CAPGEMINI BUSINESS SERVICES (INDIA) LTD. vs.ASSISTANT
COMMISSIONER OF INCOME TAX
BOMBAY TRIBUNAL
D. KARUNAKARA RAO, AM & SANJAY GARG, JM.
ITA No. 7779/M/2011
Feb 29, 2016
(2016) 46 cch 0253 MumTrib
Legislation Referred to
Section 144C(1), 92A(2)(a), 195, 234B
Case pertains to
Asst. Year 2007-08
Issue
Transfer Pricing Adjustments
Decision in favour of:
Assessee
Transfer Pricing—Computation of arm’s length
price—Transfer pricing adjustment—Selection of comparables—Exclusion of
companies—Assessee was subsidiary of ‘’x’’ which was in turn subsidiary of ;
‘’Y’’ , had its registered office in Mumbai and corporate office in Bangalore—
Assessee had selected Transactional Net Margin Method (TNMM) as the most
appropriate method to determine arm's length price for provision of ITES to
group entities and had selected comparable companies rendering ITES for
determination of arm's length price—TPO proposed for transfer pricing
adjustment—.TPO selected 25 comparables of companies—Assessee sought for
exclusion of comparables selected by TPO—Held, perusal of record revealed that
business activity of ‘’M’’ and that of assessee were entirely different— Scope
of profit and margins owing to different nature of services offered by assessee
and ’M’’ also different—’M’’ was providing high end services in structural
engineering— Assessee’s services were mainly relating to data analysis and back
up office support services which did not require much involvement of high
skilled knowledge process and expense whereas, in case of ’M’’ nature of
services, itself, revealed that same involved high-tech skills, domain
knowledge and experience of highly skilled and professionals/ persons and that
profit margin in such type of skilled services would be higher—’M’’ could not
be taken as comparable to determine arm's length price in case of transactions
of assessee with its associate enterprises—Company ‘’’V’’ was engaged in
services of data analytics and providing data services solutions—However,
employees’ salary cost of ’’V’’. was relatively very low as compared to that of
assessee—’’V’’ had outsourced significant parts of operations and did not have so
much employees’ salary cost as was in case of assessee and therefore business
model of ’’V’’was different—Business model of ’’V’’ being different from
assessee company not required to be included in list of comparables—AO was
directed to exclude ’’V’’ and ’’M’’ while determining arm's length price of
assessee relating to transactions with its AEs—Assessee’s Appeal allowed.
Held
A perusal of the record reveals that the business
activity of the Mold- Tek Technologies Ltd. and that of the assessee are entirely
different. The scope of profit and margins owing to the different nature of
services offered by the assessee and Mold-Tek Technologies Ltd. may also be
different. The Mold-Tek Technologies Ltd. is providing high end services in
structural engineering. At this stage, the Ld. A.R. has invited our attention
to page 251 of the paper book to contend that the Mold-Tek Technologies Ltd. is
also engaged in providing Healthcare Billing Services. May it be so, the point
raised by the Ld. AR is that the nature of services provided by Mold-Tek
Technologies Ltd. are entirely different from that of the assessee. The
assessee’s services are mainly relating to data analysis and back up office
support services which do not require much involvement of high skilled knowledge
process and expense whereas, in case of Mold-Tek Technologies Ltd. the nature
of services, itself, reveals that the same involved high-tech skills, domain
knowledge and experience of highly skilled and professionals/ persons and that
the profit margin in such type of skilled services will be higher. ITAT agree
with the finding of the Special Bench of the Tribunal when we compare the case
of the assessee with that of Mold-Tek Technologies Ltd. that the Mold-Tek
cannot be taken as a comparable to determine arm's length price in case of
transactions of assessee with its associate enterprises. The second objection
pressed by the assessee is in relation to Vishal International Technology Ltd.
pleading that the same cannot be considered as a comparable for the purpose of
calculating the bench mark operating profit margin on the ground that the
business model of the said company was different. It was contended that Vishal
International Technology Ltd. was engaged in the services of data analytics and
providing data services solutions. However, the employees’ salary cost of
Vishal International Technology Ltd. was relatively very low as compared to
that of the assessee. The Vishal International Technology Ltd. had outsourced
significant parts of operations and did not have so much employees’ salary cost
as was in the case of the assessee and therefore the business model of the
Vishal International Technology Ltd. was different.
(Para 4)
Considering the above facts on the file and the
submissions made by the Ld. Representatives of the parties, in ITAT view, the
Mold-Tek Technologies Ltd. and Vishal International Technology Ltd. cannot be
taken as comparables.
(Para 5)
ITAT accordingly, direct the AO to exclude Vishal
International Technology Ltd. and Mold-Tek Technologies Ltd. while determining
the arm's length price of the assessee relating to the transactions with its
AEs. This issue is decided accordingly.
(Para 6)
Conclusion
Companies selected by TPO for determining arms length
price were functionally different from assessee hence same required to be
excluded from list of comparables
In favour of
Assessee
Disallowance—Disallowance relating to club entrance
fees—AO made disallowance expenses of Rs.5,50,000/- incurred towards club
entrance fees on ground that assessee made claim that special membership would
help in building better relationship with clients without submitting any cogent
evidence in this respect—Held ,Punjab & Haryana High Court in case of “CIT
vs. Groz Beckert Asia Ltd.” held that no capital asset was created or came into
existence on account of obtaining corporate membership—Corporate membership
obtained was for limited period and it was obtained for running business with
view to produce profit and said corporate membership fee paid to club was to be
treated as revenue expenditure— This ground was decided in favour of assessee.
Held
Punjab & Haryana High Court in the case of “CIT vs.
Groz Beckert Asia Ltd.” reported as (2013) 351 ITR 196 P&H (FB), wherein,
the Hon’ble High Court has held that no capital asset is created or comes into
existence on account of obtaining corporate membership. The corporate
membership obtained was for a limited period and it was obtained for running
the business with a view to produce profit and the said corporate membership
fee paid to the club was to be treated as revenue expenditure. Relying on the
said the Full Bench decision of the Hon’ble Punjab & Haryana High Court,
this ground is decided in favour of the assessee.
(para5)
Conclusion
Corporate membership obtained was for limited period and
it was obtained for running business with view to produce profit and said
corporate membership fee paid to club was to be treated as revenue expenditure
In favour of
Assessee
Tax credit of branch profit—Non allowance—Lower
Authorities did not allow tax credit of branch profit tax paid in USA—
Contention of lower authorities was that ‘branch holding tax’ was akin to
‘accumulated earning tax’ which had been specifically excluded from taxes
covered under DTAA—Held, scope of Article II relating to “Taxes Covered” had
been explained in said guide/technical explanation— It had been specifically
provided that taxes covered in case of US, as indicated in paragraph 1(a) of
Article II, were Federal income taxes imposed by Code, together with excise tax
imposed on insurance premiums paid to foreign insurers (Code section 4371)—
Article specified that Convention did not apply to accumulated earning tax
(Code section 531), personal holding company tax (Code section 541) or social
security taxes (Code sections 1401, 3101 and 3111)- State and local taxes in
United States were also not covered by Convention— Perusal of Article II of
‘DTAA’ read with ‘technical explanation to convention’ revealed beyond doubt
that taxes which had been excluded from purview of DTAA had been specifically
mentioned therein— Further, as observed, accumulated earning tax, which had
been provided u/s 531 of the Internal Revenue Code of US, was different from
‘branch profit tax’ which was dealt with under separate section 884—Section
884’ dealing with branch profit tax held that branch profit tax had not been
specifically excluded from DTAA and thus being part of Internal Revenue Code
was covered by US treaty—This issue was accordingly decided in favour of
assessee.
Held
The scope of Article II relating to “Taxes Covered” has
been explained in the said guide/technical explanation. It has been
specifically provided that the taxes covered in the case of US, as indicated in
paragraph 1(a) of Article II, are the Federal income taxes imposed by the Code,
together with the excise tax imposed on insurance premiums paid to foreign
insurers (Code section 4371). The Article specifies that the Convention does
not apply to the accumulated earning tax (Code section 531), the personal
holding company tax (Code section 541) or the social security taxes (Code
sections 1401, 3101 and 3111). State and local taxes in the United States are
also not covered by the Convention. A perusal of the Article II of the ‘DTAA’
read with the ‘technical explanation to the convention’ reveals beyond doubt
that the taxes which have been excluded from the purview of the DTAA have been
specifically mentioned therein. Further, as observed above, the accumulated
earning tax, which has been provided under section 531 of the Internal Revenue
Code of the US, is different from ‘branch profit tax’ which is dealt with under
separate section 884. The ‘section 884’ dealing with branch profit tax has not
been specifically excluded from the DTAA and thus being a part of the Internal
Revenue Code is covered by the US treaty. This issue is accordingly decided in
favour of the assessee.
(Para8)
Conclusion
Accumulated earning tax, which has been provided under
section 531 of the Internal Revenue Code of the US, is different from ‘branch
profit tax’ which is dealt with under separate section 884 Internal Revenue
Code.
