*IN THE HIGH COURT OF DELHI AT NEW DELHI
% Judgment reserved on : 3 rd July, 2013
Judgment pronounced on:22nd November, 2013
+ ITA 1034/2009
DIRECTOR OF INCOME TAX ..... Appellant
Through Mr. Sanjeev Sabharwal,
Advocate.
versus
INFRASOFT LTD. ..... Respondent
Through Mr. Ajay Vohra with Mr.
Somnath Shukla,
Advocates.
CORAM:
HON'BLE MR. JUSTICE SANJIV KHANNA
HON'BLE MR. JUSTICE SANJEEV SACHDEVA
SANJEEV SACHDEVA, J.
1. This is an appeal under Section 260A of the Income
Tax Act, 1961 (hereinafter referred to as the "Act")
filed by the Revenue impugning order dated
19.12.2008 passed by the Income Tax Appellate
Tribunal (hereinafter referred to as "ITAT")
2. Vide order dated 20.10.2009, the following
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substantial questions of law were framed:
"1) Whether the learned ITAT erred in
holding that nature of receipts amounting to
Rs. 2,74,00,630/- was business income and not
royalty income wherein the meaning of
Section 9(1)(vi) read (SIC) with Article 12 of
Indo-US-DTAA?
2) Whether supply of software on license is
royalty/included services within the meaning
of Section 9(1)(vi) / Article of Income Tax Act /
Indo-USA-DTAA?"
3. On 03.07.2013, the counsel for the respondent
Assessee submitted that he was not relying upon
Section 9(1)(vi) of the Income Tax Act and in view of
the statement made by the counsel, we on 03.07.2013
held that Explanation 4 to Section 9(1)(vi) of the
Income Tax Act, 1961 need not be examined and
applied. Reference was also made to the judgment of
the Supreme Court in UNION OF INDIA VS . AZADI
BACHAO A NDOLAN (2003) 263 ITR 706. In view of what
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transpired on 03.07.2013, with respect to the
examination and applicability of Section 4 to Section
9(1)(vi), the second issue framed on 20.10.2009, does
not arise for consideration and is thus not dealt with in
the present judgment. The substantial Question of law
framed on 20.10.2009 was recast as under:
"Whether the Income Tax Appellate Tribunal
was right in holding that the consideration
received by the respondent Assessee on grant
of licences for use of software is not royalty
within the meaning of Article 12(3) to the
Double Taxation Avoidance Agreement
between India and the United States of
America?"
4. The respondent/Assessee is an international software
marketing and development company of an
international group. The holding company is based in
US being Infrasoft Corporation.
5. The Assessee M/s Infrasoft Ltd. is primarily into the
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business of developing and manufacturing civil
engineering software. One such software, which is
subject matter of the present controversy, is called
MX. The said MX software is used for civil engineering
work and for design of highways, railways, airports,
ports, mines, etc. The said software is used by private
consultants.
6. In view of the market position, the Board of the
Assessee Infrasoft Limited opened a branch office in
India. The branch in India imports the package in the
form of floppy disks or CDs depending on the
requirements of their customers. The system is
delivered to a client/customer. The delivery of the
system entails installation of the system on the
computers of the customers and training of the
customers for operation of the system. The branch
office further undertakes the responsibility of updation
and operational training apart from providing support
for solving any software issues. The respondent
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Assessee develops customized software to be used by
the customers for designing highways, railways,
airports, ports, mines, etc. The software so customized
is then licensed to an Indian customer and the branch
office of the Assessee in India perform services
involving interface to peripheral installation and
training etc.
7. On 28.11.2003, the respondent Assessee vide its
return of income, declared a loss of Rs.21,75,246/-.
The same was assessed under Section 143(3) of the
Act on 31.01.2006. The assessment order was framed
by the Assessing Officer (hereinafter referred to as the
"AO") whereby the Assessing Officer taxed the
receipts on sale of licensing the software as "royalty"
as per Article 13 (Sic Article 12) of Indo-US Double
Taxation Avoidance Agreement. Under Section 44D
read with Section 115A of the Income Tax Act, the
Assessing Officer brought the aggregate amount of
Rs.2,85,76,278/-, received by the Assessee during the
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year under consideration to tax at 20%.
8. The AO issued a show cause notice to the Assessee
company requiring them to show cause as to why the
receipts shown by the Assessee company from
sale/licensing of software, having referred to the
nature of service rendered by the Assessee company,
should not be taxed as royalty as per Article 13 (Sic
Article 12) of DTAA and Section 44D read with Section
115A of the Act.
9. In reply to the said show cause notice, the Assessee
company relying on the judgment of the Supreme
Court in the case of TATA CONSULTANCY SERVICES VS .
STATE OF A NDHRA PRADESH (2004) 271 ITR 401 (SC)
(BCAJ) (2005) 1 SCC 308 stated that the moment
copies of software programmes were made and
marketed, the same become goods which were
chargeable to sales tax. The Assessee company
further contended that when the software were goods
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as held by the Supreme Court in the said case, the
Assessee company would be entitle to deduction of
purchase cost of software as well as other expenses
incurred and the net profit alone could be taxed as
business profit as per Article 7 of DTAA between USA
and India. The Assessee company further objected to
the show cause notice contending alternatively that
even if the receipts were to be treated as royalties or
even for technical services, the same having arisen
through a permanent establishment in India, it was
chargeable to tax as business profit as per the said
Article 7 of DTAA. The Assessee further contended
before the AO that Section 44D inserted by Finance
Act, 2003 w.e.f 01.04.2004, making all the expenditure
incurred for earning royalty or fee for technical
services allowable, was liable to be given retrospective
application to the case of the Assessee for the
Assessment Year 2003-04 as that was the legislative
intent behind insertion of the said provision.
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10. The AO rejected the contention of the Assessee
company. With respect to the decision of the Supreme
Court in TATA Consultancy Services (supra), the
AO distinguished the said judgment holding that the
same had been rendered in the context of the Sales
Tax Act and was applicable in terms of the definition of
"goods" as given in the Sales Tax Act and was in the
context of deciding whether the software recorded on
the computer disk was covered within the said
definition of goods or not. In the context of the facts of
the case as per the AO, the said judgment was not
applicable.
11. With regard to the definition of royalty as given in
Section 9 (1) (vi) of the Act as well as Article 12 of the
DTAA, the AO came to the conclusion that the amount
received by the Assessee company from
sales/licensing of the software was royalty in terms of
the said definition. The reasoning of the AO to arrive
at this conclusion is as under:-
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"(i) The software is licensed not sold. The
copyright of the software remains with the
Assessee however it allows the use of
copyright to the person making payment to it.
As per the Indian Copyright Act 1957 as
amended in 1994 software are entitled to
copyright protection. The Assessee possesses
Copyright in the software, which it can enforce
in India if any violation of such right is notices
by it. Further the Indian Copyright Act
recognizes `copyright' as doing or authorizing
the doing of any of the following acts in respect
of 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 of the customer 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
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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
developed by Infrasoft 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 the same on the output devices.
This argument is further strengthen from the
fact that cost of the medium viz. computer
discs, floppy etc., on which the program is
written is negligible as compared to the overall
price of software. Had it not been a secret
programming, anybody could have written
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these types of programs and sold it at a very
low price as compared to the price of the
original software.
(iv) The software developed by infrasoft is
customizing software which are used for
specific purposes like design of highways,
railways, airport, port, mines etc. This software
are purchased by private consultant or end
users and they further exploits for commercial
purposes. This clearly falls under definition of
`royalty'."
12. In view of the above reasoning, the AO treated the
entire amount received by the Assessee Company for
transfer of software as well as other incidental
services towards installation of software, imparting of
training etc. in the nature of royalty. He further held
that since the royalty income had accrued/arisen to the
Assessee Company through its PE in the form of
branch office in India, the same was chargeable to tax
in India as per Article 13 (vi) (Sic Article 12 (vi))of the
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DTAA. He held that though the royalty income was
liable to be taxed as business profit under Article 7 of
DTAA, the expenses incurred for earning the said
income were to be allowed as per domestic law and as
per him, since Section 44D was applicable to the
Assessment Year 2003-04 specifically prohibited any
allowance for such expenditure, the entire amount
received by the Assessee as royalty was thus
chargeable to tax @ 20% of the gross receipts as per
the provisions of Section 44D read with Section 115A
of the Act. The AO thus brought the aggregate amount
of Rs.2,85,76,278/- received by the Assessee during
the year under consideration to tax @ 20%. The AO
thus framed the assessment under Section 143(3) vide
his order dated 31.01.2006.
13. Aggrieved by the order of the AO, the Assessee filed
an appeal before the Commissioner of Income Tax
(Appeals) (hereinafter referred to as the ,,CIT (A)). The
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main grounds raised by the Assessee company
against the said order were as under:-
(i) The programme software was goods in
terms of the judgment in the case of TATA
CONSULTANCY SERVICES (SUPRA);
(ii) The payment received by the Assessee
company was payment for copyrighted article
and not copyrighted right and thus could not
be assessed as royalty under Article 13 (Sic
Article 12) of DTAA;
(iii) The provision of DTAA override the
provision of Income Tax;
(iv) The right to use a copyright was totally
different from the right to use a programme
embedded in a software;
(v) There was no transfer of right in a
copyrighted article;
(vi) The Assessee company carried on
business in India through a permanent
establishment and thus Article 13(vi) of the
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Indo-UK Convention was not applicable but in
fact Article 7 was applicable;
(vii) Section 115A could not be applied as the
receipts were not royalty and since the receipts
were not taxable as royalty and fee for
technical services, the same could not be
subjected to tax under Section 44D read with
Section 115A.
14. The CIT(A) vide the order dated 10.01.2008, rejected
the submissions of the Assessee company. The CIT(A)
in his order noted that the Assessee company was
engaged in licensing of MX software which is an
engineering friendly tool for designing all types of road
projects to Indian customers. He noted the clarification
on behalf of the Assessee company that the standard
MX software needed to be customized depending on
the country-wise, project-wise and customer specific
requirements and that the software was supplied by
the Assessee company to customers in India only after
such customization to include Indian standard of road
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construction and project specific requirements of the
Indian customers. On the issue of the Assessee
company having PE in India in the form of a branch
office, the CIT(A) noted that there was no dispute that
the branch office of the Assessee company had been
opened in terms of the approval granted by the
Reserve Bank of India and constituted a PE in India.
15. The CIT(A) examined a sample representative
agreement between the Assessee company and one
of its Indian customers for software licensing and
maintenance to ascertain the exact nature and
character of income received by the Assessee
company in India on account of supply of software,
annual maintenance charges and training fee
amounting to Rs.2,74,00,630/-, Rs.9,25,648/- and
Rs.2,50,000/- respectively. After referring to the
relevant terms and conditions of the said agreement,
the CIT(A) came to the conclusion that the Assessee
company had transferred certain rights to the Indian
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customers to use software at certain locations for fixed
licence fee. The CIT(A) noted that the amounts
received by the Assessee company were in lieu of the
following services rendered by it:
"(a) that appellant had transferred certain
right in respect of copyright of software to
Indian customers.
(b) that appellant had charged `Licence Fee'
for supply of software as evident from terms
and conditions of `Licence fee' agreement. It is
pertinent to mention here that no where under
the agreement words `sale consideration' were
used.
(c) that appellant had granted licence to
Indian customer to use the software in lieu of
the payment.
(d) that appellant had also received payment
in lieu of software maintenance service which
included provisions of updates and user
support services to customers.
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(e) that appellant had also received payment
in lieu of training services rendered to Indian
customers."
16. The CIT(A) held that what was taxed as royalty was
the amount received as consideration for the use or
right to use and not outright purchase of the right to
use an asset. He held that the royalty was a
consideration including a lump sum consideration for
transfer of all or any right (including the granting of a
licence) in respect of a copyright, patent, trademark,
design and modal or secret formula etc. According to
the CIT(A), there are two types of transfers, one is
transfer of "right in the property" and transfer of "right
in respect of property". He held that these two
transfers were distinct and had different legal effects.
In one, right for purchase while in other, no purchase
is involved. He relied on the decision of the Calcutta
High Court in the case of CIT VS. D AVY ASHMORE INDIA
LTD. (1991) 190 ITR 626, wherein it was held that
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ITA 1034/2009 Page 17 of 174
where a transferee retains the property rights in a
design, secret formula etc. and allows the use of such
rights, the consideration received for such user was in
the nature of royalty and where there is an outright
sale or purchase, the consideration is for transfer of
such design, secret formula etc. and could not be
treated as royalty. The CIT(A) finally held that the
amount received by the Assessee Company from its
Indian customers under software licence agreement
was in the nature of royalty and same was chargeable
to tax in India as per Explanation 2 to Section 9(1)( vi).
The CIT(A) rejected the plea of the Assessee
company wherein the Assessee company had relied
on the revised OECD commentary to contend that only
transfer that enabled a transferee to commercially
exploit a software copyright gave rise to royalty
income and as only limited right to use the software
had been transferred, the amount received for such
limited use was not royalty income. The CIT(A)
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rejected the contention of the Assessee company
holding that OECD had given a very conservative
interpretation of the word "used" and the same was not
applicable in the facts of the case of the Assessee
company. The CIT(A) noted that the said revised
OECD commentary on software payment had not been
accepted even by some of the OECD member
countries and was not applicable in India since India
was not even a member of OECD and specially when
the Indian High Powered Committee had expressed its
reservation in characterization of the software
payment in the said country. With regard to the
reliance of the Assessee company on the judgment of
the Supreme Court in the case of TATA CONSULTANCY
SERVICES (SUPRA), the CIT(A) held that though the
transfer of right to use a good was not sale in its
traditional sense but the same was held to be sale on
the expanded definition given in the relevant Sales
Tax Act, wherein such transfer was treated as deemed
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sale. He held that different statutes or different
phraseologies treat the same transaction differently
and thus it was not permissible to import the meaning
assigned in one statute into the different statues.
17. The CIT(A) rejected the contention of the Assessee
company and held the receipts to be royalty income
and concluded as under:-
"4.8.1 As per provisions of section 9(1)(vi)
the royalty income should satisfy twin
conditions that there has to be consideration,
and this consideration should be for transfer of
all or any right (including the granting of the
licence) in respect of the copyright, patent,
invention, design, secret formula or process,
scientific work. In this case the payment under
software license agreement has fulfilled both
the conditions and the income from software
license was taxable in India as royalty.
4.8.2 As per provision of section 9 the
payment made for import of software are
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royalty payment and the only exception
provided is in the form of second proviso to
section 9(1)(vi) of the Act which excludes such
royalty income from purview of section 9(1)(vi)
only when the computer software is supplied
by a non-resident manufacturer along with
computer or computer based equipment under
any scheme approved under the policy of
computer software export, software
development and training 1986 of the
Government of India. However, this exception
is not applicable to the facts of this case where
appellant had granted software licence to
various Indian customers.
4.8.3 The characterization taxability of
income from import of software has been
made amply clear in the Income Tax Act
through section 115A of the Act which
specifically refers to cases where royalties are
paid to non --resident for the transfer of all or
any right (including the granting of the license)
in respect of any computer software to a
person resident in India.
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4.8.4 A copy of software supplied by the
appellant did not amount to a sale but it is a
licence to use the software. This is because
software is an intellectual property right (IPR)
which can be licensed to one use and can be
given further to any number of user. In other
words the IPR in software still remain intact
with the supplier. Thus effectively the
consideration paid is only for license use. It is
pertinent to mention here that the Finance Act,
2004 has inserted Category No.55B to include
intellectual pro perty services" to mean.
"(a) transferring whether permanent or
otherwise or
(b) permitting use or enjoyment of any
intellectual property right"
for levy of service tax. This amendment has
been noticed by the CESTAT in Araco
Corporation v. CCE [2005] (180) ELT 91 (Tri-
Bang).
4.8.5 By the expedient of "deeming
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fiction" or inclusive definition" Parliament and
State Legislatures are competent to give a
specific definition to a particular transaction.
Such definition is confined to the specific
statute only. Such definition cannot be
imported into a different statue which defines
the same transaction differently. The necessary
corollary is that "sales treatment: of computer
software under sales tax law, does not, per se,
influence income-tax treatment of software
transactions, as income-tax law defines this
transaction differently.
4.8.6 OECD recommendations remain
mere recommendations unless they are
incorporated into domestic law and/or DTAAs.
