national borders. In 1992, the Commentary was amended to describe the principles by which such classification should be made. Paragraphs 12 to 17 were further amended in 2000 to refine the analysis by which business profits are distinguished from royalties in computer software transactions. In most cases, the revised analysis will not result in a different outcome. 12.1 Software may he described as a program, or series of programs, containing instructions for a computer required either for the operational processes of the computer itself (operational software) or for the accomplishment of other tasks (application software). It can be transferred through a variety of media, for example in writing or electronically, on a magnetic tape or disk, or on a laser disk or CD-Rom. It may be standardised with a wide range of applications or be tailor-made for single....
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....oyalty where the consideration is for granting of rights to use the program in a manner that would, without such license, constitute an infringement of copyright. Examples of such arrangements include licenses to reproduce and distribute to the public software incorporating the copyrighted program, or to modify and publicly display the program. In these circumstances, the payments are for the right to use the copyright in the program (i.e. to exploit the rights that would otherwise be the sole prerogative of the copyright holder). It should be noted that where a software payment is properly to be regarded as a royalty there may be difficulties in applying the copyright provisions of the Article to software payments since paragraph 2 requires that software be classified as a literary, artistic or scientific work. None of these categories seems entirely apt. The copyright laws of many countries deal with this problem by specifically classifying software as a literary or scientific work. For other countries treatment as a scientific work might be the most realistic approach. Countries for which it is not possible to attach software to any of those categories might be justified in adop....
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....ts own business. Such arrangements are commonly referred to as "site licences", "enterprise licenses", or "network licences'". Although these arrangements permit the making of multiple copies of the program, such rights are generally limited to those necessary for the purpose of enabling the operation of the program on the licensee's computers or network, and reproduction for any other purpose is not permitted under the license. Payments under such arrangements will in most cases be dealt with as business profits in accordance with Article 7. 14.3 Another type of transaction involving the transfer of computer software is the more unusual case where a software house or computer programmer agrees to supply information about the ideas and principles underlying the program, such as logic, algorithms or programming languages or techniques. In these cases, the payments may be characterised as royalties to the extent that they represent consideration for the use of or the right to use, secret formulas or far information concerning industrial, commercial or scientific experience which cannot be separately copyrighted. This contrasts with the ordinary case in which a progra....
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....o use by the assessee to the Indian distributor. 23. In any case, now this issue stands squarely covered by the judgment of Hon'ble Jurisdictional High Court in several cases like, Nokia Networks (supra); DIT vs. Infrasoft Ltd. (supra); and CIT vs. Alcatel Lucent Canada, (2015) 231 taxmann 87. The Hon'ble Delhi High Court in the case of DIT vs. Infrasoft have threadbare discussed this issue in the context of India-US, DTAA, which has by and large the same definition, to come to a conclusion that mere transfer of right to use copy righted material, i.e., software program cannot be taxed as 'royalty' in terms of Article 12(3). The Hon'ble High Court has also held that amendment in the domestic law even from retrospective effect cannot be rad into the treaty. The relevant observation and ratio laid down in sum and substance is summarised hereunder:- * To be taxable as royalty income covered by article 12 of the DTAA the income of the assessee should have been generated by the "use of or the right to use" of any copyright. * The Licensing Agreement shows that the license is nonexclusive, non-transferable and the software has to be used in accordance wit....
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....shable from sale consideration paid for 'copyrighted' article. This sale consideration is for purchase of goods and is not royalty. * The license granted by the assessee is limited to those necessary to enable the licensee to operate the program. The rights transferred are specific to the nature of computer programs. Copying the program onto the computer's hard drive or random access memory or making an archival copy is an essential step in utilizing the program. * Therefore, rights in relation to these acts of copying, where they do no more than enable the effective operation of the program 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 business income in accordance with article 7 of DTAA. * There is a clear distinction between royalty paid on transfer of copyright rights and consideration for transfer of copyrighted articles. Right to use a copyrighted article or product with the owner retaining his copyright, is not the same thing as transferring or assigning rights in relation to the copyright. The enjoyment of some or al....
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....d under licence agreement, only the copyrighted software which' by itself is an article and they have not acquired any copyright in the software. * In the case of the Assessee company, the licensee to whom the assessee company has sold/licensed the software were allowed to make only one copy of the software and associated support information for backup purposes with a condition that such copyright would include Infrasoft copyright and all copies of the software would be exclusive properties of Infrasoft. * Licensee was allowed to use the software only for its own business as specifically identified and was not permitted to loan/rent/sale/sub-licence or transfer the copy of software to any third party without the consent of Infrasoft. * The licensee has been prohibited from copying, decompiling, de-assembling, or reverse engineering the software without the written consent of Infrasoft. The licence agreement between the Assessee Company and its customers stipulates that all copyrights and intellectual property rights in the software and copies made by the licensee were owned by Infrasoft and only Infrasoft has the power to grant licence rights for use ....
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....acts. This ratio has been further reiterated in Alcatel Lucent Canada {supra), the relevant observation in this regard reads as under:- "We have noticed, at the outset, that the ITAT had relied upon the ruling of this Court in DIT v. Ericsson A.B. [2012] 343 ITR 470/204 Taxman 192/[201 1]16 taxmann.com 371 wherein identical argument with respect to 'whether consideration paid towards supply of software along with hardware - rather software embedded in the hardware amounted to royalty. After noticing several contentions of the revenue, this Court held in Ericsson A.B. {supra) as follows:- '54. It is difficult to accept the aforesaid submissions in the facts of the present case. We have already held above that the assessee did not have any business connection in India. We have also held that the supply of equipment in 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 ....
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.... purposes of transfer. Sale is not just (if the media which by itself has very little value. The software and the media cannot be split lip. What the buyer purchases and pays Jar is not the disc or the CD, As in the case of paintings or books or music or films the buyer is purchasing the intellectual property and not the media i.e. the paper or cassette or disc or CD. Thus a transaction sale of computer software is clearly a sale of "goods" 'within the meaning of the term as defined in the said Act. The term "all materials, articles and commodities" includes both tangible and intangible/incorporeal property which is capable of abstraction, consumption and use and which can be transmitted, transferred, delivered, stored, possessed etc. The software programmes have all these attributes. 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....