In favour of
Assessee
Business Expenditure—Interest, commission, brokerage
etc.— Disallowance u/s 40(a)(i) on account
of expenditure incurred for purchase of “off shelf” software—AO noticed
that assessee had incurred expenses in foreign currency for purchase of
software from ‘’’Q’’—AO, however, observed that assessee had purchased right to
use software and software was used for business purpose in India—AO held that
same was liable for deduction of tax at source u/s 195 in view of provisions of
section 9—AO made disallowance u/s 40(a)(i) on ground that said expenditure was
subject to deduction of tax at source u/s 195—Held, from definition of
Copyright Act,1957 of India , It was apparent that fair use of work for purpose
of which it was being purchased and doing of such other acts including making
of copy for protection from damage or loss could not , in any case, said to be
any infringement of copyright whether or not any license in this respect had
been granted by author/owner of work— Right to use or for use of product
accrued to purchaser by operation of statute and same would amount to sale of
goods and acts done such as downloading of same to computer or making backup
copies etc. would be necessary acts for enabling use of product and would not
amount to transfer of copyright or right therein, but only transfer of
copyrighted product and thus would not be covered under definition of royalty
under DTAA—Consideration, thus, paid would be business income of non-resident
and taxable in accordance with provisions of DTAA—Even in cases where owner of
copyrighted work may restrict use of or right to use work by way of certain
terms of license/software agreement, validity or enforceability of same may be
subject matter in other laws such as Indian Contract Act 1872 , Sale of goods
Act 1930 or Consumer Protection Act 1986 etc., but, same in any way could not
be said to grant of or infringement of copyright in light of specific statutory
provisions of Copyright Act 1957—DRP had given specific finding of fact that
what assessee had purchased was shrink wrapped /off shelf software— It had also
been discussed that definition of ‘royalty’ given in treaty was more beneficial
to assessee as compared to provisions of section 9—Assessee had opted for
definition that was provided under DTAA, thus as per section 90, definition of
‘royalty’ as provided in DTAA would prevail as over general definition of ‘royalty’
provided under the Income Tax Act— Hence, without expressing opinion or any
view in relation to definition of ‘royalty’ vis-à-vis ‘computer software’ as
provided under the Income Tax Act, ITAT given findings only in respect of scope
of ‘royality’ under DTAA—Assessee could not be said to have paid consideration
for use of or right to use copyright but had simply purchased copyrighted work
embedded in CD- ROM which could be said to be sale of ‘good’ by owner—
Consideration paid by assessee thus as per clauses of DTAA could not be said to
be royalty and same would be outside scope of definition of ‘royalty’ as
provided in DTAA and would be taxable as business income of recipient— Assessee
was entitled to fair use of the work/product including making copies for
temporary purpose for protection against damage or loss even without license
provided by owner in this respect and same would not constitute infringement of
any copyright of owner of work even as per provisions of section 52 of the
Copyright Act,1957—This ground was decided in favour of Assessee
Held
The provisions of the Copyright Act, as discussed above
are clear and unambiguous in this respect. If the assessee has purchased a copy
of a computer software programme and he uses the said copy for his business
purpose and if the said use falls within the scope and purview of the
exceptions of section 52, such as the use of it for the purpose for which it is
supplied and to make backup copies for temporary purpose as a protection
against loss or damage and doing of any act necessary to obtain information
essential for operating the software for the purpose for which it is purchased
etc. as provided under section 52, then in that event it cannot be said to be
an infringement of copyrights of the author or owner of the work. In view of
above, when ITAT see the definition as per the statutory provisions/domestic
law of the country i.e. Copyright Act,1957 of India which is the taxing State
in this case, it is apparent that the fair use of the work for the purpose of
which it is being purchased and doing of such other acts including making of
copy for protection from damage or loss can not, in any case, said to be any
infringement of copyright whether or not any license in this respect has been
granted by the author/owner of the work. The right to use or for use of the
product accrues to the purchaser by the operation of the statute the same would
amount to the sale of a goods and the acts done such as downloading of the same
to the computer or making backup copies etc. would be the necessary acts for
enabling the use of the product and would not amount to the transfer of
copyright or right therein, but only the transfer of the copyrighted product
and thus will not be covered under the definition of royalty under DTAA. The
consideration, thus, paid will be the business income of the non-resident and
taxable in accordance with the provisions of DTAA. We may clarify here that
even in cases where the owner of the copyrighted work may restrict the use of
or right to use the work by way of certain terms of the license/software
agreement, the validity or the enforceability of the same may be subject matter
in other laws such as Indian Contract Act 1872 , Sale of goods Act 1930 or the
Consumer Protection Act 1986 etc., but, the same in any way can not be said to
grant of or infringement of copyright in the light of specific statutory
provisions of Copyright Act 1957.
(Para 49)
Now coming to the facts of the case in hand, the DRP has
given a specific finding of fact that what the assessee in the present case has
purchased is the shrink wrapped /off the shelf software. It has also been
discussed in detail in paras above that the definition of ‘royalty’ given in
the treaty is more beneficial to the assessee as compared to the provisions of
section 9 of the Income Tax Act and the assessee has opted for the definition
that is provided under the DTAA, thus as per section 90 of the Income Tax Act,
definition of ‘royalty’ as provided in the DTAA will prevail as over the general
definition of ‘royalty’ provided under the Income Tax Act. Hence, without
expressing ITAT opinion or any view in relation to the definition of ‘royalty’
vis-à-vis ‘computer software’ as provided under the Income Tax Act, ITAT have
given ITAT findings only in respect of the scope of ‘royality’ under the DTAA.
.(Para50)
. In view of ITAT detailed discussion made above, the
assessee can not be said to have paid the consideration for use of or the right
to use copyright but has simply purchased the copyrighted work embedded in the
CD- ROM which can be said to be sale of ‘good’ by the owner. The consideration
paid by the assessee thus as per the clauses of DTAA can not be said to be
royalty and the same will be outside the scope of the definition of ‘royalty’ as
provided in DTAA and would be taxable as business income of the recipient. The
assessee is entitled to the fair use of the work/product including making
copies for temporary purpose for protection against damage or loss even without
a license provided by the owner in this respect and the same would not
constitute infringement of any copyright of the owner of the work even as per
the provisions of section 52 of the Copyright Act,1957.
(Para51)
Conclusion
Consideration paid by assessee thus as per clauses of
DTAA could not be said to be royalty and same would be outside scope of
definition of ‘royalty’ as provided in DTAA and would be taxable as business
income of recipient
In favour of
Assessee
Cases Referred to
“Maersk Global Centres (India) (P.) Ltd. vs. ACIT” (2014)
31 ITR(Tri.-1) (Mumbai-SB)
“Rampgreen Solutions Pvt. Ltd. vs. CIT” in ITA No.102 of
2015
“CIT vs. Groz Beckert Asia Ltd.” reported as (2013) 351
ITR 196 P&H (FB)
“DIT vs. Ericson A.B.” (2012) 343 ITR 470
“CIT vs. Samsung Electronics Company Ltd. & Others”
(2012) 345 ITR 494
“CIT vs. Synopsis International Old Ltd.” (2013) 212
taxman 454
“Vrizon Communication Singapore vs. ITO” 361 ITR 0575
(Mad.)
“Union of India vs. Azadi Bachao Andolan” (2003) 263 ITR
607
“Siemens AG” 310 ITR 320 (Bom)
Gracemac Co. vs. ADIT 134 TTJ (Delhi) 257
CIT vs. Siemens Aktiongesellschaft, 310 ITR 320 (Bom)
“CIT vs. Samsung Electronics Company Ltd. & Others”
(2012) 345 ITR 494
“Advent Systems Ltd vs. Unisys Corporation” (925) F 2d
670 (3rd Cir 1991)
Counsel appeared:
M.M. Golvala, A.R. for the Assessee.: A.A. Khan, D.R. for
the Revenue
SANJAY GARG, JM.
1. The present appeal has been preferred by the assessee
against the order dated 08.08.2011 of the Dispute Resolution Panel (hereinafter
referred to as the DRP) relevant to assessment year 2007-08.
2. The brief facts of the case are that the assessee
namely ‘Capgemini Business Services (India) Limited’ [Formerly known as
'Unilever India Shared Services Limited’] (hereinafter referred to as the
assessee or assessee company) for a part of A.Y 2007-08 was a subsidiary of
Hindustan Unilever Limited (HUL), which is in turn a subsidiary of Unilever
Plc. CBSIL, has its registered office in Mumbai and corporate office in
Bangalore. Cape Gemini SA., France acquired 51% shareholding in CBSIL from HUL
on 11 October 2006 (during the relevant AY 2007-08). Pursuant to the
acquisition, the name of the company has been changed from ‘Unilever India
Shared Services Limited’ to ‘Capgemini Business Services (India) Limited’ with
effect from 14 May 2007. During A.Y 2007-08, the assessee had primarily
provided business process management services in the areas of finance accounts,
operational control assessment, administration of foreign exchange, one off
consultancy projects and competitors’ intellectual study to Unilever group
companies. The services rendered by the assessee have been in the nature of
‘Information Technology Enabled Services’ (ITES) / ‘Back Office Support
Services’. Considering that the Unilever Group had an indirect equity stake in
excess of 26% in the assessee for the period from 1 April 2006 to 11 October
2006, the transactions between the assessee and Unilever group entities came
under the purview of ‘Indian Transfer Pricing (TP) Regulations’.
The assessee had selected the Transactional Net Margin
Method (TNMM) as the most appropriate method to determine the arm's length
price for the provision of ITES to group entities and had selected comparable
companies rendering ITES for determination of arm's length price. Based on the
analysis carried out by the assessee, the international transactions were
determined as meeting with the arm's length price. The assessee's case was
referred to the Transfer Pricing Officer (TPO) for AY 2007-08. The TPO proposed
an adjustment to the transfer prices with respect to the provision of ITES to
the tune of Rs.33,070,534/-. The Assessing Officer (hereinafter referred to as
the AO) relied on the TPOs Order and issued a draft assessment order under
Section 144C(1) of the Act proposing the above TP adjustment. The assessee
filed objections against the draft assessment order before the DRP. However,
the DRP rejected the assessee’s objections not only in relation to transfer
pricing adjustments but also in relation to disallowances proposed by the AO in
relation to club entrance fee, credit of ‘branch profit tax’ paid by the
assessee in USA and the expenditure incurred towards purchase of ‘software’.