The distinction between "copyright right" and
"program copy" recom mended by the OECD
has been dissented from even by several
member of the OECD. Indian laws and India's
DTAA recognize only two types of transactions
in respect of computer software sale and
licence (letting). No further dissection of
licensing (on the lines of the OECD
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ITA 1034/2009 Page 23 of 174
commentary) is permitted under the Indian
Copyright Act, Income-tax Act and Indian
DTAAs. Therefore, notwithstanding attractive
phraseology and nomenclature, any computer
software licence fees, where the vendor retains
ownership and grants user rights only to the
licensee are, without an iota of doubt, taxable
as royalties having an Indian source."
18. On the basis of the findings/observations recorded by
him, the CIT(A) held the income earned by the
Assessee company from software licence is in the
nature of royalty both under the domestic law and the
DTAA and thus upheld the order of the AO holding the
Income from software licence chargeable to tax in
India as royalty under Section 9(1)(vi) of the Income
Tax Act, 1961 read with Article 13 (Sic Article 12) of the
DTAA.
19. Aggrieved by the order of the AO as confirmed by the
CIT(A), the Assessee Company filed an appeal before
the Income Tax Appellate Tribunal (ITAT for Short).
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The ITAT noted that the amount received by the
Assessee company had been treated as royalty
income by the AO and the CIT(A) on the basis of
Explanation 2 to Section 9(1)(vi) of the Act holding that
there was transfer of some rights (including the
granting of a licence) in respect of the copyright. The
ITAT noted the stand of the Assessee company that
there was no transfer of any right in respect of
copyright by the Assessee and it was a case of mere
transfer of a copyrighted article. The ITAT noted that if
the payment received by the Assessee Company was
for a copyright then it would classify as royalty both
under the Income Tax Act, 1961 and under the DTAA.
However, if the payment was for a copyrighted article
then it would represent the purchase price of an article
and could not be considered as royalty either under
the Act or under the DTAA. The Tribunal noted the
decision of a Special Bench of ITAT in the case of
MOTOROLA INC., ERICSON R ADIO SYSTEM AB AND NOKIA
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NETWORKS OY VS . DEPUTY CIT (2005) 147 TAXMAN 39
(DEL.). The Tribunal noted that the Special Bench of
ITAT referring to the definition of "copyright", as given
in Section 14 of the Copyright Act, 1957, had noted
that the right mentioned in sub-clause (ii) of clause (b)
of Section 14 was available only to a computer
programme and if the licensees did not have any of
such rights, as mentioned in clauses (a) and (b) of
Section 14, it would mean that they did not have any
right in the copyright and in such cases, the payments
made to them could not be characterized as royalty
under the Act for DTAA. The ITAT noted that the
Special Bench of the Tribunal in the case of
MOTOROLA INC. ( SUPRA), had held that since the
licensees were not allowed to exploit the computer
software commercially, they had acquired under
licence agreement, only the copy righted software
which by itself was an article and not any copyright
therein. The ITAT relying on the judgment in the case
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of MOTOROLA INC. (SUPRA), noted that in the case of
the Assessee company, the licensee to whom the
Assessee company had sold/licensed to the software
was allowed to make only one copy of the software
and associated support information for backup
purposes with a condition that such copyright shall
include Infrasoft copyright and all copies of the
software shall be exclusive properties of Infrasoft.
Licensees 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 had been prohibited from
copying, de-compiling, de-assembling, or reverse
engineering the software without the written consent of
Infrasoft. The ITAT further noted that the licence
agreement between the Assessee Company and its
customers stipulated that all copyrights and intellectual
property rights in the software and copies made by the
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licensee were owned by Infrasoft and only Infrasoft
had the power to grant licence rights for use of the
software. The ITAT further noted that the licence
agreement stipulated that upon termination of the
agreement for any reason, the licencee shall return the
software including supporting information and licence
authorization device to Infrasoft.
20. The ITAT further noted that the CIT(A) had
distinguished the judgment in the case of MOTOROLA
INC.(SUPRA) on the basis that the Assessee had
purchased an integrated electronic switches system
consisting of both hardware as well as software
whereas in the present case, there was a licence of
only the software without there being any sale of
integrated hardware. The ITAT further noted that the
CIT(A) had not dealt with the aspect of the rights
granted to the licensees as had been specifically
noted in the case of MOTOROLA INC. (SUPRA).
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21. The ITAT further noted the decision of the ITAT
Bangalore Bench in the case of SAMSUNG ELECTRONIC
COMPANIES L TD. VS . INCOME TAX OFFICER (2005) 276
ITR PAGE 1 (BANGALORE ), wherein the Tribunal came
to the conclusion that the incorporeal right to the
software i.e. copyright had remained with the owner
and the same was not transferred to the Assessee.
The Tribunal in the case of SAMSUNG ELECTRONICS
(SUPRA) had held that the right to use of a copyright is
totally different from the right to use a programme
embedded in a cassette or a CD which may be a
software and the payment made for the same could
not be said to be received as consideration for the use
of or right to use of any copyright to bring it within the
definition of royalty as given in the DTAA. It was held
that what the Assessee had acquired was only a copy
of the copyrighted articles whereas the copyright
remained with the owner and the Assessee had
acquired a computer programme for being used in its
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business and no right was granted to the Assessee to
utilize the copyright of a computer programme and
thus it was held that the payment for the same was not
in the nature of royalty.
22. The ITAT noted that the CIT(A) had distinguished the
case of SAMSUNG ELECTRONICS (SUPRA) on the basis
that the software licenced by the Assessee in the case
of SAMSUNG ELECTRONICS (SUPRA ) was off the shelf
software whereas the software in the case of the
Assessee Company required to be customized to meet
the needs of an Indian customer. The ITAT held that
the customization of the concerned software or the
professional services rendered by the Assessee
company for such customization had not resulted in
any material change in the terms and conditions of the
licence agreement or in the relationship between the
Assessee as an owner of the software and a licensee
to whom the right to use the said software was given
by the Assessee company. The ITAT noted that the
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software provided by the Assessee Company was
basically a standard software and the customization so
done to the limited extent as per the specific
requirements of the customers did not bring about any
change in the nature of the software or the licence
granted to the customers.
23. The ITAT further held that the case of the Assessee
Company was clearly covered by the decisions of the
Tribunal in the case of M OTOROLA INC. (SUPRA) AND
SAMSUNG ELECTRONICS (SUPRA). Following the said
decisions, the ITAT held that the amount received by
the Assessee under the licence agreement for
allowing the use of the software was not royalty either
under the Income Tax Act or under the DTAA. The
ITAT set aside the order of the CIT(A) and restored
the matter to the file of the AO with a direction to
reframe the assessment in terms of the said decision.
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24. Aggrieved by the decision of the ITAT dated
19.12.2008, the Revenue has filed the present appeal.
25. Learned counsel for the appellant/revenue has
submitted that the Assessee Company had received
amounts under the software licence agreement and
the said amounts were in the nature of royalty and
were chargeable to tax in terms of Section 9(1)(vi) of
the Act. He further contended that the right to use of
software under the software licence agreement
resulted in earning of royalty income and was thus
chargeable to tax in the hands of the Assessee
company as royalty income under Article 12 of the
relevant DTAA. He further contended that in the
present case, there was no sale of the software but it
was mere licence to use the software and as such, the
receipt from such a sale was receipt towards royalty.
Learned counsel for the appellant/Revenue further
contended that royalty was defined in Explanation 2 to
Section 9(i)(vi) to include consideration for transfer of
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either one or more intellectual property rights
mentioned therein and as such, there was no scope
for an argument that computer software was not fully
covered within the meaning of royalty. He further
contended that computer software was one of the
intellectual property referred to in the Explanation 2
and transfer of rights therein by the licensor would
give right to royalty income.
26. Learned Counsel for the Revenue relied upon the
decision of the Andhra Pradesh High Court in the case
of COMMISSIONER OF INCOME T AX VS SAMSUNG
ELECTRONICS CO. LTD (2012) 345 ITR 494 (KARN) to
contend that right to make a copy of the software and
storing the same in the hard disk of the designated
computer and taking backup copy would amount to
copyright work under section 14(1) of the Copyright
Act and the payment made for the grant of the licence
for the said purpose would constitute royalty.
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27. Contradicting the stand of the appellant/Revenue,
learned counsel appearing for the Assessee
company/respondent submitted that what was
transferred was neither the copyright in the software
nor the use of the copyright in the software, but what
was transferred was the right to use the copyrighted
material which was clearly distinct from the rights in a
copyright. Learned counsel contended that no doubt, if
right to use the copyright had been transferred, the
same would give rise to royalty. But where right that is
transferred is not a right to use the copyright but is
only limited to the right to use the copyrighted material,
the same would not give rise to any royalty income
and would be business income.
28. We have examined the rival contentions of the parties
and are of the view that there is no infirmity in the
impugned order and what has been transferred is not
copyright or the right to use copyright but a limited
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right to use the copyrighted material and does not give
rise to any royalty income.
29. In the present day global economy it is not unusual for
an individual or a business entity to operate
commercially in more than one countries. When an
individual or business entity which is resident in one
country makes a taxable gain in another country the
said individual or entity may be obliged by the
domestic laws to pay tax on the income locally as well
as in the country in which the income was so earned.
The result of such a situation is that an individual or
entity may become liable to double taxation, one in the
resident country and the other in the country in which
the income so arises. In this situation both the
countries may make the said individual or entity liable
to tax with the result that the individual/entity may end
up paying tax in both the countries. To avoid such an
inequitable situation many nations enter into bilateral
double taxation agreements with each other.
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30. The bilateral double taxation agreements generally lay
down two situations, in the first situation the individual
may be required to pay tax in the country of residence
and is exempted in the country in which the income
arises. In the other situation the country where the
income arises deducts tax at source and the taxpayer
receives compensation in the form of a foreign tax
credit in the country of residence which would entitle
the taxpayer to a credit in the country of residence to
the extent the income that has been taxed in the
country where the income has so arisen. To be able to
avail the benefit of foreign tax credit the Assessee has
to declare himself (in the country where income has
arisen) to be a non-resident.
31. India has comprehensive double taxation avoidance
agreements with various countries. The double
taxation avoidance agreement that India has entered
into with various countries stipulate agreed rate of tax
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ITA 1034/2009 Page 36 of 174
and jurisdiction on specified types of income arising in
a country to tax resident of another country.
32. To resolve the controversy, we would need to examine
some of the relevant provisions of the Income Tax Act
and the Indo US Double Taxation Avoidance
Agreement.
33. Section 90 of the Act, 1961 lays down as under:
"90. (1) The Central Government may enter
into an agreement with the Government of any
country outside India or specified territory
outside India,--
(a) for the granting of relief in respect of --
(i) income on which have been paid both
income-tax under this Act and income-
tax in that country or specified territory,
as the case may be, or
(ii) income-tax chargeable under this Act
and under the corresponding law in force
in that country or specified territory, as
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ITA 1034/2009 Page 37 of 174
the case may be, to promote mutual
economic relations, trade and
investment, or
(b) for the avoidance of double taxation of
income under this Act and under the
corresponding law in force in that country or
specified territory, as the case may be, or
(c) for exchange of information for the
prevention of evasion or avoidance of income-
tax chargeable under this Act or under the
corresponding law in force in that country or
specified territory, as the case may be, or
investigation of cases of such evasion or
avoidance, or
(d) for recovery of income-tax under this Act
and under the corresponding law in force in
that country or specified territory, as the case
may be, and may, by notification in the Official
Gazette, make such provisions as may be
necessary for implementing the agreement.
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ITA 1034/2009 Page 38 of 174
(2) Where the Central Government has entered
into an agreement with the Government of any
country outside India or specified territory
outside India, as the case may be, under sub-
section (1) for granting relief of tax, or as the
case may be, avoidance of double taxation,
then, in relation to the Assessee to whom such
agreement applies, the provisions of this Act
shall apply to the extent they are more
beneficial to that Assessee.
(3) Any term used but not defined in this Act or
in the agreement referred to in sub-section (1)
shall, unless the context otherwise requires,
and is not inconsistent with the provisions of
this Act or the agreement, have the same
meaning as assigned to it in the notification
issued by the Central Government in the
Official Gazette in this behalf.
Explanation 1. --For the removal of doubts, it is
hereby declared that the charge of tax in
respect of a foreign company at a rate higher
than the rate at which a domestic company is
chargeable, shall not be regarded as
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ITA 1034/2009 Page 39 of 174
less favourable charge or levy of tax in respect
of such foreign company.
Explanation 2. --For the purposes of this
section, "specified territory" means any area
outside India which may be notified as such by
the Central Government.]
34. Section 90 of the Act gives relief to the taxpayer who
have paid the tax to a country with which India has
signed the double taxation avoidance agreement.
Section 90 confers the power on the Central
government to enter into any agreement with the
government of another country for granting relief to an
Assessee who has paid income tax under this Act and
also income tax in that other country and also in
respect of income tax which is chargeable under this
Act and under the corresponding law of that country.
This has been done with a view to promote mutual
economic relations, trade and investment and for
avoidance of double taxation of income under this Act
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ITA 1034/2009 Page 40 of 174
as well as the act of the said contracting country.
Section 90 (2) lays down that where the Central
Government has entered into an agreement with the
government of any other country for granting relief of
tax or for avoidance of double taxation, then the
provisions of this Act shall apply to the Assessee only
to the extent that they are more beneficial to the said
Assessee. In case the provisions of this Act are more
onerous and burdensome then the provisions of this
Act would not apply and the Assessee would be
governed squarely by the provisions of the double
taxation avoidance agreement.
35. Section 91 of the Act lays down as under:
"91(1) If any person who is resident in India in
any previous year proves that, in respect of his
income which accrued or arose during that
previous year outside India (and which is not
deemed to accrue or arise in India), he has paid
in any country with which there is no
agreement under section 90 for the relief or
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ITA 1034/2009 Page 41 of 174
avoidance of double taxation, income-tax, by
deduction or otherwise, under the law in force
in that country, he shall be entitled to the
deduction from the Indian income-tax payable
by him of a sum calculated on such doubly
taxed income at the Indian rate of tax or the
rate of tax of the said country, whichever is the
lower, or at the Indian rate of tax if both the
rates are equal.
(2) If any person who is resident in India in any
previous year proves that in respect of his
income which accrued or arose to him during
that previous year in Pakistan he has paid in
that country, by deduction or otherwise, tax
payable to the Government under any law for
the time being in force in that country relating
to taxation of agricultural income, he shall be
entitled to a deduction from the Indian
income-tax payable by him--
(a) of the amount of the tax paid in
Pakistan under any law aforesaid on such
income which is liable to tax under this
Act also; or
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ITA 1034/2009 Page 42 of 174
(b) of a sum calculated on that income at
the Indian rate of tax;
whichever is less.
(3) If any non-resident person is assessed on
his share in the income of a registered firm
assessed as resident in India in any previous
year and such share includes any income
accruing or arising outside India during that
previous year (and which is not deemed to
accrue or arise in India) in a country with which
there is no agreement under section 90 for the
relief or avoidance of double taxation and he
proves that he has paid income-tax by
deduction or otherwise under the law in force
in that country in respect of the income so
included he shall be entitled to a deduction
from the Indian income-tax payable by him of a
sum calculated on such doubly taxed income so
included at the Indian rate of tax or the rate of
tax of the said country, whichever is the lower,
or at the Indian rate of tax if both the rates are
equal.
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ITA 1034/2009 Page 43 of 174
Explanation.--In this section, --
(i) the expression "Indian income -tax" means
income-tax 73[***] charged in accordance with
the provisions of this Act;
(ii) the expression "Indian rate of tax" means
the rate determined by dividing the amount of
Indian income-tax after deduction of any relief
due under the provisions of this Act but before
deduction of any relief due under
this 74[Chapter], by the total income;
(iii) the expression "rate of tax of the said
country" means income -tax and super-tax
actually paid in the said country in accordance
with the corresponding laws in force in the said
country after deduction of all relief due, but
before deduction of any relief due in the said
country in respect of double taxation, divided
by the whole amount of the income as
assessed in the said country;
(iv) the expression "income -tax" in relation to
any country includes any excess profits tax or
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ITA 1034/2009 Page 44 of 174
business profits tax charged on the profits by
the Government of any part of that country or
a local authority in that country.
36. Section 91 of the Act provides relief to the taxpayers
who have paid taxes to a country with which India has
not signed a double taxation avoidance agreement.
This actually gives relief to Assessee in both situations,
one where there is a double taxation avoidance
agreement with a corresponding country under section
90 and second in cases where there is no double
taxation avoidance agreement under section 91.