Being aggrieved by the order of the Ld. DRP, the assessee has come in appeal
before us with the following grounds of appeal:
“Ground No.1 - Transfer Pricing (‘TP') adjustment of
Rs.3,30,70,534
On the facts, in law and in the circumstances of the
present case, the learned Additional Commissioner of Income-tax 1(2)
(hereinafter referred as 'AO') and the Dispute Resolution Panel ('DRP') erred
in concluding the assessment by upholding the action of the Additional
Commissioner of Income-tax Transfer Pricing Officer - 1(2) (hereinafter
referred as 'TPO') in determining the arm's length price of the international
transaction of business process management services rendered to Associated
Enterprises ('AEs') at Rs. 50,99,80,530 instead of Rs.47,69,09,996 as
determined by Capgemini Business Services (India) Limited ('the Appellant') by:
a. considering the Appellant's transactions with overseas
Unilever group entities, post transfer of the Appellant's shareholding to
Capgemini Group from Unilever Group on 11 October 2006, as international
transaction, having failed to appreciate that Unilever Plc's share holding
(indirect) in Appellant post 11 October 2006 fell below the 26% limit under
Section 92A(2)(a) of the Act for the purpose of constituting AE;
b. disregarding the internal comparability analysis
between the Appellant's international transactions with overseas Unilever group
entities for the period:
- prior to the acquisition of Appellant's shareholding by
Capgemini Group; and
- post such acquisition.
c. disregarding the Appellant's contemporaneous TP
documentation and conducting his own comparability analysis which is not in
accordance with contemporaneous documentation requirement under Indian TP regulations,
having failed to appreciate that in the case under consideration, none of the
conditions set out in Section 920(3) of the Act are satisfied;
d. selecting companies that are not comparable to the
Appellant vis-a-vis its AEs, for the determination of the arm's length price;
e. using current year's financial data (i.e. Financial
Year 2006-07) for the comparable companies for benchmarking the Appellant's
international transactions pertaining to business process management services
rendered to AEs;
f. not granting a working capital adjustment to the
Appellant to account for the differences in the working capital cycle of the
comparables vis-à-vis the Appellant; and
g. denying the (+/-) 5% range benefit available under
proviso to Section 92C(2) of the Act.
The Appellant prays that the book value of the
international transaction be held to be the arm's length price and accordingly,
the AO be directed to delete the adjustment of Rs. 3,30,70,534.
2. Club entrance fees
On the facts, in law and in the circumstances of the
present case, the AO erred in disallowing expense of Rs. 550,000 incurred
towards club entrance fees.
The Appellant prays that the sum of Rs. 550,000 be
allowed as business expense and the additions made by the AO be deleted.
3. Tax credit in India for Branch Profit Tax paid by the
Appellant in USA
On the facts, in law and in the circumstances of the
present case, the AO erred in not allowing tax credit of Branch Profit Tax of
US$ 31,310 (equivalent to Rs.1,408,950) paid in USA.
The Appellant prays that the Branch Profit Tax of US$
31,310 (equivalent to Rs. 1,408.950) paid in USA be allowed as tax credit while
determining the Indian income-tax liability.
4. Payment towards purchase of software
On the facts, in law and in the circumstances of the
present case, the AO has erred in disallowing expenditure of Rs. 953,437,
incurred for purchase of 'off the shelf' software from QAD Singapore Pte Ltd.,
Singapore, under Section
40(a)(i) of the Act alleging that the said expenditure is
subject to deduction of tax at source under Section 195 of the Act.
The Appellant prays that the expenditure towards purchase
of 'off the shelf' software be allowed.
5. On the facts, in law and in the circumstances of the
present case, the learned AO erred in levying interest under Section 234B and
234C of the Act.
The Appellant craves leave to add, alter, amend or
withdraw all or any of the Grounds of Appeal (hereinafter referred to as the
AO) and to submit such statements, documents and papers as may be considered
necessary either at or before the appeal hearing.”
Ground No.1
3. Though, the assessee has raised various points and
issues vide different sub grounds taken in ground No.1, however, the Ld. A.R.
of the assessee, at the outset, has submitted that so far as the transfer
pricing adjustments are concerned, the assessee had provided 12 comparables
whereas the TPO accepted only 4 out of those. The TPO himself added 25
comparables for arriving at arm's length price for determining the transfer
pricing adjustments. The TPO had accepted the analysis of the assessee using
the TNMM as most appropriated method for determination of ALP of international
transactions whereby the operating margin of the assessee was compared vis-à-vis
its transactions with Unilever group entities during the period prior to
11.10.06 with its operating margin from transactions with Unilever entities in
post 11.10.06 period. This internal comparison was done by the TPO as the
functions’ profile of the assessee in pre and post scenarios had remained the
same. The TPO also carried out external comparability analysis. According to
the analysis report given by the assessee the ratio of OP/OC (Operating
profit/operating cost) was given at 19.91% whereas as per the comparables taken
by the TPO, the OP/OC ratio came to 28.23%. The short contention of the Ld.
A.R. before us has been that the assessee otherwise will be satisfied if the
comparables introduced by the AO are taken for analysis except the two i.e. Mold-Tek
Technologies Ltd. (SCG) mentioned at Sl. No.20 and in case of Vishal
International Technology Ltd. mentioned at Sl. No.24 of the comparables taken
by the TPO in his order. He has submitted that if the above two comparables are
excluded, the arm's length price so arrived after taking the other comparables
of the TPO will be in the range of + 5% of the price declared by the assessee.
The Ld. A.R. of the assessee while inviting our attention
to the business activity of Mold-Tek Technologies Ltd. has pointed out that the
said company has been in a totally different activity. He, in this respect, has
invited our attention to page 247 & page 251 of the paper book, which are
the part of the director’s report for the year ended 31.03.07 of Mold-Tek
Technologies Ltd., wherein it has been provided that during the year, the IT
division of the said company commenced engineering services to high rise
buildings for clients in US and Canada which offered excellent growth
prospects. The company had two divisions, one is plastic division and the other
is KPO division. KPO division deals with IT enabled services providing services
in relation to designing and detailing of the buildings apart from other
activities. The Ld. A.R. has further invited our attention to the Special Bench
decision of the Tribunal in the case of “Maersk Global Centres (India) (P.)
Ltd. vs. ACIT” (2014) 31 ITR(Tri.-1) (Mumbai-SB). The assessee company in that
case was engaged in almost similar activities as that of the assessee before
us, i.e. services relating to transaction, processing data entry,
reconciliation of statements and other similar support services. In the said
case, the AO had taken the said company Mold-Tek Technologies Ltd. as
comparable, however the Special Bench of the Tribunal in para 81 of the order
has observed that from the annual report of the said company for the financial
year 2007-08, it revealed that the said company was providing structural
engineering KPO services and its business activity was entirely different from
that of the assessee’s BPO/KPO services provided by the assessee in relation to
back office support, data processing and analysis etc. The relevant
observations of the Special Bench of the Tribunal for the sake of convenience
are reproduced as under:
“81. In so far as the case of Mold-Tek Technologies Ltd.
is concerned, it is observed from the annual report of the said company for the
financial year 2007-08 placed at page 139 to 151 of the paper book that the
said company was pioneer in structural engineering KPO services and its entire
business comprised of providing only structural engineering services to various
clients. Further information of Mold-Tek Technologies Ltd. available on their
Website is furnished in the form of printout at page 158 to 165 of the paper
book and a perusal of the same shows that it is ale ading provider of
engineering and design services with specialization in civil, structural and
mechanical engineering services. It is stated to have a strong team of skilled
resources with world class resources and skill sets. It is also stated to have
consistently helped the clients to cut down design and development costs of
civil, structural, mechanical and plant design by 30-40% and delivered
technologically superior outputs to match and exceed expectations. It is
claimed to have in-house software development team, quality control training
and trouble shooting facilities. M/s Mold-Tek is also rendering web design and
development services with experience in turning them into an effective graphic
design representation and creating dynamic and graphic rich web applications
from IT specs, design prints etc. Keeping in view this information available in
the annual report of Mold-Tek as well on its website, we are of the view that
the said company is mainly involved in providing high-end services to its
clients involving higherspecial knowledge and domain expertise in the field and
the same cannot be taken as comparable to the assessee company which is mainly
involved in providing low-end services.”
4. A perusal of the record reveals that the business
activity of the Mold- Tek Technologies Ltd. and that of the assessee are
entirely different. The scope of profit and margins owing to the different
nature of services offered by the assessee and Mold-Tek Technologies Ltd. may
also be different. The Mold-Tek Technologies Ltd. is providing high end
services in structural engineering. At this stage, the Ld. A.R. has invited our
attention to page 251 of the paper book to contend that the Mold-Tek
Technologies Ltd. is also engaged in providing Healthcare Billing Services. May
it be so, the point raised by the Ld. AR is that the nature of services
provided by Mold-Tek Technologies Ltd. are entirely different from that of the
assessee. The assessee’s services are mainly relating to data analysis and back
up office support services which do not require much involvement of high
skilled knowledge process and expense whereas, in case of Mold-Tek Technologies
Ltd. the nature of services, itself, reveals that the same involved high-tech
skills, domain knowledge and experience of highly skilled and professionals/
persons and that the profit margin in such type of skilled services will be
higher.
We agree with the finding of the Special Bench of the
Tribunal when we compare the case of the assessee with that of Mold-Tek
Technologies Ltd. that the Mold-Tek cannot be taken as a comparable to
determine arm's length price in case of transactions of assessee with its
associate enterprises.
The second objection pressed by the assessee is in
relation to Vishal International Technology Ltd. pleading that the same cannot
be considered as a comparable for the purpose of calculating the bench mark
operating profit margin on the ground that the business model of the said
company was different. It was contended that Vishal International Technology
Ltd. was engaged in the services of data analytics and providing data services
solutions. However, the employees’ salary cost of Vishal International
Technology Ltd. was relatively very low as compared to that of the assessee.
The Vishal International Technology Ltd. had outsourced significant parts of
operations and did not have so much employees’ salary cost as was in the case
of the assessee and therefore the business model of the Vishal International
Technology Ltd. was different. The Ld. A.R. has relied in this respect to the
decision of the Hon’ble Delhi High Court in the case of “Rampgreen Solutions
Pvt. Ltd. vs. CIT” in ITA No.102 of 2015 decided vide order dated 10.08.15. The
business model of the Vishal International Technology Ltd. being different on
the ground that it was indulged in out sourcing of its operations has not only
been considered by the special bench of the Tribunal but also by the Hon’ble
Delhi High Court in the case of “Rampgreen Solutions Pvt. Ltd.” (supra).
5. Considering the above facts on the file and the
submissions made by the Ld. Representatives of the parties, in our view, the
Mold-Tek Technologies Ltd. and Vishal International Technology Ltd. cannot be
taken as comparables.
6. We, accordingly, direct the AO to exclude Vishal
International Technology Ltd. and Mold-Tek Technologies Ltd. while determining
the arm's length price of the assessee relating to the transactions with its
AEs. This issue is decided accordingly.
Ground No.2
7. Ground No.2 is relating to club entrance fees. The AO
disallowed the expenses of Rs.5,50,000/- incurred towards club entrance fees on
the ground that the assessee has made a claim that the special membership would
help in building better relationship with clients without submitting any cogent
evidence in this respect. Before us, the Ld. A.R. of the assessee has submitted
that the same was a corporate membership and the company had nominated two of
its employees i.e. CEO and Chief Engineer Operations for availing the
membership facilities. He has further invited our attention to the full bench
decision of the Hon’ble Punjab & Haryana High Court in the case of “CIT vs.
Groz Beckert Asia Ltd.” reported as (2013) 351 ITR 196 P&H (FB), wherein,
the Hon’ble High Court has held that no capital asset is created or comes into
existence on account of obtaining corporate membership. The corporate
membership obtained was for a limited period and it was obtained for running
the business with a view to produce profit and the said corporate membership
fee paid to the club was to be treated as revenue expenditure. Relying on the
said the Full Bench decision of the Hon’ble Punjab & Haryana High Court,
this ground is decided in favour of the assessee.
Ground No.3
8. Vide ground No.3, the assessee has agitated the action
of the lower authorities in not allowing tax credit of branch profit tax paid
in USA. The lower authorities, in this respect, have relied upon Article 2 of
the Indo US DTAA (Double Taxation Avoidance Agreement), wherein, the taxes
covered under the treaty in the United States inter alia are the federal income
taxes imposed by the US ‘Internal Revenue Code’ but excluding the ‘accumulated
earning tax’, ‘the personal holding tax’ and ‘social security taxes’ etc. The
contention of the lower authorities is that the ‘branch holding tax’ is akin to
the ‘accumulated earning tax’ which has been specifically excluded from the
taxes covered under the DTAA. The Ld. A.R. of the assessee, however, brought
our attention to page 1161 of the paper book which is the copy of section 531
of the US ‘Internal Revenue Code’ which is relating to the imposition of
accumulated earning tax. He has further invited our attention to section 884 of
the ‘Internal Revenue Code’ which deals with the branch profit tax. He, in this
respect, has argued that the ‘accumulated earning tax’ and the ‘branch profit
tax’ are the different taxes which have been dealt by different sections.
Section 531 of the Internal Revenue Code deals with imposition of ‘accumulated
earning tax,’ whereas, section 884 deals with ‘branch profit tax’. The Ld. A.R.
has further invited our attention to page 1167 of the paper book which is the
“Official Technical Explanation of the Convention and Protocol between the US
and India”. This technical explanation is an official guide to the
convention/DTAA. The scope of Article II relating to “Taxes Covered” has been
explained in the said guide/technical explanation. It has been specifically
provided that the taxes covered in the case of US, as indicated in paragraph
1(a) of Article II, are the Federal income taxes imposed by the Code, together
with the excise tax imposed on insurance premiums paid to foreign insurers
(Code section 4371). The Article specifies that the Convention does not apply
to the accumulated earning tax (Code section 531), the personal holding company
tax (Code section 541) or the social security taxes (Code sections 1401, 3101
and 3111). State and local taxes in the United States are also not covered by the
Convention. A perusal of the Article II of the ‘DTAA’ read with the ‘technical
explanation to the convention’ reveals beyond doubt that the taxes which have
been excluded from the purview of the DTAA have been specifically mentioned
therein. Further, as observed above, the accumulated earning tax, which has
been provided under section 531 of the Internal Revenue Code of the US, is
different from ‘branch profit tax’ which is dealt with under separate section
884. The ‘section 884’ dealing with branch profit tax has not been specifically
excluded from the DTAA and thus being a part of the Internal Revenue Code is
covered by the US treaty. This issue is accordingly decided in favour of the
assessee.
Ground No.4
9. Ground No.4 is in relation to disallowance of
expenditure of Rs.9,53,437/- incurred for purchase of “off the shelf” software
from ‘QAD Singapore Pvt. Ltd.’ under section 40(a)(i) of the Act on the ground
that the said expenditure was subject to deduction of tax at source under
section 195 of the Act. The AO noticed that the assessee had incurred expenses
in foreign currency for the purchase of software from QAD Singapore Pvt. Ltd.
The case of the assessee has been that it had not purchased any copyright in
the software rather, it had purchased only a copyrighted article named as ‘MFG
Pro Software.’ The AO, however, observed that the assessee had purchased the
right to use the software and the software is used for the business purpose in
India. He, therefore, held that the same was liable for deduction of tax at
source under section 195 of the Act in view of the provisions of section 9 of
the Income Tax Act, wherein it has been provided that the income on account of
consideration paid for royalty is to be deemed to have accrued in India.
10. Before the DRP, the assessee adduced evidence in the
form of invoice and other documents/material in respect of the software
purchased to prove that the said software has been standard software and that
the payment made by the assessee for the said software was a onetime payment
and not a recurring payment for use of software. It was also explained by the
assessee that what it had purchased was a ‘copyrighted article’ and not the
‘copyright,’ itself, so as to classify it as royalty or fees for technical
services.
In para 7.3 of the impugned order, the DRP, after perusal
of the documents submitted by the assessee, has held that the software
purchased was a one “off the shelf” product. However, the DRP further observed
that the software was not sold but a license was given to the assessee to use
it in a particular manner in consideration of the license fee. Even after
obtaining a copy of the software, the assessee required permission to use the
software by way of activation on a certified machine. Therefore, payment made
by the end user was towards license to use copyright in software and not for
sale of software. The DRP, therefore, held that the license to use the software
would fall under the purview of royalty. Being aggrieved by the above finding
of the DRP, the assessee has come in appeal before us.
11. We have heard the rival contentions and have also
gone through the records. The Ld. A.R. of the assessee has contended that ‘MFG
Pro Software’ purchased by the assessee is an accounting software and is
available off the shelf. QAD Singapore Pvt. Ltd. supplied the said software to
the assessee company outside India on a computer disk with free on board basis
and further that the said entity does not have a permanent establishment in
India. He, therefore, has contended that the said disk purchased by the
assessee would fall in the definition of ‘goods’ as defined in the ‘Sale of
Goods Act’ and the consideration paid is the sale price of the goods and not
the royalty and hence the assessee was not liable to deduct TDS on the payment
for the purchase of goods from the foreign company as the same was business
income in the hands of the recipient and not the royalty. The Ld. A.R. of the
assessee, in this respect has relied upon the decision of the Hon’ble Delhi
High Court in the case of “DIT vs. Infrasoft Ltd.” (2013) 39 taxmann.com 88
(Del.) and further on another decision of the Hon’ble Delhi High Court in the
case of “DIT vs. Ericson A.B.” (2012) 343 ITR 470.
12. On the other hand, the Ld. D.R., relying upon the
decisions of the co- ordinate bench of this Tribunal in the case of “Reliance
Infocom Ltd.” and in specific relying on para 29, 35 & 36 of the said
decision, has contended that the software purchased by the assessee was a
separate software and the same was not supplied along with the equipments and
that the same was not an embedded software in the computer/equipment. The
assessee was not the owner of the software, the ownership of the software had
remained with the owner; the assessee was just a given license to use the
software which was the right to use of copyright in the software. The Tribunal
in the said decision (supra) has relied upon the decision of the Hon’ble
Karnataka High Court in the case of “CIT vs. Samsung Electronics Company Ltd.
& Others” (2012) 345 ITR 494 and upon another decision of the Hon’ble
Karnataka High Court in the case of “CIT vs. Synopsis International Old Ltd.”