Under the provisions of section 91 a person who has
paid tax in any country with which there is no
agreement under section 90, would be entitled to
deduction from the Indian income tax payable by him
of a sum calculated on such doubly taxed income at a
lower of the two rates of tax that is Indian rate of tax or
the rate of tax of the said country whichever is lower
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ITA 1034/2009 Page 45 of 174
and in case both the rates are equal then at the Indian
rate of tax.
37. In the case of DIT V. RIO TINTO TECHNICAL SERVICES
(2012) 340 ITR 507 (DEL) the Delhi High Court has
held as under:
Section 90(2) mandates that where the Central
Government has entered into a Double
Taxation Avoidance Agreement under sub-
section (1) for granting relief of tax or, as the
case may be, avoidance of double taxation,
then in relation to the assessee to whom the
agreement applies, the provisions of the Act
apply to the extent they are more beneficial to
the assessee. In other words, where an article
in a Double Taxation Avoidance Agreement and
a provision of the Act apply to the assessee,
then the article of the Double Taxation
Avoidance Agreement or the provision the Act
will apply depending upon which one of the
two is more beneficial/advantageous to the
assessee. The first requirement, therefore, is to
see whether the provisions of the Act apply to
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ITA 1034/2009 Page 46 of 174
a particular transaction undertaken/ income
earned by an assessee, which is taxable in India
under the Act. In case the transaction/income
is not taxable under the Act, the income
earned would not be taxed. In case the said
transaction or income of an assessee is taxable
under the Act, then the provisions of the
Double Taxation Avoidance Agreement, if
applicable, may be resorted to if they are more
beneficial and advantageous to the assessee,
i.e., if they negate or reduce the tax liability. In
AZADI BACHAO ANDOLAN (SUPRA) after
referring to the said section it has been held
(pages 722 and 724) :
"The provisions of sections 4 and 5 of the
Act are expressly made 'subject to the
provisions of this Act', which would
include section 90 of the Act. As to what
would happen in the event of a conflict
between the provision of the Income-tax
Act and a notification issued under
section 90, is no longer res integra . . .
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ITA 1034/2009 Page 47 of 174
A survey of the aforesaid cases makes it
clear that the judicial consensus in India
has been that section 90 is specifically
intended to enable and empower the
Central Government to issue a
notification for implementation of the
terms of a Double Taxation Avoidance
Agreement. When that happens, the
provisions of such an agreement, with
respect to cases to which they apply,
would operate even if inconsistent with
the provisions of the Income-tax Act. We
approve of the reasoning in the decisions
which we have noticed. If it was not the
intention of the Legislature to make a
departure from the general principle of
chargeability to tax under section 4 and
the general principle of ascertainment of
total income under section 5 of the Act,
then there was no purpose in making
those sections 'subject to the provisions'
of the Act. The very object of grafting the
said two sections with the said clause is
to enable the Central Government to
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ITA 1034/2009 Page 48 of 174
issue a notification under section 90
towards implementation of the terms of
DTAs which would automatically override
the provisions of the Income-tax Act in
the matter of ascertainment of
chargeability to income-tax and
ascertainment of total income, to the
extent of inconsistency with the terms of
DTAC."
38. The Supreme Court of India in the case of AZADI
BACHAO ANDOLAN (SUPRA) has laid down that in case of
conflict the provisions of the Double Taxation
Avoidance Agreement would prevail over the statutory
provisions of the Act in case the same are more
beneficial to the Assessee and while discussing the
judgments of various High Courts has held as under:
22. The Andhra Pradesh High Court
in CIT v. Visakhapatnam Port Trust [(1983) 144
ITR 146 (AP)] held that provisions of Sections 4
and 5 of the Income Tax Act are expressly
made "subject to the provisions of the Act"
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ITA 1034/2009 Page 49 of 174
which means that they are subject to the
provisions of Section 90. By necessary
implication, they are subject to the terms of
the Double Taxation Avoidance Agreement, if
any, entered into by the Government of India.
Therefore, the total income specified in
Sections 4 and 5 chargeable to income tax is
also subject to the provisions of the agreement
to the contrary, if any.
23. In CIT v. Davy Ashmore India Ltd. [(1991)
190 ITR 626 (Cal)] while dealing with the
correctness of Circular No. 333 dated 2-4-1982,
it was held that the conclusion is inescapable
that in case of inconsistency between the
terms of the Agreement and the taxation
statute, the Agreement alone would prevail.
The Calcutta High Court expressly approved the
correctness of CBDT Circular No. 333 dated 2-
4-1982 on the question as to what the
assessing officers would have to do when they
found that the provision of the double taxation
was not in conformity with the Income Tax Act,
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ITA 1034/2009 Page 50 of 174
1961. The said circular provided as follows
(quoted at ITR p. 632):
"The correct legal position is that w here
a specific provision is made in the Double
Taxation Avoidance Agreement, that
provision will prevail over the general
provisions contained in the Income Tax
Act, 1961. In fact the Double Taxation
Avoidance Agreements which have been
entered into by the Central Government
under Section 90 of the Income Tax Act,
1961, also provide that the laws in force
in either country will continue to govern
the assessment and taxation of income in
the respective country except where
provisions to the contrary have been
made in the Agreement.
Thus, where a Double Taxation Avoidance
Agreement provided for a particular mode of
computation of income, the same should be
followed, irrespective of the provisions in the
Income Tax Act. Where there is no specific
provision in the Agreement, it is the basic law
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ITA 1034/2009 Page 51 of 174
i.e. the Income Tax Act, that will govern the
taxation of income.
24. The Calcutta High Court held that the
circular reflected the correct legal position
inasmuch as the convention or agreement is
arrived at by the two c ontracting States "in
deviation from the general principles of
taxation applicable to the contracting States".
Otherwise, the Double Taxation Avoidance
Agreement will have no meaning at all. [See
also in this connection Leonhardt Andra Und
Partner, GmbH v. CIT, (2001) 249 ITR 418 (Cal)]
25. In CIT v. R.M. Muthaiah [(1993) 202 ITR
508 (Kant)] the Karnataka High Court was
concerned with DTAT between the
Government of India and the Government of
Malaysia. The High Court held that under the
terms of the Agreement, if there was a
recognition of the power of taxation with the
Malaysian Government, by implication it takes
away the corresponding power of the Indian
Government. The Agreement was thus held to
operate as a bar on the power of the Indian
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ITA 1034/2009 Page 52 of 174
Government to tax and that the bar would
operate on Sections 4 and 5 of the Income Tax
Act, 1961, and take away the power of the
Indian Government to levy tax on the income
in respect of certain categories as referred to
in certain articles of the Agreement. The High
Court summed up the situation by observing
(ITR at pp. 512-513):
"The effect of an `agreement' entered
into by virtue of Section 90 of the Act
would be: (i) if no tax liability is imposed
under this Act, the question of resorting
to the agreement would not arise. No
provision of the agreement can possibly
fasten a tax liability where the liability is
not imposed by this Act; (ii) if a tax
liability is imposed by this Act, the
agreement may be resorted to for
negativing or reducing it; (iii) in case of
difference between the provisions of the
Act and of the agreement, the provisions
of the agreement prevail over the
provisions of this Act and can be
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ITA 1034/2009 Page 53 of 174
enforced by the Appellate Authorities
and the court.
28. A survey of the aforesaid cases makes it
clear that the judicial consensus in India has
been that section 90 is specifically intended to
enable and empower the Central Government
to issue a notification for implementation of
the terms of a Double Taxation Avoidance
Agreement. When that happens, the provisions
of such an agreement, with respect to cases to
which they apply, would operate even if
inconsistent with the provisions of the Income-
tax Act. We approve of the reasoning in the
decisions which we have noticed. If it was not
the intention of the Legislature to make a
departure from the general principle of
chargeability to tax under section 4 and the
general principle of ascertainment of total
income under section 5 of the Act, then there
was no purpose in making those sections
'subject to the provisions' of the Act. The very
object of grafting the said two sections with
the said clause is to enable the Central
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ITA 1034/2009 Page 54 of 174
Government to issue a notification under
section 90 towards implementation of the
terms of DTAs which would automatically
override the provisions of the Income-tax Act
in the matter of ascertainment of chargeability
to income-tax and ascertainment of total
income, to the extent of inconsistency with the
terms of DTAC.
39. In the case of AZADI BACHAO ANDOLAN (SUPRA) the
Supreme Court of India has thus specifically laid down
that provisions of Sections 4 and 5 of the Income Tax
Act are subject to the provisions of Section 90 thus
they are subject to the terms of the Double Taxation
Avoidance Agreement, if any, entered into by the
Government of India. Therefore, the total income
specified in Sections 4 and 5 chargeable to income tax
is also subject to the provisions of the agreement to
the contrary, if any. It has thus held that the conclusion
is inescapable that in case of inconsistency between
the terms of the Agreement and the taxation statute,
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ITA 1034/2009 Page 55 of 174
the Agreement alone would prevail, when the
agreement is more beneficial. Where a provision is
made in the Double Taxation Avoidance Agreement,
that provision will prevail over the general provisions
contained in the Act.
40. Thus, where a Double Taxation Avoidance Agreement
provides is more advantageous to an assessee,
irrespective of the provisions in the Act, the agreement
prevails. Where there is no provision in the Agreement,
it is the basic law i.e. the Income Tax Act, that will
govern the taxation of income.
41. The Supreme Court of India has approved the
reasoning of the K ARNATAKA HIGH C OURT IN CIT V. R.M.
MUTHAIAH (SUPRA) that the effect of an ,,agreement
entered into by virtue of Section 90 of the Act would be:
(i) if no tax liability is imposed under this Act, the
question of resorting to the agreement would not arise.
No provision of the agreement can possibly fasten a
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ITA 1034/2009 Page 56 of 174
tax liability where the liability is not imposed by this Act;
(ii) if a tax liability is imposed by this Act, the
agreement may be resorted to for negativing or
reducing it; (iii) subject to above, in case of difference
between the provisions of the Act and of the
agreement, the provisions of the agreement prevail
over the provisions of this Act and can be enforced by
the Appellate Authorities and the court.
42. The Supreme Court of India has thus held that the
judicial consensus in India has been that section 90 is
specifically intended to enable and empower the
Central Government to issue a notification for
implementation of the terms of a Double Taxation
Avoidance Agreement. When that happens, the
provisions of such an agreement, with respect to
cases to which they apply, would operate even if
inconsistent with the provisions of the Act, to
advantage of an assessee. A notification under section
90 towards implementation of the terms of DTAs which
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ITA 1034/2009 Page 57 of 174
would automatically override the provisions of the Act
in the matter of ascertainment of chargeability to
income-tax and ascertainment of total income, rate of
tax etc. to the extent of inconsistency with the terms of
DTAA.
43. The Supreme Court while dealing with the concept of
liability to taxation in international transactions in AZADI
BACHAO ANDOLAN (SUPRA) further laid down as under:
What is "liable to taxation"?
Fiscal residence
62. The concept of "fiscal residence" of a
company assumes importance in the
application and interpretation of the Double
Taxation Avoidance Treaties.
63. In Cahiers De Droit Fiscal
International [ Jean-Maio Rivier: Cahiers De
Droit Fiscal International, Vol. LXXIIa at pp. 47-
76.] it is said that under the OECD and UNO
Model Conventions, "fiscal residence" is a
place where a person, amongst others a
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ITA 1034/2009 Page 58 of 174
corporation, is subjected to unlimited fiscal
liability and subjected to taxation for the
worldwide profit of the resident company. At
paragraph 2.2 it is pointed out:
"The UNO Model Convention takes these
two different concepts into account. It
has not embodied the second sentence
of Article 4, paragraph (1) of the OECD
Model Convention, which provides that
the term `resident' does not include any
person who is liable to tax in that State in
respect only of income from sources in
that State. In fact, if one adhered to a
strict interpretation of this text, there
would be no resident in the meaning of
the Convention in those States that apply
the principle of territoriality."
Again in paragraph 3.5 it is said:
"The existence of a company from a
company law standpoint is usually
determined under the law of the State of
incorporation or of the country where
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ITA 1034/2009 Page 59 of 174
the real seat is located. On the other
hand, the tax status of a corporation is
determined under the law of each of the
countries where it carries on business, be
it as resident or non-resident."
64. In paragraph 4.1 it is observed that the
principle of universality of taxation i.e. the
principle of worldwide taxation, has been
adopted by a majority of States. One has to
consider the worldwide income of a company
to determine its taxable profit. In this system it
is crucial to define the fiscal residence of a
company very accurately. The State of
residence is the one entitled to levy tax on the
corporation's worldwide profit. The company is
subject to unlimited fiscal liability in that State.
In the case of a company, however, several
factors enter the picture and render the
decision difficult. First, the company is
necessarily incorporated and usually registered
under the tax law of a State that grants it
corporate status. A corporation has
administrative activities, directors and
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ITA 1034/2009 Page 60 of 174
managers who reside, meet and take decisions
in one or several places. It has activities and
carries on business. Finally, it has shareholders
who control it. Hence, it is opined:
"When all these elements coexist in the
same country, no complications arise. As
soon as they are dissociated and
`scattered' in different States, each
country may want to subject the
company to taxation on the basis of an
element to which it gives preference;
incorporation procedure, management
functions, running of the business,
shareholders' controlling power.
Depending on the criterion adopted,
fiscal residence will abide in one or the
other country.
All the European countries concerned,
except France, levy tax on the worldwide
profit at the place of residence of the
company considered.
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ITA 1034/2009 Page 61 of 174
South Korea, India and Japan in Asia,
Australia and New Zealand in Oceania
follow this principle."
91. In our view, the contention of the
respondents proceeds on the fallacious
premise that liability to taxation is the same as
payment of tax. Liability to taxation is a legal
situation; payment of tax is a fiscal fact. For the
purpose of application of Article 4 of DTAC,
what is relevant is the legal situation, namely,
liability to taxation, and not the fiscal fact of
actual payment of tax. If this were not so, DTAC
would not have used the words "liable to
taxation", but would have used some
appropriate words like "pays tax". On the
language of DTAC, it is not possible to accept
the contention of the respondents that
offshore companies incorporated and
registered under MOBA are not "liable to
taxation" under the Mauritian Income Tax Act;
nor is it possible to accept the contention that
such companies would not be "resident" in
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ITA 1034/2009 Page 62 of 174
Mauritius within the meaning of Article 3 read
with Article 4 of DTAC.
93. In A Manual on the OECD Model Tax
Convention on Income and on Capital, at para
4B.05, while commenting on Article 4 of the
OECD Double Tax Convention, Philip Baker
points out that the phrase "liable to tax" used
in the first sentence of Article 4.1 of the Model
Convention has raised a number of issues, and
observes:
"It seems clear that a person does not
have to be actually paying tax to be
`liable to tax' -- otherwise a person who
had deductible losses or allowances,
which reduced his tax bill to zero would
find himself unable to enjoy the benefits
of the Convention. It also seems clear
that a person who would otherwise be
subject to comprehensive taxing but who
enjoys a specific exemption from tax is
nevertheless liable to tax, if the
exemption were repealed, or the person
no longer qualified for the exemption,
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ITA 1034/2009 Page 63 of 174
the person would be liable to
comprehensive taxation."
98. In John N. Gladden v. Her Majesty the
Queen [85 DTC 5188 at p. 5190] the principle
of liberal interpretation of tax treaties was
reiterated by the Federal Court, which
observed:
"Contrary to an ordinary taxing statute a
tax treaty or convention must be given a
liberal interpretation with a view to
implementing the true intentions of the
parties. A literal or legalistic
interpretation must be avoided when the
basic object of the treaty might be
defeated or frustrated insofar as the
particular item under consideration is
concerned."
100. Interpreting the article of the Treaty
Against Avoidance of Double Taxation, the
Federal Court said (at p. 5):
"The non-resident can benefit from the
exemption regardless of whether or not
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ITA 1034/2009 Page 64 of 174
he is taxable on that capital gain in his
own country. If Canada or the US were to
abolish capital gains completely, while
the other country did not, a resident of
the country which had abolished capital
gains would still be exempt from capital
gains in the other country."
103. According to Klaus Vogel:
"Double Taxation Convention establishes
an independent mechanism to avoid
double taxation through restriction of tax
claims in areas where overlapping tax
claims are expected, or at least
theoretically possible. In other words,
the contracting States mutually bind
themselves not to levy taxes or to tax
only to a limited extent in cases when the
treaty reserves taxation for the other
contracting States either entirely or in
part. Contracting States are said to
`waive' tax claims or more illustratively,
to divide `tax sources', the `taxable
objects', amongst themselves."