(2013) 212 taxman 454. The Ld. DR in this respect has relied upon the amended
definition of the ‘royality’ u/s 9 of the Income Tax Act. It is pertinent to
mention here that vide amendment Act of 2012, Explanation 4 has been added to
section 9(1)(vi) of the Act with retrospective effect including the software in
the definition of royalty. The Ld. DR has stated that the definition of royalty
under the Act is parametria with that of the treaty, therefore, the same is to
be read into the definition of treaty as provided in the DTAA for determining
the tax liability of the assessee in this respect. The contention of the Ld.
AR, on the other hand is that the definition of royalty, since provided in the
DTAA is to be looked into only and that the definition, if any, provided under
the Act is to be ignored.
13. After hearing the Ld. Representatives of the parties,
the first and foremost question for adjudication before us is as to whether the
definition of ‘Royalty’ as provided under the Income Tax Act is to be taken or
that which has been provided in the DTAA with Singapore.
14. The Ld. D.R. at this stage relying upon the decision
of the Hon’ble Madras High Court in the case of “Vrizon Communication Singapore
vs. ITO” 361 ITR 0575 (Mad.) has contended that in ‘Para 100’ of the said
decision, the Hon’ble Madras High Court has observed that the definition of
royalty under DTAA and the Indian Income Tax are in paramateria. He has further
stated that the said decision of the Hon’ble Madras High Court in the case of
“Vrizon Communication Singapore” (supra) has been followed by the Mumbai Bench
of the Tribunal in “Viacom 18 Media Pvt. Ltd. vs. ADIT (International Taxation)
reported in (2014) 44 taxman.com 1 (Mumbai). He, therefore, has vehemently
contended that the definition of royalty as provided under the various clauses
and explanations of section 9 of the Income Tax Act should be adopted. He, in this
respect, has stated that the Explanation 4 to section 9(1) (vi), introduced
vide Amendment Act of 2012, is clarificatory in nature under which the software
has been specifically included in the definition of royalty, and it should be
read along with the definition of royalty as provided under the DTAA. He
therefore has contended that the consideration paid by the assessee for the use
of software is to be treated as royalty.
On the other hand the contention of the Ld. AR of the
assessee has been that if the provisions of DTAA are more beneficial to the
assessee then the same would prevail over the provisions of the Income Tax Act
as provided under section 90 of the Income Tax Act. He, in this respect, has
relied upon the decision of the Hon’ble Supreme Court in the case of “Union of
India vs. Azadi Bachao Andolan” (2003) 263 ITR 607.
15. We have considered the rival contentions of the Ld.
Representatives in this respect. We have also gone through the relevant
definitions as provided under the DTAA and under the Income Tax Act. So far as
the definition of royalty as provided under section 9(1)(vi)of The Income Tax
Act is concerned, the relevant part of the said provision is reproduced as
under:
Section 9(1)
“(vi) income by way of royalty payable by— (a) the Government
; or
(b) a person who is a resident, except where the royalty
is payable in respect of any right, property or information used or services
utilised for the purposes of a business or profession carried on by such person
outside India or for the purposes of making or earning any income from any
source outside India ; or
(c) a person who is a non-resident, where the royalty is
payable in respect of any right, property or information used or services
utilised for the purposes of a business or profession carried on by such person
in India or for the purposes of making or earning any income from any source in
India :
Provided that nothing contained in this clause shall
apply in relation to so much of the income by way of royalty as consists of
lump sum consideration for the transfer outside India of, or the imparting of
information outside India in respect of, any data, documentation, drawing or
specification relating to any patent, invention, model, design, secret formula
or process or trade mark or similar property, if such income is payable in
pursuance of an agreement made before the 1st day of April, 1976, and the
agreement is approved by the Central Government :
Provided further that nothing contained in this clause
shall apply in relation to so much of the income by way of royalty as consists
of lump sum payment made by a person, who is a resident, for the transfer of
all or any rights (including the granting of a licence) in respect of computer
software supplied by a non-resident manufacturer along with a computer or
computer-based equipment under any scheme approved under the Policy on Computer
Software Export, Software Development and Training, 1986 of the Government of
India.
Explanation 1.—For the purposes of the first proviso, an
agreement made on or after the 1st day of April, 1976, shall be deemed to have
been made before that date if the agreement is made in accordance with
proposals approved by the Central Government before that date; so, however,
that, where the recipient of the income by way of royalty is a foreign company,
the agreement shall not be deemed to have been made before that date unless,
before the expiry of the time allowed under sub- section (1) or sub-section (2)
of section 139 (whether fixed originally or on extension) for furnishing the
return of income for the assessment year commencing on the 1st day of April,
1977, or the assessment year in respect of which such income first becomes
chargeable to tax under this Act, whichever assessment year is later, the
company exercises an option by furnishing a declaration in writing to the
Assessing Officer (such option being final for that assessment year and for
every subsequent assessment year) that the agreement may be regarded as an
agreement made before the 1st day of April, 1976.
Explanation 2.—For the purposes of this clause,
"royalty" means consideration (including any lump sum consideration
but excluding any consideration which would be the income of the recipient
chargeable under the head "Capital gains") for—
(i) the transfer of all or any rights (including the
granting of a licence) in respect of a patent, invention, model, design, secret
formula or process or trade mark or similar property ;
(ii) the imparting of any information concerning the
working of, or the use of, a patent, invention, model, design, secret formula
or process or trade mark or similar property ;
(iii) the use of any patent, invention, model, design,
secret formula or process or trade mark or similar property ;
(iv) the imparting of any information concerning
technical, industrial, commercial or scientific knowledge, experience or skill
;
(iva) the use or right to use any industrial, commercial
or scientific equipment but not including the amounts referred to in section
44BB;
(v) the transfer of all or any rights (including the
granting of a licence) in respect of any copyright, literary, artistic or
scientific work including films or video tapes for use in connection with
television or tapes for use in connection with radio broadcasting, but not
including consideration for the sale, distribution or exhibition of
cinematographic films ; or
(vi) the rendering of any services in connection with the
activities referred to in sub- clauses (i) to (iv), (iva) and (v).
Explanation 3.—For the purposes of this clause,
"computer software" means any computer programme recorded on any
disc, tape, perforated media or other information storage device and includes
any such programme or any customized electronic data.
Explanation 4.—For the removal of doubts, it is hereby
clarified that the transfer of all or any rights in respect of any right,
property or information includes and has always included transfer of all or any
right for use or right to use a computer software (including granting of a
licence) irrespective of the medium through which such right is transferred.
Explanation 5.—For the removal of doubts, it is hereby
clarified that the royalty includes and has always included consideration in
respect of any right, property or information, whether or not—
(a) the possession or control of such right, property or
information is with the payer;
(b) such right, property or information is used directly
by the payer;
(c) the location of such right, property or information
is in India.
Explanation 6.—For the removal of doubts, it is hereby
clarified that the expression "process" includes and shall be deemed
to have always included transmission by satellite (including up-linking,
amplification, conversion for down-linking of any signal), cable, optic fibre
or by any other similar technology, whether or not such process is secret;”
16. The definition of “royalty” as provided in the DTAA
of India with Singapore, for the sake of convenience and comparison, is also
reproduced as under:
“Article 12(3)
The term "royalties" as used in this Article
means payments of any kind received as a consideration for the use of, or the
right to use:
a. any copyright of literary, artistic or scientific
work, including cinematograph film, or films or tapes used for radio or
television broadcasting, any patent, trade mark, 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, property or information;
b. any industrial, commercial or scientific equipment,
other than payments derived by an enterprise from activities described in
paragraph 4(b) or 4(c) of Article 8.”
17. We further find that in the various treaties with
different countries, the Article 12 therein, generally, deals with the payments
in respect of royalties and almost identical/similar definition has been
provided in various treaties with various other countries.
18. A comparison of the definition of ‘royalty’ as
provided under the DTAA (as reproduced above) with the definition of ‘royalty’
as provided under Income Tax Act shows that the same are not at paramateria
with each other. The definition provided under the DTAA is the very short and
restrictive definition, whereas, the definition of the royalty as provided
under the Income Tax Act is a very wide and inclusive but vague. A careful
reading of the relevant provision under the DTAA and under the Income Tax Act
reveals that the DTAA covers only a part of the items mentioned under sub
clause (i) to (v) to Explanation 2 to section 9(1)(vi). We may mention here
that the section 9(1)(vi) having sub clauses (a), (b), & (c) is very vast
to cover consideration paid for any right, property or information used or
services utilized for the purpose of business or profession. Further, we find
that in the said sub clauses (a), (b) & (c) of section 9(1) (vi), the
wording is somewhat vague and negatively written. Even, if we apply and read
the negatively written wording in clause (c) in relation to a payment made by a
non resident into the clause (b), i.e. in relation to payment made by a
resident Indian and read the clause(b) in terms of clause(c), even then what
the ‘royalty’ may constitute will be the income payable in respect of any
right, property or information used or services utilized for the purpose of
business or profession by such resident to a non resident. However, vide
explanation 2 the vast definition provided in sub clauses (a), (b) & (c) of
section 9(1) (vi), have been restricted only to the consideration paid for the
items as mentioned (i) to (vi) of Explanation 2. However, ‘Explanation 4’
inserted by Finance Act, 2012, provides that the transfer of rights in respect
of any right, property or information includes and has always included the
right for use or right to use a computer software including granting of a
license. We find that so far as Income Tax Act is concerned, ‘computer
software’ has neither been included nor is deemed to be included within the
scope or definition of ‘literary work’ in any definition or explanation
provided under the Act. The term ‘literary work’ has been separately mentioned
under clause (v) to Explanation 2 to include the consideration paid for the
same within the scope of royalty, whereas, the term ‘computer software’ has
been specifically included, not under the clause (v) to Explanation 2, but,
under the main clause (vi) to section 9(1).
Hence, the computer software has been recognized as a
separate item not only in 2nd proviso to clause (vi) but in Explanation 4 also
and has been included in the definition and within the scope of the words
‘right’, ‘property’ or ‘information’. The same has not been included in the
meaning and scope of the term ‘literary work’ under clause (v) to Explanation
2.
It is to be further noted that the consideration paid for
‘computer software’ has not been specifically included under the definition of
royalty under the DTAA.
19. Under the circumstances, the contention of the Ld.
D.R. that the definition of royalty as under the Income Tax Act is in
paramateria as under the DTAA can not be accepted as it is apparent that the
definition under the DTAA is short and restrictive whereas the definition under
the Income Tax Act is wide, inclusive and extended. Since the definition
provided under the royalty in the DTAA is more beneficial to the assessee,
hence as per the provisions of section 90, the definition of royalty as
provided under DTAA is to be taken.
So far as the reliance of the Ld. D.R. on the decision of
the Hon’ble Madras High Court in the case of “Vrizon Communication Singapore”
(supra) and of the Mumbai Tribunal in the case of “Viacom 18 Media Pvt. Ltd.”
(supra) is concerned, we find that the said decisions have been rendered in
context of some other item relating to the consideration paid for
transponder/band width/telecom services. In that context, the Hon’ble Madras
High Court has interpreted the right to use the ‘equipment’ and the word ‘process’
applying the domestic law, definition of which was not available in the DTAA.
However, in this case, we have to define the term ‘literary work’, the term
‘copyright’; the definitions of the same are not available under the Income Tax
Act, rather, the same are available under the Copyright Act, 1957.
20. Moreover, the Hon’ble Delhi High Court in the case of
“DIT vs Nokia networks OY” [2012] Taxmann.com 225 (Delhi) has held that though
Explanation 4 was added to section 9(1)(vi) by the Finance Act 2012 with
retrospective effect from 1.6.1976 to provide that all consideration for user
of software shall be assessable as “royalty“, the definition in the DTAA has
been left unchanged. In “Siemens AG” 310 ITR 320 (Bom), it was held that
amendments cannot be read into the treaty. As the assessee has opted to be
assessed by the DTAA, the consideration cannot be assessed as “royalty” despite
the retrospective amendments to the Act. The relevant findings of the Hon’ble
Delhi High Court as given in para 23 of the said decision, for the sake of
convenience are reproduced as under:
“The decision of the Delhi Bench of the ITAT has dealt
with this aspect in its judgment in Gracemac Co. Vs. ADIT 134 TTJ (Delhi) 257
pointing out that even software bought off the shelf, does not constitute a
“copyrighted article” as sought to be made out by the Special Bench of the ITAT
in the present case. However, the above argument misses the vital point namely
the assessee has opted to be governed by the treaty and the language of the said
treaty differs from the amended Section 9 of the Act. It is categorically held
in CIT Vs. Siemens Aktiongesellschaft, 310 ITR 320 (Bom) that the amendments
cannot be read into the treaty. On the wording of the treaty, we have already
held in Ericsson (supra) that a copyrighted article does not fall within the
purview of Royalty.”
21. Further, in a recent judgment in the case of “DIT Vs
New Skies Satellite BV,” (ITA 473/2012 vide order dated 08.02.2016), the
Hon’ble Delhi High Court has observed that no amendment to the Act, whether
retrospective or prospective can be read in a manner so as to extend in
operation to the terms of an international treaty. In other words, a
clarificatory or declaratory amendment, much less one which may seek to
overcome an unwelcome judicial interpretation of law, cannot be allowed to have
the same retroactive effect on an international instrument affected between two
sovereign states prior to such amendment. That an amendment to a treaty must be
brought about by agreement between the parties. Unilateral amendments to
treaties are therefore categorically prohibited. Even the Parliament is not
competent to effect amendments to international instruments. As held by the
Hon’ble Supreme Court in “Azadi Bachao Andolan” (2003) 263 ITR 607, these
treaties are creations of a different process subject to negotiations by
sovereign nations. While relying on the decision of the Hon’ble Madras High
Court, in “CIT vs VR. S.RM. Firms & Ors”, the Hon’ble Delhi High Court held
that the tax treaties are considered to be mini legislation containing in
themselves all the relevant aspects or features which are at variance with the
general taxation laws of the respective countries. The Parliament is not
equipped with the power to, through domestic law, change the terms of a treaty.
Amendments to domestic law cannot be read into treaty provisions without
amending the treaty itself. It is fallacious to assume that any change made to
domestic law to rectify a situation of mistaken interpretation can spontaneously
further their case in an international treaty. Therefore, mere amendment to
Section 9(1)(vi) cannot result in a change. It is imperative that such
amendment is brought about in the agreement as well. Hon’ble Delhi High Court
concluded in the said decision (supra) that the Finance Act, 2012 will not
affect Article 12 of the DTAAs, it would follow that the first determinative
interpretation given to the word “royalty” prior to the amendment in the Income
Tax Act will continue to hold the field for the purpose of assessment years
preceding the Finance Act, 2012 and in all cases which involve a Double Tax
Avoidance Agreement, unless the said DTAAs are amended jointly by both parties.
22. Further, we find that in all the decisions of the
Hon’ble High Courts relied upon by both the Ld. Representatives of the parties
i.e. not only in the decisions relied upon by the assessee of the Hon’ble Delhi
High Court in the case of “Infrasoft Ltd.” (supra) and “Ericson A.B.” (supra)
but also in the decisions relied upon by the Revenue i.e. “Samsung Electronics
Company Ltd. & Others” (supra), “Synopsis International Old Ltd.” (supra)
and of the Tribunal in the case of “Reliance Infocom Ltd.” (supra), the
different Benches of the High Courts and the Tribunal have been unanimous to
hold that as per the law laid down by the Hon’ble Supreme Court in the case of
“Union of India vs. Azadi Bachao Andolan” (2003) 263 ITR 607, that where a
specific provision is made in the DTAA, that provision will prevail over the
general provisions contained in the Income Tax Act if, the same is more
beneficial to the assessee as provided under section 90 of the Income tax Act.
All the Hon’ble High Courts (supra) have also been unanimous to further hold
that the definition of ‘royalty’ is restrictive in DTAA whereas the definition
of royalty under the Income Tax Act is broader in its content. Therefore, the
definition of royalty in DTAA is more beneficial to the assessee and hence the
case of the assessee is to be examined in the light of the definition of
royalty as provided in the DTAA and that the provisions of the DTAA will, in
such an event, override the provisions of the Income Tax Act. Since, the Ld. AR
of the assessee has stated that the definition of treaty in the DTAA with
Singapore is more beneficial to the assessee and that the case of the assessee
be decided taking the definition as provided in the treaty, hence, in the light
of above cited decisions, we proceed to examine as to the consideration paid by
the assessee for the purchase of off the shelf software can be covered within
the scope of the ‘royalty’ as provided under the DTAA.
23. From the perusal of the above reproduced definition
of royalty as provided in Article 12 in ‘Singapore treaty,’ it is revealed that
it is the payment which is received as consideration for the ‘use of’ or the
‘right to use’ “any copyright of literary, artistic, scientific work including
…..” (emphasis supplied by us). Hence, what is relevant is the consideration
paid ‘for the use of’ or the right ‘to use’ any ‘copyright’. The right to use a
computer software/programme has not been specifically mentioned in the treaty
with Singapore or even in the identically worded treaty with US and or with any
other country.
However, the Ld. DR, at this stage, has stressed on the
definition of word ‘literary work’. It has been submitted that the definition
of ‘Literary work’ as provided under the domestic law viz. Copyright Act, 1957
should be considered while deciding the scope of the term “Royalty” as defined
under the treaty. This issue has been discussed by the Hon’ble Karnataka High
Court in the case of “Samsung Electronics Company Ltd. & Others” (supra)
while relying upon Article 3 sub section (2) of the DTAA with US, observing
that any term not defined in the convention shall, unless the context otherwise
requires, have the meaning which it has under the laws of that ‘State’
concerning the tax to which the convention applies. Hence, the reference is to
be made to the respective law of the taxing State (India in this case)
regarding the definition of ‘literary work’ and ‘copyright’. The relevant part
of the Article 3 of the DTAA with Singapore for the purpose of ready reference
is reproduced as under:
Art 3. “(2.) As regards the application of the Agreement
by a Contracting State, any term not defined therein shall, unless the context
otherwise requires, have, the meaning which it has under the law of that State
concerning the taxes to which the Agreement applies.”
24. Hence, the question before us, at this stage, is
whether the term ‘literary work’ as mentioned in the definition of royalty in
the treaty would include ‘software’ or not?
We note that the term 'Literary work' covers work, which
is expressed in print or writing irrespective of the question of its literary
merit or qualit y. It must be expressed in some material form, i.e. writing or
print or in some form of notation or symbols, which means in a form capable of
either visually or audibly recreating the representation of the original work.
As per the provisions of section 2(o) of the Indian Copyright Act, 1957 the
term ‘literary work’ includes computer programs, tables and compilations
including computer data base. Therefore, the computer software has been
recognized as a copyright work in India, if they are original intellectual
creations.