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Double Taxation Avoidance Treaties were in
vogue even from the time of the League of
Nations. The experts appointed in the early
1920s by the League of Nations describe this
method of classification of items and their
assignments to the contracting States. While
the English lawyers called it "classification and
assignment rules", the German jurists called it
"the distributive rule" (Verteilungsnorm). To
the extent that an exemption is agreed to, its
effect is in principle independent of both
whether the other contracting State imposes a
tax in the situation to which the exemption
applies, and of whether that State actually
levies the tax. Commenting particularly on the
German Double Taxation Convention with the
United States, Vogel comm ents: "Thus, it is
said that the treaty prevents not only `current',
but also merely `potential' double taxation."
Further, according to Vogel,
"only in exceptional cases, and only when
expressly agreed to by the parties, is
exemption in one contracting State
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ITA 1034/2009 Page 66 of 174
dependent upon whether the income or
capital is taxable in the other contracting
State, or upon whether it is actually
taxed there". * See in this connection
Klaus Vogel: Double Taxation Convention,
pp. 26-29 (3rd Edn.).]
44. The Supreme Court of India in the AZADI BACHAO
ANDOLAN (SUPRA) has thus laid down that the concept
of "fiscal residence" of a company assumes
importance in the application and interpretation of the
DTAAs. The Supreme Court referred to the
Commentary of Jean-Maio Rivier "Cahiers De Droit
Fiscal International" that under the OECD and UNO
Model Conventions, "fiscal residence" is a place where
a person, amongst others a corporation, is subjected
to unlimited fiscal liability and subjected to taxation for
the worldwide profit of the resident company. The
existence of a company from a company law
standpoint is usually determined under the law of the
State of incorporation or of the country where the real
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ITA 1034/2009 Page 67 of 174
seat is located. On the other hand, the tax status of a
corporation is determined under the law of each of the
countries where it carries on business, be it as
resident or non-resident.
45. The Supreme Court held that the principle of
universality of taxation i.e. the principle of worldwide
taxation, has been adopted by a majority of States.
One has to consider the worldwide income of a
company to determine its taxable profit. In this system
it is crucial to define the fiscal residence of a company
very accurately. The State of residence is the one
entitled to levy tax on the corporation's worldwide
profit. The company is subject to unlimited fiscal
liability in that State. In the case of a company,
however, several factors enter the picture and render
the decision difficult. First, the company is necessarily
incorporated and usually registered under the tax law
of a State that grants it corporate status. A corporation
has administrative activities, directors and managers
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ITA 1034/2009 Page 68 of 174
who reside, meet and take decisions in one or several
places. It has activities and carries on business.
Finally, it has shareholders who control it. When all
these elements coexist in the same country, no
complications arise. As soon as they are dissociated
and ,,scattered in different States, each country may
want to subject the company to taxation on the basis
of an element to which it gives preference;
incorporation procedure, management functions,
running of the business, shareholders' controlling
power. Depending on the criterion adopted, fiscal
residence will abide in one or the other country.
46. The Supreme Court held that liability to taxation is a
legal situation; payment of tax is a fiscal fact. For the
purpose of application of Article 4 of DTAA, what is
relevant is the legal situation, namely, liability to
taxation, and not the fiscal fact of actual payment of
tax. The Supreme Court quoted with approval the
commentary of Philip Baker on Article 4 of the OECD
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ITA 1034/2009 Page 69 of 174
Double Tax Convention that a person does not have to
be actually paying tax to be ,,liable to tax
47. The Supreme Court further referred to the Judgment
of the Federal Court in John N. Gladden v. Her
Majesty the Queen (supra) that Contrary to an
ordinary taxing statute a tax treaty or convention must
be given a liberal interpretation with a view to
implementing the true intentions of the parties. A literal
or legalistic interpretation must be avoided when the
basic object of the treaty might be defeated or
frustrated insofar as the particular item under
consideration is concerned. The non-resident can
benefit from the exemption regardless of whether or
not he is taxable on that capital gain in his own
country. If Canada or the US were to abolish capital
gains completely, while the other country did not, a
resident of the country which had abolished capital
gains would still be exempt from capital gains in the
other country.
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48. The Supreme Court further referred to the commentary
of Klaus Vogel that Double Taxation Convention
establishes an independent mechanism to avoid
double taxation through restriction of tax claims in
areas where overlapping tax claims are expected, or
at least theoretically possible. In other words, the
contracting States mutually bind themselves not to
levy taxes or to tax only to a limited extent in cases
when the treaty reserves taxation for the other
contracting States either entirely or in part. Contracting
States are said to ,,waive tax claims or more
illustratively, to divide ,,tax sources, the ,,taxable
objects, amongst themselves.
49. In the present case the respondent Assessee is the
resident of USA with which India has signed a double
taxation avoidance agreement. In terms of the Law as
laid down by the Supreme Court of India in AZADI
BACHAO ANDOLAN (SUPRA) the Assessee has the right to
be governed by the provisions of the Income Tax Act
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ITA 1034/2009 Page 71 of 174
or the DTAA whichever is more beneficial. The
provisions of such an agreement, with respect to
cases to which they apply, would operate even if
inconsistent with the provisions of the Act and in case
of inconsistency between the terms of the Agreement
and the taxation statute, the Agreement alone would
prevail. In the present case there is an Agreement for
avoidance of double taxation between India and USA
and the Assessee is covered by the same. The
chargeability to tax of the income of the Assessee
would have to be thus governed by the provisions of
the DTAA i.e. India - US Double Taxation Avoidance
Agreement. In case the income of the Assessee is
chargeable under the DTAA then the provisions of the
Agreement would prevail over the provisions of the Act,
even if they are inconsistent with the DTAA.
50. To further resolve the controversy we need to examine
the provisions of the Indo US DTAA. We notice that
the Authorities below and the Tribunal have referred to
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ITA 1034/2009 Page 72 of 174
Article 13 of the Indo UK DTAA whereas in the
Memo of appeal the Revenue has relied upon Article
12 of the Indo US DTAA and both the counsels
relied upon and referred to the Indo US DTAA at the
time of hearing of the present Appeal. The Provisions
of Articles 7 and 13 of the Indo UK DTAA and
Articles 7 and 12 of the Indo US DTAA for the
purposes of the present case are pari-materia so we
are referring to the same. Article 7 of the Indo US
DTAA stipulates as under:
"1. The profits of an enterprise of a Contracting
State shall be taxable only in that State unless the
enterprise carries on business in the other
Contracting State through a permanent
establishment situated therein. If the enterprise
"carries on business " as aforesaid, the profits of the
enterprise may be taxed in the other State but only
so much of them as is attributable to (a) that
permanent establishment; (b) sales in the other State
of goods or merchandise of the same or similar kind
as those sold through that permanent establishment;
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ITA 1034/2009 Page 73 of 174
or (c) other business activities carried on in the other
State of the same or similar kind as those effected
through that permanent establishment.
2. Subject to the provisions of paragraph 3, where
an enterprise of a Contracting State carries on
business in the other Contracting State through a
permanent establishment situated therein, there
shall "in each Contracting State " be attributed to
that permanent establishment the profits which it
might be expected to make if it were a distinct and
independent enterprise engaged in the same or
similar activities under the same or similar
conditions and dealing "wholly" at arm's length with
the enterprise of which it is a permanent
establishment and other enterprises controlling,
controlled by or subject to the same common
control as that enterprise. In any case where the
correct amount of profits attributable to a
permanent establishment is incapable of
determination or the determination thereof
presents exceptional difficulties, the profits
attributable to the permanent establishment may be
estimated on a reasonable basis. The estimate
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ITA 1034/2009 Page 74 of 174
adopted shall, however, be such that the result shall
be in accordance with the principles contained in
this article.
3. In the determination of the profits of a
permanent establishment, there shall be allowed as
deductions expenses which are incurred for the
purposes of the business of the permanent
establishment, including a reasonable allocation of
executive and general administrative expenses,
research and development expenses, interest, and
other expenses incurred for the purposes of the
enterprise as a whole (or the part thereof which
includes the permanent establishment), whether
incurred in the State in which the permanent
establishment is situated or elsewhere, in
accordance with the provisions of and subject to the
limitations of the taxation laws of that State.
However, no such deduction shall be allowed in
respect of amounts, if any, paid (otherwise than
towards reimbursement of actual expenses) by the
permanent establishment to the head office of the
enterprise or any of its other offices, by way of
royalties, fees or other similar payments in return
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ITA 1034/2009 Page 75 of 174
for the use of patents, know-how or other rights, or
by way of commission or other charges for specific
services performed or for management, or, except
in the case of banking enterprises, by way of interest
on moneys lent to the permanent establishment.
Likewise, no account shall be taken, in the
determination of the profits of a permanent
establishment, for amounts charged (otherwise than
toward reimbursement of actual expenses), by the
permanent establishment to the head office of the
enterprise or any of its other offices, by way of
royalties, fees or other similar payments in return
for the use of patents, know-how or other rights, or
by way of commission or other charges for specific
services performed or for management, or, except
in the case of a banking enterprise, by way of
interest on moneys lent to the head office of the
enterprise or any of its other offices.
4. No profits shall be attributed to a permanent
establishment by reason of the mere purchase by
that permanent establishment of goods or
merchandise for the enterprise.
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ITA 1034/2009 Page 76 of 174
5. For the purposes of this Convention, the profits
to be attributed to the permanent establishment as
provided in paragraph 1(a) of this article shall
include only the profits derived from the assets and
activities of the permanent establishment and shall
be determined by the same method year by year
unless there is good and sufficient reason to the
contrary.
6. Where profits include items of income which
are dealt with separately in other articles of the
convention, then the provisions of those articles
shall not be affected by the provisions of this article.
7. For the purposes of the Convention, the term "
business profits " means income derived from any
trade or business including income from the
furnishing of services other than included services as
defined in article 12 (royalties and fees for included
services) and including income from the rental of
tangible personal property other than property
described in paragraph 3(b) of article 12 (royalties
and fees for included services).
(Emphasis Supplied)
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51. What Article 7 of the Double Taxation Avoidance
Agreement stipulates is that the profits of an
enterprise would be exigible to tax only in a country
where the enterprise is a resident. The exception to
this has been carved out in Article 7, which stipulates
that an enterprise can also be liable to tax in another
country where the enterprise has a permanent
establishment. However, only so much of profits of
such enterprise shall be taxed in the country where
there is a permanent establishment other than the
country of residence to the extent the same is
attributable to that permanent establishment or in
respect of sales of goods or merchandise of same or
similar kind as sold through the permanent
establishment or other business activities effected
through that permanent establishment.
52. Clause 2 of Article 7 stipulates that attributability in
each contracting State of profits would be only to the
extent, such profits would arise in case the enterprise
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ITA 1034/2009 Page 78 of 174
was a distinct and independent enterprise engaged in
same or similar activity. The purport of the said clause
is that where the enterprise carries on business
through a permanent establishment, the profits would
be calculat ed on the basis of an arms length principle
which really implies that if two independent entities
were carrying on business with each other. The profit
that the enterprise would earn through the said
permanent establishment would be the profit that an
independent enterprise would have earned if it was
dealing with the enterprise in question. However, in
case the profits were not so determinable than the
reasonable profits on estimation basis would be
carried out.
53. Clause 3 of Article 7 lays down the deductible
expenses which an enterprise would be entitled to
while computing the profits attributable to the
permanent establishment. The permanent
establishment is permitted to deduct expenses that are
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incurred for the purposes of conduct of business of the
permanent establishment. The broad expenses that
are permitted to be deducted relate to execution, in
general administrative expenses, research and
development expenses, interest and other expenses
incurred for the purposes of an enterprise as a whole
irrespective of the fact whether the same are incurred
in the country of residents of an enterprise or in a
country where the permanent establishment is situated.
The clause further stipulates that no deduction
towards expenses would be allowed in respect of
royalties, fees or other similar payments in return for
the use of patents, knowhow or other rights or
commission or other charges for management etc. are
permitted. This is subject to limitations of the taxation
laws of the State.
54. Article 5 of the Indo US DTAA defines Permanent
Establishment in Article 5 as under:
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"Permanent establishment - 1. For the
purposes of this Convention, the term
"permanent establishment" means a fixed
place of business through which the business
of an enterprise is wholly or partly carried on.
2. The term "permanent establishment"
includes especially:
(a) a place of management ;
(b) a branch ;
(c) an office ;
(d) a factory ;
(e) a workshop ;
(f) a mine, an oil or gas well, a quarry, or
any other place of extraction of natural
resources ;
(g) a warehouse, in relation to a person
providing storage facilities for others ;
(h) a farm, plantation or other place where
agriculture, forestry, plantation or
related activities are carried on ;
(i) a store or premises used as a sales outlet ;
(j) an installation or structure used for the
exploration or exploitation of natural
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resources, but only if so used for a period
of more than 120 days in any twelve-
month period ;
(k) a building site or construction,
installation or assembly project or
supervisory activities in connection
therewith, where such site, project or
activities (together with other such sites,
projects or activities, if any) continue for
a period of more than 120 days in any
twelve-month period ;
(l) the furnishing of services, other than
included services as defined in Article 12
(Royalties and Fees for Included Services),
within a Contracting State by an
enterprise through employees or other
personnel, but only if:
(i) activities of that nature continue
within that State for a period or
periods aggregating more than 90
days within any twelve-month
period ; or
(ii) the services are performed within
that State for a related enterprise
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ITA 1034/2009 Page 82 of 174
[within the meaning of paragraph 1
of Article 9 (Associated
Enterprises)].
3. Notwithstanding the preceding
provisions of this Article, the term "permanent
establishment" shall be deemed not to include
any one or more of the following:
(a) the use of facilities solely for the purpose
of storage, display, or occasional delivery
of goods or merchandise belonging to
the enterprise ;
(b) the maintenance of a stock of goods or
merchandise belonging to the enterprise
solely for the purpose of storage, display,
or occasional delivery ;
(c) the maintenance of a stock of goods or
merchandise belonging to the enterprise
solely for the purpose of processing by
another enterprise ;
(d) the maintenance of a fixed place of
business solely for the purpose of
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ITA 1034/2009 Page 83 of 174
purchasing goods or merchandise, or of
collecting information, for the enterprise ;
(e) the maintenance of a fixed place of
business solely for the purpose of
advertising, for the supply of information,
for scientific research or for other
activities which have a preparatory or
auxiliary character, for the enterprise.
4. Notwithstanding the provisions of
paragraphs 1 and 2, where a person --other
than an agent of an independent status to
whom paragraph 5 applies - is acting in a
Contracting State on behalf of an enterprise of
the other Contracting State, that enterprise
shall be deemed to have a permanent
establishment in the first-mentioned State, if :
(a) he has and habitually exercises in the
first-mentioned State an authority to
conclude on behalf of the enterprise,
unless his activities are limited to those
mentioned in paragraph 3 which, if
exercised through a fixed place of
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ITA 1034/2009 Page 84 of 174
business, would not make that fixed
place of business a permanent
establishment under the provisions of
that paragraph ;
(b) he has no such authority but habitually
maintains in the first-mentioned State a
stock of goods or merchandise from
which he regularly delivers goods or
merchandise on behalf of the enterprise,
and some additional activities conducted
in the State on behalf of the enterprise
have contributed to the sale of the goods
or merchandise ; or
(c) he habitually secures orders in the first-
mentioned State, wholly or almost wholly
for the enterprise.
5. An enterprise of a Contracting State shall
not be deemed to have a permanent
establishment in the other Contracting State
merely because it carries on business in that
other State through a broker, general
commission agent, or any other agent of an
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ITA 1034/2009 Page 85 of 174
independent status, provided that such
persons are acting in the ordinary course of
their business.
However, when the activities of such an agent
are devoted wholly or almost wholly on behalf
of that enterprise and the transactions
between the agent and the enterprise are not
made under arm's length conditions, he shall
not be considered an agent of independent
status within the meaning of this paragraph.
6. The fact that a company which is a
resident of a Contracting State controls or is
controlled by a company which is a resident of
the other Contracting State, or which carries on
business in that other State (whether through a
permanent establishment or otherwise), shall
not of itself constitute either company a
permanent establishment of the other."