25. “Computer programme” as defined in the Copyright Act,
means a set of instructions expressed in words, codes, schemes or in any other
form, including a machine-readable medium capable of causing a computer to
perform a particular task or to achieve a particular result. The words 'schemes
or in any other form' would seem to indicate that the source code and object
code of a computer programme are entitled to copyright protection. It may be
noted here that copyright protects the expression of an idea and not the idea
itself. The ideas embedded in the software are therefore not protected but the
ways by which the ideas are expressed in the source code are protected.
26. In the past, software were often sold as an integral
part of the computer system, but now a days, software products are sold or
licensed in the form of computer readable media such as diskettes and CD-ROMs
or directly over the Internet. Though such floppy disc; the CD-ROM or the Hard
Disc are tangible commodities, but, the software embedded in these media
devices is intangible. In the earlier day’s customized software was made and
the contracts involved two distinct parties who could discuss all the terms of
such agreement between them. However, now a days the software become mass
market items and are available off the shelf. At the time of sale of such off
the shelf software embedded diskettes or CD-ROMs, the rights assigned by the
author/owner of the software would be very specific in their scope, indicating clearly
to the purchaser the actions that he/she is permitted to perform in relation to
the software embedded in those discs.
27. Now, the question before us is as to whether the sale
of shrink wrapped/off the shelf computer software by the non-resident to the
resident assessee amounts to the transfer for the ‘use of’ or the right ‘to
use’ any copyright in a literary work. Before deliberating further in this
respect, we think it proper to first discuss the nature of the shrink wrapped
software.
The words ‘shrink wrap’ refer to the shrink wrap
packaging that generally contain the CD ROM of software. The terms and
conditions of accessing the particular software are printed on the ‘shrink wrap
cover’ of the CD and the purchaser after going through the same tears the cover
to access the CD ROM. The typical ‘shrink wrap’ agreement is a single piece of
paper describing the licence terms, contained inside the box and wrapped in
transparent paper along with the computer software installation and diskettes
or the owner’s manual. These agreements contain typical clauses on anti-reuse,
anti-reverse engineering and limited copyright provision. Sometimes, these may
have clauses disclaiming of warranties and liabilities. End user is bound and
is considered to have agreed with the license, if he tears open the package.
Shrink wrap agreements do not follow the normal practice of an agreement
between the parties, where the terms of an agreement are negotiated between the
parties.
The other popular way of transfer/sale or licensing the
software is through ‘Click Wrap’ agreements. In these licenses, software
developers do not receive a signed agreement from the user instead of he relies
on the customers manifestation of ascent via the internet. The user generally
is asked to review the terms of the agreement and indicate the ascent by
clicking on the button/icon at the end of the license. The button or the icon
provided in these agreements is generally ‘I agree’ and ‘I decline’. The ‘I
agree’ or ‘Ok’ button/icon constitutes agreement to the ‘click wrapped’ license
agreement. Some times when ‘shrink wrapped’ software is downloaded on the
computer, it may again ask to agree to certain terms as in case of Click wrap
software. The purchaser or the end user once has clicked the ‘Ok’ button he has
no right to decline the terms of agreement by returning the software. There is
no bargaining involved in these licenses whose terms are set by the licensor.
28. Software contracts, like many other transactions, are
governed by the common law principles as embodied in the Indian Contract Act.
Contracts can be in the nature of sale or assignment/license. If the computer
software is considered as a 'good', the Sale of Goods Act, 1930 will have
relevance in the formation and execution of the sale contract.
In context of copyright law, a license is a permission to
do an act that, when the doing of the same without permission, would be
unlawful. In Software Licences, the copyright owner retains substantial rights
and greater ability to control the use of software. Licence may have provisions
relating to the persons who may use the programme, the number of copies that
can be made, warranty, limitation of liability, distribution of the software,
etc. These are generally biased towards the licensor.
29. The plea raised on behalf of the Revenue is that sale
of off-the-shelf software may be easily termed as sale but in such a 'buying',
the title to the box, containing disk, manual etc., may pass to the buyer, but
the title to IP in the software does not. Hon’ble Karnataka High Court in “CIT
vs. Samsung Electronics Company Ltd. & Others” (2012) 345 ITR 494 has
observed that under the agreement, what was transferred was only a license to
use the copyright belonging to the non-resident subject to the terms and conditions
of the agreement and that the non-resident supplier continued to be the owner
of the copyright and all other intellectual property rights; that the copyright
is a negative right. It is a bundle of many rights and license is granted for
making use of the copyright in respect of shrink wrapped software / off the
shelf software under the respective agreement which authorizes the end user
i.e. the customer to make use of the copyright software contained in the said
software, which is purchased off the shelf or imported as shrink wrapped
software and that the same would amount to transfer of part of the copyright
and transfer of right to use the copyright for internal business of the
assessee as per the terms and conditions of the agreement. It was therefore
held that the contention of the assessee that there was no transfer of
copyright or any part thereof under the agreements entered into by the
respondent with the non-resident supplier of software cannot be accepted. The
Tribunal in the said case has also relied upon another decision of the Hon’ble
Karnataka High Court in the case of “CIT vs. Synopsis International Old Ltd.”
(2013) 212 taxman 454 wherein the Hon’ble Karnataka High Court has observed
that even in case of end-user software license agreement granted for a non
exclusive, non transferable, without right of sub license of use of the
licensed software and design techniques, that does not take away the software
out of the definition of the copyright. Even if it is not a transfer of
exclusive right in the copyright, the right to use the confidential information
embedded in the software in terms of the license makes it abundantly clear that
there is transfer of certain rights which the owner of a copyright possesses in
the said computer software/programme in respect of the copyright. The Hon’ble
Karnataka High Court while analyzing the provisions of the DTAA held that the
consideration paid ‘for the use’ or ‘right to use’ the said confidential
information in the form of computer programme software itself constitutes
royalty and attracts tax. It has been further held that it is not necessary
that there should be a transfer of exclusive right in the copyright. That the
consideration paid is for rights in respect of copyright and for the user of
the confidential information embedded in the software/computer program,
therefore, it falls within the mischief of explanation 2 of clause (vi) of sub
section (1) of section 9 of the Income Tax Act and there is a liability to pay
the tax in India.
30. However, different benches of the Hon’ble Delhi High
Court in the above cited decisions in the case of “DIT vs. Infrasoft Ltd.”
(supra); “DIT vs Nokia networks OY” (supra) and in the case of “DIT vs. Ericson
A.B.” (supra) have been unanimous to hold that the license granted to the
licensee permitting him to download the computer programme and storing it in
computer for its own use is only incidental to the facility extended to the
licensee to make use of the copyrighted product for his internal business
purposes. The said process is necessary to make the program functional and to
have access to it. 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.
The Hon’ble Delhi High Court has observed that in such a case there is no
transfer of any right in respect of copyright to the assessee and it is a case
of transfer of a copyrighted article. The payment is for a copyrighted article
and represents the purchase price of an article and cannot be considered as
royalty. The Hon’ble Delhi High Court has further held that what is transferred
is neither can be right in the software nor the use of the copyright in the
software, but is the right to use copyrighted material or article which is
clearly distinct from the rights in a copyright and the same does not give rise
to any royalty income and would be the ‘business income’. The Hon’ble Delhi
High Court in the case of “Infrasoft Ltd.” (supra) has also relied upon another
decision of the Hon’ble Delhi High Court in the case of “DIT vs. Nokia Networks
OY” (2013) 212 taxman 68 wherein the Hon’ble Delhi High Court has held that the
copyright is distinct from material object. It is intangible, incorporeal right
in the nature of privilege, quite independent of any material substance such as
manuscript. The transfer of the ownership of a physical thing in which
copyright exists comes to the purchaser with the right to do with it 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
copyright in it.
31. Now, after going through the divergent views of the
different Benches of the High Courts on this issue, the question that arises
before us as to whether the sale of shrink wrapped software can be said to be
sale of ‘Good’ or grant of ‘License to use’.
Section 2(7) of the Sale of Goods Act, 1930 defines
'good' as 'every kind of movable property other than actionable claims and
money, and includes stock and shares, growing crops, grass....' This definition
of 'goods' thus includes all types of movable properties, whether tangible or
intangible. The Hon’ble Supreme Court in the case of “Tata Consultancy Services
vs State of Andhra Pradesh” 271 ITR 401 (2004), has considered computer
software as 'goods' and stated that notwithstanding the fact that computer
software is intellectual property, whether it is conveyed in diskettes, floppy,
magnetic tapes or CD ROMs, whether canned (shrink-wrapped) or uncanned (customized),
whether it comes as part of the computer or independently, whether it is
branded or unbranded, tangible or intangible. The Hon’ble Supreme Court held
that, 'it would become goods provided it has the attributes thereof having
regard to (a) its utility; (b) capable of being bought and sold; and (c)
capable of being transmitted, transferred, delivered, stored and possessed. If
a software whether customized or non- customized satisfies these attributes,
the same would be goods.' The Hon’ble Apex court while citing the decision of
the US court in “Advent Systems Ltd v Unisys Corporation” (925) F 2d 670 (3rd
Cir 1991), held 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, movable and available in the market
place. In such a case, the intellectual property has been incorporated on a
media for purposes of transfer. The software and the media cannot be split up.