55. Article 5 of the DTAA defines and lays down the
number of conditions both positive and negative when
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ITA 1034/2009 Page 86 of 174
an establishment would have a permanent
establishment in the other contracting State.
56. In the present case, it is an admitted position that the
Respondent Assessee has a branch office in India
which is a permanent establishment as defined in
Article 5 of the DTAA. Since the Assessee has a
permanent establishment in India in terms of the law
as laid down by the Supreme Court of India in AZADI
BACHAO ANDOLAN (SUPRA), the Assessee be liable to
tax in India and as held hereinabove the chargeability
to tax of the income of the Assessee would have to be
governed by the provisions of the Indo US DTAA and
the provisions of the Agreement would prevail over the
provisions of the Act even if they are inconsistent with
the same.
57. Article 12 of the DTAA with USA stipulates as under:
Royalties and fees for technical services
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ITA 1034/2009 Page 87 of 174
1. Royalties or fees for technical services
arising in a Contracting State and paid to a
resident of the other Contracting State may be
taxed in that other State.
2. However, such royalties or fees for technical
services may also be taxed in the Contracting
State in which they arise, and according to the
laws of that State, but if the beneficial owner
of the royalties or fees for technical services is
a resident of the other Contracting State the
tax so charged shall not exceed 10 per cent. of
the gross amount of the royalties or fees for
technical services.
3. The term "royalties " as used in this article
means:
(a) payments of any kind received as
consideration for the use of, or the
right to use, any copyright of a
literary, artistic, or scientific work,
including cinematograph films or
work on film, tape or other means
of reproduction for use in
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ITA 1034/2009 Page 88 of 174
connection with radio or television
broadcasting, any patent,
trademark, design or model, plan,
secret formula or process, or for
information concerning industrial,
commercial or scientific experience,
including gains derived from the
alienation of any such right or
property which are contingent on
the productivity, use or disposition
thereof; and
(b) payments of any kind received as
consideration for the use of, or the
right to use, any industrial,
commercial or scientific equipment,
other than payments derived by an
enterprise described in paragraph 1
of article 8 (Shipping and Air
Transport) from activities described
in paragraph 2(c) or 3 or article 8.
(Emphasis supplied)
4. For purposes of this article, "fees for
included services " means payments of any
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ITA 1034/2009 Page 89 of 174
kind to any person in consideration for the
rendering of any technical or consultancy
services (including through the provision of
services of technical or other personnel) if such
services:
(a) are ancillary and subsidiary to the
application or enjoyment of the
right, property or information for
which a payment described in
paragraph 3 is received; or
(b) make available technical
knowledge, experience, skill, know-
how, or processes, or consist of the
development and transfer of a
technical plan or technical design.
5. --------
6. The provisions of paragraphs 1 and 2
shall not apply if the beneficial owner of the
royalties or fees for included services, being a
resident of a Contracting State, carries on
business in the other Contracting State, in
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ITA 1034/2009 Page 90 of 174
which the royalties or fees for included services
arise, through a permanent establishment
situated therein, or performs in that other
State independent personal services from a
fixed base situated therein, and the royalties or
fees for included services are attributable to
such permanent establishment or fixed base. In
such case the provisions of article 7 (business
profits) or article 15 (Independent Personal
Services), as the case may be, shall apply.
7. ........
58. Clause 1 of Article 12 lays down that royalty or fees for
included services arising in a contracting State and
paid to a residents of the other contracting State may
be taxed in that other state.
59. Clause 2 of Article 12 lays down that royalty and fees
for included services may also be taxed in a
contracting State in which they arise. However, if the
beneficial owner of the royalties or fees for included
services paid to the residents of the other contracting
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ITA 1034/2009 Page 91 of 174
State then the tax has been limited in percentage
depending upon the number of years the convention
has effect.
60. Clause 3 of Article 12 lays down that the term royalty
means payment of any kind received as consideration
for the use of, or the right to use, any copyright of a
literary, artistic, or scientific work.............., including
gains derived from the alienation of any such right or
property which are contingent on the productivity, use
of deposition thereof. The term royalty has been
defined by clause 3 of Article 12 as payment received
for the use of, or the right to use any copyright.
61. The amount received by the Assessee company had
been treated as royalty income by the AO and the
CIT(A) on the basis of Explanation 2 to Section 9(1)(vi)
of the Act holding that there was transfer of some
rights (including the granting of a licence) in respect of
the copyright.
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62. In terms of the law as laid down by the Supreme Court
of India in AZADI BACHAO ANDOLAN (SUPRA) and since
the Assessee is governed by the Indo US DTAA, the
income of the Assessee would be chargeable to tax in
terms of the provision of the Indo US DTAA, if the
same is more advantageous or beneficial. The AO and
the CIT (A) have applied by the definition of the word
'Royalty' as defined in Explanation 2 to Section 9(1)(vi)
of the Act which is clearly contrary to the law as laid
down by the Supreme Court of India in AZADI BACHAO
ANDOLAN (SUPRA). Since the Assessee is governed by
the provisions of the DTAA, the more onerous
provisions of the Act could not have been applied. If
the provision of the Act were more beneficial that the
provisions of the DTAA then only reliance on the same
could have been placed by the AO.
63. What is thus required to be examined is whether
income of the Assessee is royalty income as covered
by Article 12 of the DTAA if not then the same would
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be taxable as business income as covered by the
provisions of Article 7 of the DTAA.
64. 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.
65. The issue whether consideration for software was
royalty came up for consideration before the Special
Bench of the Tribunal in Delhi in the case of
MOTOROLA INC VS DEPUTY CIT AND DEPUTY CIT VS
NOKIA (2005) 147 TAXMAN 39 (DELHI). The Tribunal has
held as under:
155. It appears to us from a close examination
of the manner in which the case has proceeded
before the Income-tax authorities and the
arguments addressed before us that the crux of
the issue is whether the payment is for a
copyright or for a copyrighted article. If it is for
copyright, it should be classified as royalty both
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ITA 1034/2009 Page 94 of 174
under the Income-tax Act and under the DTAA
and it would be taxable in the hands of the
Assessee on that basis. If the payment is really
for a copyrighted article, then it only
represents the purchase price of the article and,
therefore, cannot be considered as royalty
either under the Act or under the DTAA. This
issue really is the key to the entire controversy
and we may now proceed to address this issue.
156. We must look into the meaning of the
word "copyright" as given in the Copyright Act,
1957. Section 14 of this Act defines "Copyright"
as "the exclusive right subject 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:
---------
It is clear from the above definition that a
computer programme mentioned in Clause (b)
of the section has all the rights mentioned in
Clause (a) and in addition also the right to sell
or give on commercial rental or offer for sale or
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ITA 1034/2009 Page 95 of 174
for commercial rental any copy of the
computer programme. This additional right was
substituted w.e.f. 15.1.2000. The difference
between the earlier provision and the present
one is not of any relevance. What is to be
noted is that the right mentioned in Sub-clause
(ii) of Clause (b) of Section 14 is available only
to the owner of the computer programme. It
follows that if any of the cellular operators
does not have any of the rights mentioned in
Clauses (a) and (b) of Section 14, it would mean
that it does not have any right in a copyright. In
that case, the payment made by the cellular
operator cannot be characterized as royalty
either under the Income-tax Act or under the
DTAA. The question, therefore, to be answered
is whether any of the operators can exercise
any of the rights mentioned in the above
provisions with reference to the software
supplied by the Assessee.
157. We may first look at the supply contract
itself to find out what JTM, one of the cellular
operators, can rightfully do with reference to
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ITA 1034/2009 Page 96 of 174
the software. We may remind ourselves that
JTM is taken as a representative of all the
cellular operators and that it was common
ground before us that all the contracts with the
cellular operators are substantially the same.
Clause 20.1 of the Agreement, under the title
"License", says that JTM is granted a non-
exclusive restricted license to use the software
and documentation but only for its own
operation and maintenance of the system and
not otherwise. This clause appears to militate
against the position, if it were a copyright, that
the holder of the copyright can do anything
with respect to the same in the public domain.
What JTM is permitted to do is only to use the
software for the purpose of its own operation
and maintenance of the system. There is a
clear bar on the software being used by JTM in
the public domain or for the purpose of
commercial exploitation.
158. Secondly, under the definition of
"copyright" in Section 14 of the Copyright Act,
the emphasis is that it is an exclusive right
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ITA 1034/2009 Page 97 of 174
granted to the holder thereof. This condition is
not satisfied in the case of JTM because the
license granted to it by the Assessee is
expressly stated in Clause 20.1 as a "non
exclusive restricted license". This means that
the supplier of the software, namely, the
Assessee, can supply similar software to any
number of cellular operators to which JTM can
have no objection and further all the cellular
operators can use the software only for the
purpose of their own operation and
maintenance of the system and not for any
other purpose. The user of the software by the
cellular operators in the public domain is
totally prohibited, which is evident from the
use of the words in Article 20.1 of the
agreement, "restricted" and "not otherwise".
Thus JTM has a very limited right so far as the
use of software is concerned. It needs no
repetition to clarify that JTM has not been
given any of the seven rights mentioned in
Clause (a) of Section 14 or the additional right
mentioned in Sub-clause (ii) of Clause (b) of the
section which relates to a computer
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ITA 1034/2009 Page 98 of 174
programme and, therefore, what JTM or any
other cellular operator has acquired under the
agreement is not a copyright but is only a
copyrighted article.
159. Clause 20.4 of the supply contract with
JTM is as under:
20.4 In pursuance of the foregoing JT MOBILES
shall:
(a) not provide or make the Software or
Documentation or any portions or aspects
thereof (including any methods or concepts
utilized or expressed therein) available to any
person except to its employees on a "need to
know" basis;
(b) not make any copies of Software or
Documentation or parts thereof, except for
archival backup purposes;
(c) when making permitted copies as aforesaid
transfer to the copy/copies any copyright or
other marking on the Software or
Documentation.
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ITA 1034/2009 Page 99 of 174
(d) Not use the Software or Documentation for
any other purpose than permitted in this
Article 20, Licence or sell or in any manner
alienate or part with its possession.
(e) Not use or transfer the Software and/or the
Documentation outside India without the
written consent of the Contractor and after
having received necessary export or re-export
permits from relevant authorities.
This clause places stringent restrictions on the
cellular operator so far as the use of software
is concerned. It first says that the cellular
operator cannot make the software or portions
thereof available to any person except to its
employees and even with regard to employees
it has to be only on a "need to know basis"
which means that even the employees are not
to be told in all its aspects. What the Assessee
can do is only to tell the particular employee
what he has to know about the software for
operational purposes. The cellular operator has
been denied the right to make copies of the
software or parts thereof except for archival
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ITA 1034/2009 Page 100 of 174
backup purposes. This means that the cellular
operator cannot make copies of the software
for commercial purposes. This condition is
plainly contrary to Section 14(a)(i) of the
Copyright Act which permits the copyright
holder to reproduce the work in any material
form including the storing of it in any medium
by electronic means. We may also notice
Section 52(1)(aa) of the Copyright Act which
lists out certain acts which cannot be
considered as infringement of copyright. The
particular clause permits the making of copies
or adaptation of a computer programme by the
lawful possessor of the copy and the computer
programme in order to utilize the public
programme for the purpose for which it was
supplied or to make backup copies purely as a
temporary protection against loss, destruction
or damage. Therefore, merely because the
cellular operator has been permitted to take
copies just for backup purposes, it cannot be
said that it has acquired a copyright in the
software.
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ITA 1034/2009 Page 101 of 174
160. Clause 20.4(c) makes it mandatory for the
cellular operator, while making copies of the
software for backup purposes, to also mark the
copied software with copyright or other
marking to show that the rights of the Assessee
are reserved. This is one more indication that
what the cellular operator acquired is not a
copyright.
161. Clause 20.4(d) says that the cellular
operator cannot use the software for any other
purpose than what is permitted and shall not
also license or sell or in any manner alienate or
part with its possession. This has to be read
with Clause 20.5 which says that the license
can be transferred, but only when the GSM
system itself is sold by the cellular operator to
a third party. This in a way shows that the
software is actually part of the hardware and it
has no use or value independent of it. This
restriction placed on the cellular operator (not
to license or sell the software) runs counter to
Section 14(b)(ii) of the Copyright Act which
permits a copyright holder to sell or let out on
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ITA 1034/2009 Page 102 of 174
commercial rental the computer programme.
For this reason also it cannot be said that JTM
or any cellular operator acquired a copyright in
the software.
162. A conjoint reading of the terms of the
supply contract and the provisions of the
Copyright Act, 1957 clearly shows that the
cellular operator cannot exploit the computer
software commercially which is the very
essence of a copyright. In other words a holder
of a copyright is permitted to exploit the
copyright commercially and if he is not
permitted to do so then what he has acquired
cannot be considered as a copyright. In that
case, it can only be said that he has acquired a
copyrighted article. A small example may
clarify the position. The purchaser of a book on
income-tax acquires only a copyrighted article.
On the other hand, a recording company which
has recorded a vocalist has acquired the
copyright in the music rendered and is,
therefore, permitted to exploit the recording
commercially. In this case the music recording
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ITA 1034/2009 Page 103 of 174
company has not merely acquired a
copyrighted article in the form of a recording,
but has actually acquired a copyright to
reproduce the music and exploit the same
commercially. In the present case what JTM or
any other cellular operator has acquired under
the supply contract is only the copyrighted
software, which is an article by itself and not
any copyright therein.
163. We may now briefly deal with the
objections of Mr. G.C. Sharma, the learned
senior counsel for the Department. He
contended that if a person owns a copyrighted
article then he automatically has a right over
the copyright also. With respect, this objection
does not appear to us to be correct. Mr. Dastur
filed an extract from Iyengar's Copyright Act
(3rd Edition) edited by R.G. Chaturvedi. The
following observations of the author are on the
point:
"(h) Copyright is distinct from the material
object, copyrighted:
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ITA 1034/2009 Page 104 of 174
It is an intangible incorporeal right in the
nature of a privilege, quite independent of any
material substance, such as a manuscript. The
copyright owner may dispose of it on such
terms as he may see fit. He has an individual
right of exclusive enjoyment. The transfer of
the manuscript does not, of itself, serve to
transfer the copyright therein. The transfer of
the ownership of a physical thing in which
copyright exists gives to the purchaser the right
to do with it (the physical thing) whatever he
pleases, except the right to make copies and
issue them to the public" (underline is ours).
The above observations of the author show
that one cannot have the copyright right
without the copyrighted article but at the same
time just because one has the copyrighted
article, it does not follow that one has also the
copyright in it. Mr. Sharma's objection cannot
be accepted.
164. It is not necessary, therefore, to consider
the alternative argument of Mr. Dastur, namely,
that even assuming that the Department is
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ITA 1034/2009 Page 105 of 174
right in saying that if you have the copyrighted
article, you also have the copyright right
therein, still it would mean that the copyright
rights are transferred (acquired by JTM) and it
would not be a case of merely giving the right
to use and consequently Article 13 of the DTAA
would not apply. Mr. Dastur, however, was fair
enough to concede that if the Department is
right in saying that if you have the copyrighted
article, you also have the copyrighted rights,
then Clause (v) of Explanation 2 below Section
9(1) of the Income-tax Act will apply because
this clause ropes in "transfer of all or any
rights" and is not restricted to "use" or "right
to use", the copyright. However, he added that
since the basic proposition of the Department
has been demonstrated to be wrong, Clause (v)
of Explanation 2 below Section 9(1) is not an
impediment to accepting the assessee's
contention.
165. We may also usefully refer to the
Commentary on the OECD Model Convention
(dated 28.1.2003) which is of persuasive value
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ITA 1034/2009 Page 106 of 174
and which throws considerable light on the
character of the transaction and the treatment
to be given to the payments for tax purposes.
Paragraph 14 of the Commentary, a copy of
which was filed in Paper book No. V is relevant:
COMMENTARY ON ARTICLE 12 - PAPER BOOK V
"14. In other types of transactions, the rights
acquired in relation to the copyright are limited
to those necessary to enable the user to
operate the program, for example, where the
transferee is granted limited rights to
reproduce the program. This would be the
common situation in transactions for the
acquisition of a program copy. The rights
transferred in these cases are specific to the
nature of computer programs. They allow the
user to copy the program, for example onto
the user's computer hard drive or for archival
purposes. In this context, it is important to
note that the protection afforded in relation to
computer programs under copyright law may
differ from country to country. In some
countries the act of copying the program onto
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ITA 1034/2009 Page 107 of 174
the hard drive or random access memory of a
computer would, without a license, constitute
a breach of copyright. However, the copyright
laws of many countries automatically grant this
right to the owner of software which
incorporates a computer program. Regardless
of whether this right is granted under law or
under a license agreement with the copyright
holder, 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 commercial income in
accordance with Article 7."
166. We may also usefully refer to the
proposed amendments to the regulations of
the Internal Revenue Service (IRS) in the USA.
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ITA 1034/2009 Page 108 of 174
Again these regulations may not be binding on
us but they have a persuasive value and throw
light on the question before us, namely the
difference between a copyright right and a
copyrighted article. These regulations have
been placed at pages 136 to 157 of Paper book
No. II. The actual regulations as well as the
explanatory Note explaining the object and the
purpose of the proposed regulations have also
been given. In paragraph 1 of the Note titled
"Background", it has been stated that the
proposed regulations require that a transaction
involving a computer programme may be
treated as being one of the four possible
categories. Two such categories are the
transfer of copyright rights and the transfer of
a copyrighted article. The U.S. regulations
distinguished between transfer of copyright
rights and transfer of copyrighted articles
based on the type of rights transferred to the
transferee. Briefly stated, if the transferee
acquires a copy of a computer programme but
does not acquire any of the rights identified in
certain sections (of the U.S. Regulations), the
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ITA 1034/2009 Page 109 of 174
regulation classified the transaction as the
Transfer of a copyrighted article. Paragraph 3
of the Explanatory Note says that if a transfer
of a computer programme results in the
transferee acquiring any one or more of the
listed rights, it is a transfer of a copyright right.
167. Paragraph 4 says that if a person acquires
a copy of a computer programme but does not
acquire any of the four listed copyright rights,
he gets only a copyrighted article but no
copyright.
168. The actual regulations bring out the
distinction very clearly between the copyright
right and a copyrighted article. They also
specify the four rights which, if acquired by the
transferee, constitute him the owner of a
copyright right. They are:
(a) The right to make copies of the computer
programme for purposes of distribution to the
public by sale or other transfer of ownership,
or by rental, lease, or lending.
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ITA 1034/2009 Page 110 of 174
(ii) The right to prepare derivative computer
programmes based upon the copyrighted
computer programme
(iii) The right to make a public performance of
the computer programme.
(iv) The right to publically display the computer
programme.
169. A copyrighted article has been defined in
the regulation (page 147 of the paper book) as
including a copy of a computer programme
from which the work can be perceived,
reproduced or otherwise communicated either
directly or with the aid of a machine or device.
The copy of the programme may be fixed in the
magnetic medium of a floppy disc or in the
main memory or hard drive of a computer or in
any other medium.
170. So far as the transfer of copyrighted
articles and copyright rights are concerned, the
regulation goes on to say (page 148 of the
paper book) that the question whether there
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ITA 1034/2009 Page 111 of 174
was a transfer of a copyright right or only of a
copyrighted article must be determined taking
into account all the facts and circumstances of
the case and the benefits and burden of
ownership which have been transferred.
Several examples have been given below these
regulations to find out whether a particular
transfer is a transfer of a copyright right or a
transfer of a copyrighted article.
171. The Commentary of "Charl P. du TOIT" on
this question has been placed at pages 202 to
204 of Paper book No. II. The Commentary is
titled "Beneficial ownership of royalties in
Bilateral Tax Treaties." He has opined that
articles such as Books and Records are
copyrighted articles and if they are sold, the
user does not obtain the right to use any
significant rights in the underlying copyright
itself, which is what should determine the
characterization of the revenue as sale
proceeds rather than royalties. He has further
opined that consideration relating to sale of
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ITA 1034/2009 Page 112 of 174
software can amount to royalty only in limited
circumstances.
172. For the above reasons, we are of the view
that the payment by the cellular operator is
not for any copyright in the software but is
only for the software as such as a copyrighted
article. It follows that the payment cannot be
considered as royalty within the meaning of
Explanation 2 below Section 9(1) of the
Income-tax Act or Article Article of the DTAA
with Sweden.
--------
184. In view of the foregoing discussion, we
hold that the software supplied was a
copyrighted article and not a copyright right,
and the payment received by the Assessee in
respect of the software cannot be considered
as royalty either under the Income-tax Act or
the DTAA.
66. Referring to the Commentary on the OECD Model
Convention (dated 28.1.2003), which was considered
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ITA 1034/2009 Page 113 of 174
to be of persuasive value, the Tribunal noticed that the
rights acquired in relation to the copyright are limited
to those necessary to enable the user to operate the
program, for example, where the transferee is granted
limited rights to reproduce the program. This would be
the common situation in transactions for the
acquisition of a program copy. The rights transferred in
these cases are specific to the nature of computer
programs. They allow the user to copy the program,
for example onto the user's computer hard drive or for
archival purposes. 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
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ITA 1034/2009 Page 114 of 174
of transactions would be dealt with as commercial
income in accordance with Article 7.
67. The Tribunal further referred to the proposed
amendments to the regulations of the Internal
Revenue Service (IRS) in the USA not as binding but
as having persuasive value and throwing light on the
question i.e. the difference between a copyright right
and a copyrighted article. The Tribunal noticed that the
U.S. regulations distinguished between transfer of
copyright rights and transfer of copyrighted articles
based on the type of rights transferred to the
transferee. Briefly stated, if the transferee acquires a
copy of a computer programme but does not acquire
any of the rights identified in certain sections (of the
U.S. Regulations), the regulation classified the
transaction as the Transfer of a copyrighted article. If a
transfer of a computer programme results in the
transferee acquiring any one or more of the listed
rights, it is a transfer of a copyright right. If a person
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ITA 1034/2009 Page 115 of 174
acquires a copy of a computer programme but does
not acquire any of the four listed copyright rights, he
gets only a copyrighted article but no copyright. The
four rights being:
(i) The right to make copies of the computer
programme for purposes of distribution to
the public by sale or other transfer of
ownership, or by rental, lease, or lending.
(ii) The right to prepare derivative computer
programmes based upon the copyrighted
computer programme
(iii) The right to make a public performance
of the computer programme.
(iv) The right to publically display the
computer programme.
68. The Tribunal further noticed that a copyrighted article
has been defined in the regulation as including a copy
of a computer programme from which the work can be
perceived, reproduced or otherwise communicated
either directly or with the aid of a machine or device.
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ITA 1034/2009 Page 116 of 174
The copy of the programme may be fixed in the
magnetic medium of a floppy disc or in the main
memory or hard drive of a computer or in any other
medium.
69. The Tribunal has held and rightly so that the question
whether there was a transfer of a copyright right or
only of a copyrighted article must be determined ta king
into account all the facts and circumstances of the
case and the benefits and burden of ownership which
have been transferred.
70. The appeal filed by the Revenue against the Judgment
of the Special Bench of the ITAT was dismissed by the
High Court of Delhi in the case of DIT V. M/S NOKIA
NETWORKS OY (2012) 253 CTR (D EL) 417. The bench
approved of the findings of the Special Bench of the
Tribunal in the Motorola case supra that Copyright is
distinct from the material object, copyrighted. It is an
intangible incorporeal right in the nature of a privilege,
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ITA 1034/2009 Page 117 of 174
quite independent of any material substance, such as
a manuscript. He has an individual right of exclusive
enjoyment. The transfer of the manuscript does not, of
itself, serve to transfer the copyright therein. The
transfer of the ownership of a physical thing in which
copyright exists gives to the purchaser the right to do
with it (the physical thing) whatever he pleases, except
the right to make copies and issue them to the public.
Just because one has the copyrighted article, it does
not follow that one has also the copyright in it.
71. In the case of DIT V. ERICSSON A.B. (2012) 343 ITR
470 (DEL), one issue that the Delhi High Court was
considering was whether the consideration for supply
of software was payment by way of royalty and hence
assessable both under Section 9(1)(vi) and the Double
Taxation Avoidance Agreement between the
government of India and Sweden? The High Court
relying on the Judgment of the Supreme Court of India
in TATA CONSULTANCY SERVICES VS . STATE OF ANDHRA
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ITA 1034/2009 Page 118 of 174
PRADESH , (2004) 271 ITR 401 (SC) , held that software
incorporated on a media would be goods and liable to
sales tax. The High Court has held as under:
56. A fortiorari when the assessee supplies
the software which is incorporated on a CD, it
has supplied tangible property and the
payment made by the cellular operator for
acquiring such property cannot be regarded as
a payment by way of royalty.
........
59. Be that as it may, in order to qualify as
royalty payment, within the meaning of
section 9(1)(vi) and particularly clause (v) of
Explanation 2 thereto, it is necessary to
establish that there is transfer of all or any
rights (including the granting of any licence) in
respect of copyright 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
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ITA 1034/2009 Page 119 of 174
established that the cellular operator, by
making such payment, obtains all or any of the
copyright rights of such literary work. In the
present 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 on the commentary on the OECD
Model Convention. Such a distinction has been
accepted in a recent ruling of the Authority for
Advance Ruling (AAR) in Dassault Systems KK
229 CTR 125. We also find force in the
submission of Mr. Dastur that even assuming
the payment made by the cellular operator is
regarded as a payment by way of royalty as
defined in Explanation 2 below Section 9 (1)
(vi), nevertheless, it can never be regarded as
royalty within the meaning of the said term in
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ITA 1034/2009 Page 120 of 174
article 13, para 3 of the DTAA. This is so
because the definition in the DTAA is narrower
than the definition in the Act. Article 13(3)
brings within the ambit of the definition of
royalty a payment made for the use of or the
right to use a copyright of a literary work.
Therefore, what is contemplated is a payment
that is dependent upon user of the copyright
and not a lump sum payment as is the position
in the present case.
We thus hold that payment received by the
assessee was towards the title and GSM system
of which software was an inseparable parts
incapable of independent use and it was a
contract for supply of goods. Therefore, no
part of the payment therefore can be classified
as payment towards royalty.
72. The Delhi High Court further in ERICSSON CASE (SUPRA )
further held that once it is held that payment in
question is not royalty which would come within the
mischief of clause (vi), the Explanation will have no
application and that the question of applicability of the
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ITA 1034/2009 Page 121 of 174
Explanation would arise only when payment is to be
treated as "royalty" within the meaning of clause (vi) or
"fee for technical services" as provided in clause (vii)
of the Act.
73. In the case of D ASSAULT SYSTEMS K. K., IN RE (2010)
322 ITR 125 (AAR) the Authority on Advance Ruling
has held as under:
Passing on a right to use and facilitating the
use of a product for which the owner has a
copyright is not the same thing as transferring
or assigning rights in relation to the copyright.
The enjoyment of some or all the rights which
the copyright owner has, is necessary to trigger
the royalty definition. Viewed from this angle,
a non-exclusive and non-transferable licence
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. Where the purpose of the licence
or the transaction is only to establish access to
the copyrighted product for internal business
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ITA 1034/2009 Page 122 of 174
purpose, it would not be legally correct to state
that the copyright itself has been transferred
to any extent. It does not make any difference
even if the computer programme passed on to
the user is a highly specialized one. The parting
of intellectual property rights inherent in and
attached to the software product in favour of
the licensee/customer is what is contemplated
by the definition clause in the Act as well as the
Treaty. As observed earlier, those rights are
incorporated in section 14. Merely authorizing
or enabling a customer to have the benefit of
data or instructions contained therein without
any further right to deal with them
independently does not, in our view, amount
to transfer of rights in relation to copyright or
conferment of the right of using the copyright.
However, where, for example, the owner of
copyright over a literary work grants an
exclusive licence to make out copies and
distribute them within a specified territory, the
grantee will practically step into the shoes of
the owner/grantor and he enjoys the copyright
to the extent of its grant to the exclusion of
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ITA 1034/2009 Page 123 of 174
others. As the right attached to copyright is
conveyed to such licencee, he has the authority
to commercially deal with it. In case of
infringement of copyright, he can maintain a
suit to prevent it. Different considerations will
arise if the grant is non-exclusive that too
confined to the user purely for in-house or
internal purpose. The transfer of rights in or
over copyright or the conferment of the right
of use of copyright implies that the
transferee/licensee should acquire rights either
in entirety or partially co-extensive with the
owner/ transferor who divests himself of the
rights he possesses pro tanto. That is what, in
our view, follows from the language employed
in the definition of "royalty" read with the
provisions of the Copyright Act, viz., section 14
and other complementary provisions.
We may refer to one more aspect here. In the
definition of royalty under the Act, the phrase
"including the granting of a licence" is found.
That does not mean that even a non-exclusive
licence permitting user for inhouse purpose
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ITA 1034/2009 Page 124 of 174
would be covered by that expression. Any and
every licence is not what is contemplated. It
should take colour from the preceding
expression "transfer of rights in respect of
copyright". Apparently, grant of "licence" has
been referred to in the definition to dispel the
possible controversy a licence whatever be its
nature, can be characterized as transfer.
74. The Authority on Advance Ruling in the case of
DASSAULT SYSTEMS K. K., IN RE (SUPRA) negated the
contention of the revenue that the right permitting the
licensee to make a copy of the programme by loading
the programme on the hard disk of the computer
amounted to assignment of a right in the copyright in
terms of section 14 of the Copyright Act as under:
It has been contended on behalf of the
Revenue that the right to reproduce the work
in any material form including the storing of it
in any medium by electronic means (vide
section 14(a)(i) of the Copyright Act) must be
deemed to have been conveyed to the end-
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ITA 1034/2009 Page 125 of 174
user. It is pointed out that a CD without right of
reproduction on the hard disc is of no value to
the end-user and such a right should
necessarily be transferred to make it workable.
It appears to us that the contention is based on
a misunderstanding of the scope of right in
sub-clause (i) of section 14(a). As stated in
Copinger's treatise on Copyright, "the exclusive
right to prevent copying or reproduction of a
work is the most fundamental and historically
oldest right of a copyright owner". We do not
think that such a right has been passed on to
the end-user by permitting him to download
the computer programme and storing it in the
computer for his own use. The copying/
reproduction or storage is only incidental to
the facility extended to the customer to make
use of the copyrighted product for his internal
business purpose. As admitted by the
Revenue's representative, that process is
necessary to make the programme functional
and to have access to it and is qualitatively
different from the right contemplated by the
said provision because it is only integral to the
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ITA 1034/2009 Page 126 of 174
use of copyrighted product. Apart from such
incidental facility, the customer has no right to
deal with the product just as the owner would
be in a position to do. In so far as the licensed
material reproduced or stored is confined to
the four corners of its business establishment,
that too on a non-exclusive basis, the right
referred to in sub-clause (i) of section 14(a)
would be wholly out of place. Otherwise, in
respect of even off-the-shelf software available
in the market, it can be very well said that the
right of reproduction which is a facet of
copyright vested with the owner is passed on
to the customer. Such an inference leads to
unintended and irrational results. We may in
this context refer to section 52(aa) of the
Copyright Act (extracted supra) which makes it
clear that "the making of copies or adaptation"
of a computer programme by the lawful
possessor of a copy of such programme, from
such copy (i) in order to utilize the computer
program, for the purpose for which it was
supplied or (ii) to make back up copies purely
as a temporary protection against loss,
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ITA 1034/2009 Page 127 of 174
destruction, or damage in order to utilize the
computer programme for the 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
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ITA 1034/2009 Page 128 of 174
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
effect; otherwise, section 52(aa) will be
practically redundant. In fact, as the law now
stands, the owner need not necessarily grant
licence for mere reproduction or adaptation of
work for one's own use. Even without such
licence, the buyer of product cannot be said to
have infringed the owner's copyright. When
the infringement is ruled out, it would be
difficult to reach the conclusion that the
buyer/licensee of product has acquired a
copyright therein.
75. The Authority on Advance Ruling in the case of
DASSAULT SYSTEMS K. K., IN RE (SUPRA) further
approved the reasoning of the Special Bench of
Income-tax Appellate Tribunal in MOTOROLA INC.
(SUPRA) and noticed that the said decision has been
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followed in several decisions of the Income-tax
Appellate Tribunal till date.
76. The Authority on Advance Ruling following the
decision in the DASSAULT CASE (SUPRA ) in the case of
GEOQUEST SYSTEMS B.V. V. DIT (INTERNATIONAL
TAXATION-I) [(2010)234CTR(AAR)73] held as under:
9. The revenue has sought to place reliance on
the proviso to section 9(1)(vi) and sub-section
(1A) of section 115A in order to contend that
the Act contemplated charging of 'royalty' for
authorization to use computer software as
such and it is not necessary that the copyright
therein should be specifically transferred. We
are not impressed by this argument. The
expression 'computer software' has been
defined by Explanation 3 to section 9(1)(vi) for
the purpose of the second proviso to the said
clause. The computer software is defined to
mean any computer programme recorded on
any disc, tape, perforated media or other
information storage device and includes any
such programme or any customized electronic
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data. Under the second proviso the income by
way of 'royalty' consisting of lump sum
payment made by a resident for the transfer of
all or any rights (including the grant of licence)
in respect of the computer software by a non-
resident manufacturer along with a computer
based equipment under a scheme approved as
per the 1986 Policy on computer software
export, software development and training, is
excluded from the purview of 'royalty' clause.
It does not, however, mean that wherever
computer software is transferred on outright
sale basis or is leased or licensed, it would
become royalty income. Whether or not the
income is in the nature of royalty has to be
judged with reference to the exhaustive
definition in Explanation 2. In this context, sub-
clause (v) of Explanation 2 which has been
referred to by both sides become relevant. It is
in the light of the language of that clause one
has to see whether the income in question
ought to be treated as 'royalty'. The transfer of
rights envisaged by sub-clause (v) should be in
respect of the 'copyright' among others. Mere
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transfer of computer software dehors any
copyright associated with it does not fall within
the ambit of the said clause (v). That is what
has been held in the two rulings referred to
earlier.
77. The Supreme Court of India in TATA CONSULTANCY
CASE (SUPRA) was considering the question whether
the sale of software was sale of goods and thus
exigible to sales tax. The Supreme Court held that
software may be intellectual property and contained on
a medium was a marketable commodity and an object
of trade and commerce. The Supreme Court of India
held as under:
"15. Sorabjee submitted that the question as
to whether software is tangible or intangible
property has been considered by the American
Courts. He fairly pointed out that in America
there is a difference of opinion amongst the
various Courts. He submitted that, however,
the majority of the Courts have held that a
software is an intangible property. He showed
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to the Court a number of American Judgments,
viz., the cases of Commerce Union Bank v.
Tidwell 538 S.W.2d 405; State of Alabama v.
Central Computer Services. INC 349 So. 2d
1156; The First National Bank of Fort Worth v.
Bob Bullock 584 S.W.2d 548; First National
Bank of Springfield v. Department of Revenue
421 NE2d 175; Compuserve, INC. v. Lindley 535
N.E. 2d 360 and Northeast Datacom, Inc., et al
v. City of Wallingford 563 A2d 688. In these
cases, it has been held that 'computer
software' is tangible personal property. The
reasoning for arriving at this conclusion is
basically that the information contained in the
software programs can be introduced into the
user's computer by several different methods,
namely, (a) it could be programmed manually
by the originator of the program at the location
of the user's computer, working from his own
instructions or (b) it could be programmed by a
remote programming terminal located miles
away from the user's computer, with the input
information being transmitted by telephone; or
(c) more commonly the computer could be
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programmed by use of punch cards, magnetic
tapes or discs, containing the program
developed by the vendor. It has been noticed
that usually the vendor will also provide
manuals, services and consultation designed to
instruct the user's employees in the installation
and utilization of the supplied program. It has
been held that even though the intellectual
process is embodied in a tangible and physical
manner, that is on the punch cards, magnetic
tapes, etc. the logic or intelligence of the
program remains intangible property. It is held
that it is this intangible property right which is
acquired when computer software is purchased
or leased. It has been held that what is created
and sold is information and the magnetic tapes
or the discs are only the means of transmitting
these intellectual creations from the originator
to the user. It has been held that the same
information could have been transmitted from
the originator to the user by way of telephone
lines or fed directly into the user's computer by
the originator of the programme and that as
there would be no tax in those cases merely
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ITA 1034/2009 Page 134 of 174
because the method of transmission is by
means of a tape or a disc, it does not constitute
purchase of tangible personal property and the
same remains intangible personal property. It
has been held that what the customer paid for
is the intangible knowledge which cannot be
subjected to the personal property tax. In
these cases, difference is sought to be made
between purchase of a book, music
cassette/video or film and purchase of
software on the following lines: "When one
buys a video cassette recording, a book, sheet
music or a musical recording, one acquires a
limited right to use and enjoy the material's
content. One does not acquire, however, all
that the owner has to sell. These additional
incidents of ownership include the right to
produce and sell more copies, the right to
change the underlying work, the right to
license its use to other and the right to transfer
the copyright itself. It is these incidents of the
intellectual, intangible competent of the
software property that Wallingford has
impermissibly assessed as tangible property by
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ITA 1034/2009 Page 135 of 174
linking these incorporeal incidents with the
tangible medium in which the software is
stored and transmitted."
16. It has been fairly brought to the attention
of the Court that many other American Courts
have taken a different view. Some of those
cases are South Central Bell Telephone Co. v.
Sidney J. Barthelemy 643 So.2d 1240;
Comptroller of the Treasury v. Equitable Trust
Company 464 A.2d 248; Chittenden Trust Co. v.
Commissioner of Taxes 465 A.2d 1100;
University Computing Company v.
Commissioner of Revenue for the State of
Tennessee 677 S.W.2d 445 and Hasbro
Industries, INC. v. John H. Norberg, Tax
Administrator 487 A.2d 124. In these cases, the
Courts have held that when stored on magnetic
tape, disc or computer chip, this software or
set of instructions is physically manifested in
machine readable form by arranging electrons,
by use of an electric current, to create either a
magnetized or unmagnetized space. This
machine readable language or code is the
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ITA 1034/2009 Page 136 of 174
physical manifestation of the information in
binary form. It has been noticed that at least
three program copies exist in a software
transaction: (i) an original, (ii) a duplicate, and
(iii) the buyer's final copy on a memory device.
It has been noticed that the program is
developed in the seller's computer then the
seller duplicates the program copy on software
and transports the duplicates to the buyer's
computer. The duplicate is read into the
buyer's computer and copied on a memory
device. It has been held that the software is
not merely knowledge, but rather is knowledge
recorded in a physical form having a physical
existence, taking up space on a tape, disc or
hard drive, making physical things happen and
can be perceived by the senses. It has been
held that the purchaser does not receive mere
knowledge but receives an arrangement of
matter which makes his or her computer
perform a desired function. It has been held
that this arrangement of matter recorded on
tangible medium constitutes a corporeal body.
It has been held that a software recorded in
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ITA 1034/2009 Page 137 of 174
physical form becomes inextricably intertwined
with, or part and parcel of the corporeal object
upon which it is recorded, be that a disk, tape,
hard drive, or other device. It has been held
that the fact that the information can be
transferred and then physically recorded on
another medium does not make computer
software any different from any other type of
recorded information that can be transferred
to another medium such as film, video tape,
audio tape or books. It has been held that by
sale of the software programme the
incorporeal right to the software is not
transferred. It is held that the incorporeal right
to software is the copyright which remains
with the originator. What is sold is a copy of
the software. It is held that the original
copyright version is not the one which operates
the computer of the customer but the physical
copy of that software which has been
transferred to the buyer. It has been held that
when one buys a copy of a copyrighted novel in
a bookstore or recording of a copyrighted song
in a record store, one only acquires ownership
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ITA 1034/2009 Page 138 of 174
of that particular copy of the novel or song but
not the intellectual property in the novel or
song.
.......
19. Thus this Court has held that the term
"goods", for the purposes of sales tax, cannot
be given a narrow meaning. It has been held
that properties which are capable of being
abstracted, consumed and used and/or
transmitted, transferred, delivered, stored or
possessed etc. are "goods" for the purposes of
sales tax. The submission of Mr. Sorabjee that
this authority is not of any assistance as a
software is different from electricity and that
software is intellectual incorporeal property
whereas electricity is not, cannot be accepted.
In India the test, to determine whether a
property is "goods", for purposes of sales tax,
is not whether the property is tangible or
intangible or incorporeal. The test is whether
the concerned item is capable of abstraction,
consumption and use and whether it can be
transmitted, transferred, delivered, stored,
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ITA 1034/2009 Page 139 of 174
possessed etc. Admittedly in the case of
software, both canned and uncanned, all of
these are possible. "
78. The Supreme Court of India in TATA CONSULTANCY
CASE (SUPRA) referred to the Judgment of the
Supreme Court in ASSOCIATED CEMENT COMPANIES LTD .
VS C OMMISSIONER OF C USTOMS (2001) 4 SCC 593 as
under:
43. Similar would be the position in the case of
a programme of any kind loaded on a disc or a
floppy. For example in the case of music the
value of a popular music cassette is several
times more than the value of a blank cassette.
However, if a prerecorded music cassette or a
popular film or a musical score is imported into
India duty will necessarily have to be charged
on the value of the final product. In this behalf
we may note that in State Bank of India v.
Collector of Customs MANU/SC/0017/2000 :
(2000) 1 SCC 727 the Bank had, under an
agreement with the foreign company,
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imported a computer software and manuals,
the total value of which was US Dollars
4,084,475. The Bank filed an application for
refund of customs duty on the ground that the
basic cost of software was US Dollars 401.047.
While the rest of the amount of US Dollars
3,683,428 was payable only as a licence fee for
its right to use the software for the Bank
countrywide. The claim for the refund of the
customs duty paid on the aforesaid amount of
US Dollars 3,683,428 was not accepted by this
Court as in its opinion, on a correct
interpretation of Section 14 read with the
Rules, duty was payable on the transaction
value determined therein, and as per Rule 9 in
determining the transaction value there has to
be added to the price actually paid or payable
for the imported goods, royalties and the
licence fee for which the buyer is required to
pay, directly or indirectly, as a condition of sale
of goods to the extent that such royalties and
fees are not included in the price actually paid
or payable. This clearly goes to show that when
technical material is supplied whether in the
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ITA 1034/2009 Page 141 of 174
form of drawings or manuals the same are
goods liable to customs duty on the transaction
value in respect thereof.
44. It is a misconception to contend that what
is being taxed is intellectual input. What is
being taxed under the Customs Act read with
the Customs Tariff Act and the Customs
Valuation Rules is not the input alone but
goods whose value has been enhanced by the
said inputs. The final product at the time of
import is either the magazine or the
encyclopaedia or the engineering drawings as
the case may be. There is no scope for splitting
the engineering drawing or the encyclopaedia
into intellectual input on the one hand and the
paper on which it is scribed on the other. For
example, paintings are also to be taxed.
Valuable paintings are worth millions. A
painting or a portrait may be specially
commissioned or an article may be tailormade.
This aspect is irrelevant since what is taxed is
the final product as defined and it will be an
absurdity to contend that the value for the
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ITA 1034/2009 Page 142 of 174
purposes of duty ought to be the cost of the
canvas and the oil paint even though the
composite product, i.e., the painting, is worth
millions.
......
48. The above view, in our view, appears to be
logical and also in consonance with the
Customs Act. Similarly in Advent Systems Ltd. v.
Unisys Corporation 1925 F 2d 670 it was
contended before the Court in the United
States that software referred to in the
agreement between the parties was a
"product" and not a "good" but intellectual
property outside the ambit of the Uniform
Commercial Code. In the said Code, goods
were defined as "all things (including specially
manufactured goods) which are moveable at
the time of the identification for sale". Holding
that computer software was a "good" the
Court held as follows : "Computer programs
are the product of an intellectual process, but
once implanted in a medium they are widely
distributed to computer owners. An analogy
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ITA 1034/2009 Page 143 of 174
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 it 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 the marketplace.
The fact that some programs may be tailored
for specific purposes need not alter their status
as 'goods' because the Code definition includes
'specially manufactured goods'."
79. The Supreme Court of India in TATA
CONSULTANCY CASE (SUPRA) further held as
under:
25. To be noted that this authority is directly
dealing with the question in issue. Even though
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ITA 1034/2009 Page 144 of 174
the definition of the term "goods" in the
Customs Act is not as wide or exhaustive as the
definition of the term "goods" in the said Act, it
has still been held that the intellectual
property when it is put on a media becomes
goods.
....
27. In our view, the term "goods" as used in
Article 366(12) of the Constitution of India and
as defined under the said Act are very wide and
include all types of movable properties,
whether those properties be tangible or
intangible. We are in complete agreement with
the observations made by this Court in
Associated Cement Companies Ltd. (supra). A
software programme may consist of various
commands which enable the computer to
perform a designated task. The copyright in
that programme may remain with the
originator of the programme. But the moment
copies are made and marketed, it becomes
goods, which are susceptible to sales tax. Even
intellectual property, once it is put on to a
media, whether it be in the form of books or
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ITA 1034/2009 Page 145 of 174
canvas (In case of painting) or computer discs
or cassettes, and marketed would become
"goods". We see no difference between a sale
of a software programme on a CD/floppy disc
from a sale of music on a cassette/CD or a sale
of a film on a video cassette/CD. In all such
cases, the intellectual property has been
incorporated on a media for purposes of
transfer. Sale is not just of the media which by
itself has very little value. The software and the
media cannot be split up. What the buyer
purchases and pays for 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.
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ITA 1034/2009 Page 146 of 174
The software programmes have all these
attributes.
80. S.B. Sinha J. in TATA CONSULTANCY CASE (SUPRA )
concurring with the decision of the Majority referred to
the Judgment in the case of South Central Bell
Telephone Co. v. Sidney J. Barthelemny, et al. [643
So. 2d 1240 : 36 A.L.R. 5th 689], the Supreme Court
of Louisiana as under:
26. The court, however, noticed that the shift
in the trend was not uniform. Having regard to
the fact that the computer software became
the knowledge and understanding and upon
discussing the characteristics of computer
software and classification thereof as tangible
or intangible under Louisiana law, it was held:
"The software itself, i.e. the physical copy,
is not merely a right or an idea to be
comprehended by the understanding.
The purchaser of computer software
neither desires nor receives mere
knowledge, but rather receives a certain
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ITA 1034/2009 Page 147 of 174
arrangement of matter that will make his
or her computer perform a desired
function. This arrangement of matter,
physically recorded on some tangible
medium, constitutes a corporeal body.
We agree with Bell and the court of
appeal that the form of the delivery of
the software-magnetic tape or electronic
transfer via modem- is of no relevance.
However, we disagree with Bell and the
court of appeal that the essence or real
object of the transaction was intangible
property . That the software can be
transferred to various media i.e. from
tape to disc, or tape to hard drive, or
even that it can be transferred over the
telephone lines, does not take away from
the fact that the software was ultimately
recorded and stored in physical form
upon a physical object. See Crockett,
supra, at 872-74; Shontz, at 168-70;
Cowdrey, supra, at 188-90. As the court
of appeal explained, and as Bell readily
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admits, the programs cannot be utilized
by Bell until they have been recorded
into the memory of the electronic
telephone switch. 93-1072, at p. 6, 631
So.2d at 1342. The essence of the
transaction was not merely to obtain the
intangible "knowledge" or "information",
but rather, was to obtain recorded
knowledge stored in some sort of
physical form that Bell's computers could
use. Recorded as such, the software is
not merely an incorporeal idea to be
comprehended, and would be of no use
if it were. Rather, the software is given
physical existence to make certain
desired physical things happen.
One cannot escape the fact that software,
recorded in physical form, becomes
inextricably intertwined with, or part and
parcel of the corporeal object upon
which it is recorded , be that a disc, tape,
hard drive, or other device. Crockett,
supra, at 871072; Cowdrey, Supre, at
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ITA 1034/2009 Page 149 of 174
188-90. That the information can be
transferred and then physically recorded
on another medium is of no moment,
and does not make computer software
any different than any other type of
recorded information that can be
transferred to another medium such as
film, video tape, audio tape, or books."
It was further opined :
"It is now common knowledge that books,
music, and even movies or other audio/visual
combinations can be copied from one medium
to another. They are also all available on
computer in such forms as floppy disc, tape,
and CD-ROM. Such movies, books, music,
etc .can all be delivered by and/or copied from
one medium to another, including electrical
impulses with the use of a modem. Assuming
there is sufficient memory space available in
the computer hard disc drive such movies,
books, music, etc .can also be recorded into
the permanent memory of the computer such
as was done with the software in this case. 93-
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ITA 1034/2009 Page 150 of 174
1072, at p. 4, 5. 631 So.2d at 1346-47
(dissenting opinion). See also Shontz. Supra, at
168-170; Harris, supra, at 187. That the
information, knowledge, story, or idea,
physically manifested in recorded form, can be
transferred from one medium to 15 another
does not affect the nature of that physical
manifestation as corporeal, or tangible. Shontz,
supra, at 168-170. Likewise, that the software
can be transferred from 1248 one type of
physical recordation, e.g., tape, to another
type, e.g., disk or hard drive, does not alter the
nature of the software, Shontz, supra, at 168-
170; it still has corporeal qualities and is
inextricably intertwined with a corporeal
object. The software must be stored in physical
form on some tangible object somewhere..."
27. Reversing the findings of the court below that the
computer software constitutes intellectual property,
it was opined :
"In sum, once the "information" or
"knowledge" is transformed into physical
existence and recorded in physical form, it is
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ITA 1034/2009 Page 151 of 174
corporeal property. The physical recordation of
this software is not an incorporeal right to be
comprehended. therefore we hold that the
switching system software and the data
processing software involved here is tangible
personal property and thus is taxable by the
City of New Orleans."
81. The Supreme Court in TATA C ONSULTANCY CASE
(SUPRA) have thus laid down that Computer programs
are the product of an intellectual process, but once
implanted in a medium they are widely distributed to
computer owners. 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 the marketplace.
82. The Supreme Court has further held that a software
programme may consist of various commands which
enable the computer to perform a designated task.
The copyright in that programme may remain with the
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ITA 1034/2009 Page 152 of 174
originator of the programme. But the moment copies
are made and marketed, it becomes goods, which are
susceptible to sales tax. Even intellectual property,
once it is put on to a media, whether it be in the form
of books or canvas (In case of painting) or computer
discs or cassettes, and marketed would become
"goods". There is no difference between a sale of a
software programme on a CD/floppy disc from a sale
of music on a cassette/CD or a sale of a film on a
video cassette/CD. In all such cases, the intellectual
property has been incorporated on a media for
purposes of transfer. Sale is not just of the media
which by itself has very little value. The software and
the media cannot be split up. What the buyer
purchases and pays for 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. The
software itself, i.e. the physical copy, is not merely a
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ITA 1034/2009 Page 153 of 174
right or an idea to be comprehended by the
understanding.
83. It has been further held that the purchaser of computer
software neither desires nor receives mere knowledge,
but rather receives a certain arrangement of matter
that will make his or her computer perform a desired
function. This arrangement of matter, physically
recorded on some tangible medium, constitutes a
corporeal body. The form of the delivery of the
software-magnetic tape or electronic transfer via
modem- is of no relevance. That the software can be
transferred to various media i.e. from tape to disc, or
tape to hard drive, or even that it can be transferred
over the telephone lines, does not take away from the
fact that the software was ultimately recorded and
stored in physical form upon a physical object.
Recorded as such, the software is not merely an
incorporeal idea to be comprehended, and would be of
no use if it were. Rather, the software is given physical
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existence to make certain desired physical things
happen. One cannot escape the fact that software,
recorded in physical form, becomes inextricably
intertwined with, or part and parcel of the corporeal
object upon which it is recorded , be that a disc, tape,
hard drive, or other device. That the information can
be transferred and then physically recorded on
another medium is of no moment, and does not make
computer software any different than any other type of
recorded information that can be transferred to
another medium such as film, video tape, audio tape,
or books. It is now common knowledge that books,
music, and even movies or other audio/visual
combinations can be copied from one medium to
another. They are also all available on computer in
such forms as floppy disc, tape, and CD-ROM. Such
movies, books, music, etc. can all be delivered by
and/or copied from one medium to another, including
electrical impulses with the use of a modem.
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Assuming there is sufficient memory space available
in the computer hard disc drive such movies, books,
music, etc. can also be recorded into the permanent
memory of the computer. That the information,
knowledge, story, or idea, physically manifested in
recorded form, can be transferred from one medium to
another does not affect the nature of that physical
manifestation as corporeal, or tangible. Likewise, that
the software can be transferred from one type of
physical recordation, e.g., tape, to another type, e.g.,
disk or hard drive, does not alter the nature of the
software, it still has corporeal qualities and is
inextricably intertwined with a corporeal object. The
software must be stored in physical form on some
tangible object somewhere. In sum, once the
"information" or "knowledge" is transformed into
physical existence and recorded in physical form, it is
corporeal property. The physical recordation of this
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ITA 1034/2009 Page 156 of 174
software is not an incorporeal right to be
comprehended.
84. To further elucidate the nature of the transaction in the
case of the Assessee it is necessary to examine some
of the clauses of the Licensing software agreement
entered into by the Assessee with its customers:
INFRASOFT LICENCE AGREEMENT.
2. GRANT, SUPPLY AND USE OF LICENCE
a) Infrasoft grants Licensee a non-exclusive,
non-transferable licence to use the software in
accordance with this Agreement and the
Infrasoft Licence Schedule. The licence is
perpetual unless identified as being for a
specified term in the Infrasoft Licence Schedule.
b) Any third party software incorporated in
the software is licensed only for use with the
software.
c) Infrasoft will supply one copy of the
software for each site and, when applicable,
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one set of support information to the Licensee.
Licensee shall pay Infrasoft a fee for additional
copies of any printed support information
supplied by Infrasoft.
d) Liecensee may make one copy of the
software and associated support information
for backup purposes, provided that the copy
shall include Infrasoft's copyright and other
proprietary notices. All copies of the Software
shall be the exclusive property of Infrasoft.
e) The Software includes a licence
authorisation device, which restricts the use of
the Software as specified in the Infrasoft
Licence Schedule.
f) The Software shall be used only for
Licensee's own business as defined within the
Infrasoft Licence Schedule and shall not,
without prior written consent from Infrasoft:
(i) be loaned, rented, sold, sublicensed or
transferred to any third party
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(ii) used by any parent, subsidiary or
affiliated entity of Licensee
(iii) Used for the operation of a service
bureau or for data processing
g) If Licensee was granted an educational
licence, as identified on the Infrasoft Licence
Schedule, the Software may only be used for
instruction or research purposes and not for
any commercial purposes.
h) Licensee may not copy, decompile,
disassemble or reverse-engineer the Software
without Infrasoft's written consen t. The
Licensee's rights shall not be restricted by this
Clause 2(h) to the extent that local law grants
Licensee a right to do so for the purpose of
achieving interoperability with other software
and in addition thereto Infrasoft undertakes to
make information relating to interoperability
available to Licensee subject to such
reasonable conditions as Infrasoft may from
time to time impose including a reasonable fee
for doing so. To ensure Licensee receives the
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appropriate information, Licensee must first
give Infrasoft sufficient details of its objectives
and the other software concerned. Requests
for the appropriate information should be
directed to the Vice president Technical of
Infrasoft.
3. LICENCE FEES, PAYMENT AND TAXES
a) Licensee shall pay Infrasoft a licence fee
for the use of the Software as agreed in the
order. Infrasoft confirms that where the
Licensee has purchased the Software through
an authorised reseller of the Software the
Licensee shall owe no license fees to Infrasoft
where the Licensee has made payment of the
licence fees to the authorised reseller.
b) All licence fees are exclusive of and net
of any taxes, duties or other such additional
sums including, but without prejudice to the
foregoing generality, value added//purchase
tax, excise tax (tax on sales, property or use),
import or other duties and whether levied in
respect of this Agreement, the Software its use
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or otherwise. All such taxes shall be the
responsibility of the Licensee and shall be
payable in addition to the licence fee.
c) Infrasoft advises the Licensee that the
Software contains a mechanism which Infrasoft
may activate to deny the Licensee use of the
Software in the event that the Licensee is in
breach of payment terms or any other
provisions of this Agreement.
4. ......
5. OWNERSHIP, INTELLECTUAL PROPERTY AND
INDEMNITY
a) All copyrights and intellectual property
rights in and to the Software, and copies made
by Licensee, are owned by or duly licensed to
Infrasoft. Infrasoft warrants that it has the
power to grant the licence rights contained in
this Agreement.
85. The Licensing Agreement shows that the license is
non-exclusive, non-transferable and the software has
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to be uses in accordance with the Agreement. Only
one copy of the software is being supplied for each
site. The licensee is permitted to make only one copy
of the software and associated support information
and that also for backup purposes. It is also stipulated
that the copy so made shall include Infrasofts
copyright and other proprietary notices. All copies of
the Software are the exclusive property of Infrasoft.
The Software includes a licence authorisation device,
which restricts the use of the Software. The software is
to be used only for Licensees own business as
defined within the Infrasoft Licence Schedule. Without
the consent of the Assessee the software cannot be
loaned, rented, sold, sublicensed or transferred to any
third party or used by any parent, subsidiary or
affiliated entity of Licensee or used for the operation of
a service bureau or for data processing. The Licensee
is further restricted from making copies, decompile,
disassemble or reverse-engineer the Software without
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ITA 1034/2009 Page 162 of 174
Infrasofts written consent. The Software contains a
mechanism which Infrasoft may activate to deny the
Licensee use of the Software in the event that the
Licensee is in breach of payment terms or any other
provisions of this Agreement. All copyrights and
intellectual property rights in and to the Software, and
copies made by Licensee, are owned by or duly
licensed to Infrasoft.
86. The Licensing Agreement shows that the license is
non-exclusive, non-transferable and the software has
to be uses in accordance with the agreement. Only
one copy of the software is being supplied for each
site. The licensee is permitted to make only one copy
of the software and associated support information
and that also for backup purposes. It is also stipulated
that the copy so made shall include Infrasofts
copyright and other proprietary notices. All copies of
the Software are the exclusive property of Infrasoft.
The Software includes a licence authorisation device,
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which restricts the use of the Software. The software is
to be used only for Licensees own business as
defined within the Infrasoft Licence Schedule. Without
the consent of the Assessee the software cannot be
loaned, rented, sold, sublicensed or transferred to any
third party or used by any parent, subsidiary or
affiliated entity of Licensee or used for the operation of
a service bureau or for data processing. The Licensee
is further restricted from making copies, decompile,
disassemble or reverse-engineer the Software without
Infrasofts written consent. The Software contains a
mechanism which Infrasoft may activate to deny the
Licensee use of the Software in the event that the
Licensee is in breach of payment terms or any other
provisions of this Agreement. All copyrights and
intellectual property rights in and to the Software, and
copies made by Licensee, are owned by or duly
licensed to Infrasoft.
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87. In order to qualify as royalty payment, it is necessary
to establish that there is transfer of all or any rights
(including the granting of any licence) in respect of
copyright of a literary, artistic or scientific work. In
order to treat the consideration paid by the Licensee
as royalty, it is to be established that the licensee, by
making such payment, obtains all or any of the
copyright rights of such literary work. Distinction has to
be made between the acquisition of a "copyright right"
and a "copyrighted article". Copyright is distinct from
the material object, copyrighted. Copyright is an
intangible incorporeal right in the nature of a privilege,
quite independent of any material substance, such as
a manuscript. Just because one has the copyrighted
article, it does not follow that one has also the
copyright in it. It does not amount to transfer of all or
any right including licence in respect of copyright.
Copyright or even right to use copyright is
distinguishable from sale consideration paid for
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ITA 1034/2009 Page 165 of 174
"copyrighted" article. This sale consideration is for
purchase of goods and is not royalty.
88. 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.
89. There is a clear distinction between royalty paid on transfer
of copyright rights and consideration for transfer of
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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 all the rights
which the copyright owner has, is necessary to invoke the
royalty definition. Viewed from this angle, a non-exclusive
and non-transferable licence enabling the use of a
copyrighted product cannot be construed as an authority to
enjoy any or all of the enumerated rights ingrained in Article
12 of DTAA. Where the purpose of the licence or the
transaction is only to restrict use of the copyrighted product
for internal business purpose, it would not be legally correct
to state that the copyright itself or right to use copyright has
been transferred to any extent. The parting of intellectual
property rights inherent in and attached to the software
product in favour of the licensee/customer is what is
contemplated by the Treaty. Merely authorizing or enabling
a customer to have the benefit of data or instructions
contained therein without any further right to deal with them
independently does not, amount to transfer of rights in
relation to copyright or conferment of the right of using the
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ITA 1034/2009 Page 167 of 174
copyright. The transfer of rights in or over copyright or the
conferment of the right of use of copyright implies that the
transferee/licensee should acquire rights either in entirety
or partially co-extensive with the owner/ transferor who
divests himself of the rights he possesses pro tanto.
90. The license granted to the licensee permitting him to
download the computer programme and storing it in the
computer for his own use is only incidental to the facility
extended to the licensee to make use of the copyrighted
product for his internal business purpose. The said process
is necessary to make the programme functional and to
have access to it and is qualitatively different from the right
contemplated by the said paragraph because it is only
integral to the use of copyrighted product. Apart from such
incidental facility, the licensee has no right to deal with the
product just as the owner would be in a position to do.
91. There is no transfer of any right in respect of copyright
by the Assessee and it is a case of mere transfer of a
copyrighted article. The payment is for a copyrighted
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ITA 1034/2009 Page 168 of 174
article and represents the purchase price of an article
and cannot be considered as royalty either under the
Income Tax Act or under the DTAA.
92. The licensees are not allowed to exploit the computer
software commercially, they have acquired under
licence agreement, only the copy righted 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 shall
include Infrasoft copyright and all copies of the
software shall 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
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ITA 1034/2009 Page 169 of 174
copy of software to any third party without the consent
of Infrasoft.
93. The licensee has been prohibited from copying, de-
compiling, 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 of the software. The licence agreement stipulates
that upon termination of the agreement for any reason,
the licencee shall return the software including
supporting information and licence authorization
device to Infrasoft.
94. The incorporeal right to the software i.e. copyright
remains with the owner and the same was not
transferred by the Assessee. The right to use a
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ITA 1034/2009 Page 170 of 174
copyright in a programme is totally different from the
right to use a programme embedded in a cassette or a
CD which may be a software and the payment made
for the same cannot be said to be received as
consideration for the use of or right to use of any
copyright to bring it within the definition of royalty as
given in the DTAA. What the licensee has acquired is
only a copy of the copyright article whereas the
copyright remains with the owner and the Licensees
have acquired a computer programme for being used
in their business and no right is granted to them to
utilize the copyright of a computer programme and
thus the payment for the same is not in the nature of
royalty.
95. We have not examined the effect of the subsequent
amendment to section 9 (1)(vi) of the Act and also
whether the amount received for use of software
would be royalty in terms thereof for the reason that
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ITA 1034/2009 Page 171 of 174
the Assessee is covered by the DTAA, the provisions
of which are more beneficial.
96. The amount received by the Assessee under the
licence agreement for allowing the use of the software
is not royalty under the DTAA.
97. What is transferred is neither the copyright in the
software nor the use of the copyright in the software,
but what is transferred is the right to use the
copyrighted material or article which is clearly distinct
from the rights in a copyright. The right that is
transferred is not a right to use the copyright but is
only limited to the right to use the copyrighted material
and the same does not give rise to any royalty income
and would be business income.
98. We are not in agreement with the decision of the
Andhra Pradesh High Court in the case of SAMSUNG
ELECTRONICS C O. LTD (SUPRA) that right to make a
copy of the software and storing the same in the hard
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ITA 1034/2009 Page 172 of 174
disk of the designated computer and taking backup
copy would amount to copyright work under section
14(1) of the Copyright Act and the payment made for
the grant of the licence for the said purpose would
constitute royalty. The license granted to the licensee
permitting him to download the computer programme
and storing it in the computer for his own use was only
incidental to the facility extended to the licensee to
make use of the copyrighted product for his internal
business purpose. The said process was necessary to
make the programme functional and to have access to
it and is qualitatively different from the right
contemplated by the said provision because it is only
integral to the use of copyrighted product. The right to
make a backup copy purely as a temporary protection
against loss, destruction or damage has been held by
the Delhi High Court in DIT v. M/s Nokia Networks OY
(Supra) as not amounting to acquiring a copyright in
the software.
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ITA 1034/2009 Page 173 of 174
99. In view of the above we accordingly hold that what has
been transferred is not copyright or the right to use
copyright but a limited right to use the copyrighted
material and does not give rise to any royalty income.
100. The question of law is thus answered in favour of the
Assessee and against the Revenue that the Income
Tax Appellate Tribunal was right in holding that the
consideration received by the respondent Assessee on
grant of licences for use of software is not royalty
within the meaning of Article 12(3) of the Double
Taxation Avoidance Agreement between India and the
United States of America.
101. The appeal is accordingly dismissed leaving the
parties to bear their own costs.
SANJEEV SACHDEVA, J.
22nd NOVEMBER, 2013 SANJIV KHANNA, J.
st
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