In “Associated Cements Co. Ltd. vs. Commissioner of
Customs”, AIR 2001 SC 862, the Hon’ble Supreme Court examined whether the
drawings and license could be considered as ‘goods’. The Hon’ble Supreme Court
held that all tangible, movable articles are goods for charge of custom duties
under section 12 read with section 2(22)(e) of the Customs Act, 1962,
irrespective of what the article may be or may contain. It may be that what the
importer wanted and paid for was technical advice or information technology, an
intangible asset, but the moment the information or advice is put on media,
whether paper or cassette or diskette or any other thing, that what is
supplied, it becomes chattel. The Hon’ble Supreme Court, thus, held that the
intellectual property such as drawings, license and technical material when put
on a media is to be regarded as an article and there is no scope for splitting
the engineering drawings or encyclopedia into intellectual input on the one
hand and the paper on which it is scribed on the other hand.
32. No doubt, the dominant object of sale in such
transaction is the computer software and not the disk or the CD upon which such
software is loaded. As understood by us, what the ‘computer programme’ or the
‘software’ is an expression of work/ideas written on a media in a computer
programming language and that is why it has been included worldwide in the
category of literary work. As per the definition provided in section 2 (ffc) of
the Indian ‘Copyright Act 1957’ "Computer programme" means a set of
instructions expressed in words, codes, schemes or in any other form, including
a machine readable medium, capable of causing a computer to perform a
particular task or achieve a particular result; As per Explanation 3 to section
9(1)(vi), the computer software has been defined as follows:
“ ‘computer software’ means any computer programme
recorded on any disc, tape, perforated media or other information storage
device and includes any such programme or any customized electronic data.”
Hence, like any other literary work, computer programme
can not be read or utilized without downloading on a media like hard disk, CD,
floppy or any other such device. As an author of a literary work may be having
some ideas in his mind in an intangible form but the copyright in those ideas
is created when they are expressed in a particular manner in the shape of some
impressions, symbols or language or visuals etc. on a media such as book, film
or CD or screen etc. Now a days not only the computer programmes but also the
other literary work can be transmitted over the internet from one
media/computer to the other media /computer. But these expressions of ideas
called literary work including computer programmes can not be read or utilized
without downloading or writing them on a media. Hence, though the same as a
result of advancement in technology can be transmitted in an intangible form,
but to constitute a literary work, these have to be transformed into a tangible
form.
Computer programmes in itself can not be equated and
categorized into an intangible material or right a such as a business or
commercial right like copy right, right to practice some profession or
noncompeting right etc.; Hence once incorporated on a media, it become a
‘goods’ and itself is not a copy right; however a copy right can be created in
respect of such ideas expressed on a media. Further the copyright doesn’t
protect the idea itself but only protects the way or the manner in which such
ideas are expressed.
33. Further, it is also not disputed that in case of
shrink wrapped software, the product is available off the shelf in the market.
The owner or the licensor does not invite any expression of interest from the
intending users of the product. He does not grant license by seeing the names
and details of the persons seeking the license to use software rather the
situation is a diagonally opposite. The license is not granted to any specific
person; anybody can purchase the product from the market which is available in
the shape of CD ROM/diskette falling in the definition of ‘goods’ as defined
under the sale of Goods Act, 1930. Whosoever pay the price of the good, he is
supposed to have right to use that good. On the completion of the sale, the
property in such a good passes to the buyer and the buyer has every right of
fair use of the said product and subject to the conditions mentioned in the
shrink wrap/cover of the product which are in the shape of restrictions or
limitations to the effect that the buyer will not misuse the product which may
amount to infringe of copyright in the product. So what the buyer purchases is
the copyrighted product and he is entitled to fair use of the product. The
restriction or the terms mentioned in the paper/cover are the conditions of
sale restricting misuse and can not be said to be license to use. However, the
purchaser is entitled to perform all or any of the activities which is
essentially required for the fair use for the purpose for which the product is
purchased by him. Section 52 of the Copyright Act expressly recognizes such a
right of the purchase which we will discuss in later part of this order.
Further, the computer software as generally observed has
a shorter life cycle. When a shrink wrapped software is sold, the owner gets
the price of the copy of the product/work. Even if the owner/licensor has fixed
the duration or the time limit for the use of the product, on the expiry of
which the same becomes unusable, he in-fact receives the price for the expected
life of the work and product. In such case the purchaser pays the price for the
product itself and not the license to use.
34. The next contention of the Revenue is that in case of
software Licenses, the copyright owner gives a license to use the copyright in
the software and that the owner of software exercises power over not only the
software itself but also over people who may wish to use the software and that
the owner of the software decides who will use his work. It has therefore been
strongly contended on behalf of the Revenue that it is the right given to use
the copyright in the software.
35. This contention, though, on the face of it may seem
to be quite plausible or reasonable, however, when we examine the nature of the
transactions in case of shrink wrapped software, we are of the view that the
above contention is not so true. In our view, in case of shrink wrapped
software, what is sold is the CD ROM or diskette wrapped in a transparent cover
and in a paper put inside the cover, the conditions of use along with
restrictions and limitations of use of the said article/product are mentioned.
In our view, the sale of such a CD ROM/diskette is not a license but it is a
sale of a product which of course is a copyrighted product and the owner of the
copyright puts the conditions and restrictions on the use of the product so
that his copyrights in the copyrighted article or the work, which has been
written on such CD ROM/diskette, may not be infringed. Such conditions, in our
view, are not the license to use the product. The purchaser gets the right to
use the product/diskette along with the property in the ‘good’ in the shape of
work embedded or written in it when the sale is complete i.e. when such
diskette/COD ROM is delivered by the seller to the purchaser in lieu of the
consideration paid to him. Thus what is restricted by the so called agreement
or commonly used software license is that the user will not infringe the
copyrights in the product of the copyright owner of the work. The purchaser is
always entitled to fair use of the work which he has purchased. Thus at the
most, what can be said to be granted under such a license is the right to use
the copyrighted work and the right to use the copyright itself in the work.
What is prohibited through these conditions is its misuse which may infringe
the rights of the owner of the software e.g. the purchaser of the product may
attempt as it is easy in case of software to make copies etc. These license
agreements in case of shrink wrapped software are thus the conditions of the
sale of the product and cannot be termed as a grant of license to use the
product.
36. Further, a question, which needs to be examined
whether the statutory rights of the purchaser/user of the software can be
curtailed or done away by the terms of the above explained shrink wrapped or
click wrapped mass licenses/ agreements. Firstly there are severe doubts about
the enforceability of such agreements. In the so called internet license
agreement, the end user is supposed to click the icon ‘I agree’ which means
that the end user has agreed to the terms of the license agreement. However, it
may be noted that such agreements do not ask the name or address or other
details of the user. It is not mentioned in such type of agreements that who is
using the product. It is the computer upon which such software is loaded that
can be said to have agreed to abide by the terms of the software license as the
user remains unidentifiable. In such type of software licenses, there are
certain inbuilt mechanism made by the buyer preventing the misuse or
infringement of the copyright in the product; the moment the end user attempts
to violate such conditions, such software becomes inoperative on the computer
or sometimes also damage the other data/applications on the computer. However,
for the enforceability of such license agreement it is not known who is actual
user or which person actually has violated the terms of the agreement. Suppose,
in case of a company a product is purchased by the staff of the company, for
its use in regular course of work or business of the company and an employee of
the company while installing the software on the computer in the office of the
company clicks the button or the icon ‘I agree’ and thereafter such an employee
or any other employee of the company violates any condition of the license
agreement, can such license agreement be enforced against the company or the
Directors of the company can be held liable for any such infringement,
especially when they are not signatories to such an agreement and nor they have
authorized any employee of the company to sign any agreement on behalf of the
company and even no name of the company is even written in such type of
agreement and even it is also not known as to who actually clicked the button
‘I agree’. Under these circumstances, the enforceability of such a license is
highly doubtful.
So far as the legal enforceability of such a Licence
Agreements is concerned, in spite of the fact that it may fulfill all the
requirements of a valid contract, such an agreement may not be enforceable, if,
its stipulations conflict with the law governed in the country where such
licenses are intended to be enforced, or if it is an unconscionable or
unreasonable bargain. In computer software, generally it is the tendency of
software producers to do away with the rights and privileges of the user, even
which are specifically conferred upon the user by the relevant laws such as
Copyright Act, Contract Act and other relevant laws. The fair use of the
purchased article is the other plea which contradicts the license theory. As
per the provisions of section 52 of the Copyright Act 1957, which has
provisions similar to the provisions of section 117 of the US Copyright Act,
the owner of a copyright of computer software is legally entitled to fair use that
copy of software even without a license from the software publisher and any
condition put in a license restricting the fair or reasonable use of the
product purchased by the buyer in that respect will have to be ignored. If the
license severely limits the rights of the consumers, such as implied conditions
and warranties in a contract, it cannot be enforced. If in the license
agreement, there are certain conditions which are in violation of the
provisions of the Contract Act, then such conditions cannot be enforced and
even under some circumstances, the whole contract can be held to be void. These
terms of the mass software license are in the shape of ‘standard terms’ which
the licensee or the user of the product often ignores while accepting the license
before downloading the software. The courts in India in such a situation have
opined that such standard conditions put in a contract which are often in the
form of standard format and being so much detailed and numerous and are
generally not read by the other party/buyer of the product, should be fair and
any unfair condition restricting the users’ rights relating to the goods or the
services availed of, which can be held to be unreasonable and against the
public policy, cannot be enforced. Thus these licenses create a clear conflict
between copyright law and contract law, which have different purposes and
objectives. The technological restrictions such as encryption technology and
transactional design having restrictions on the development, use, services, may
be called in question under the Competition Act, 2002 also. Further the
condition in the agreement that the ownership of each copy of software would
remain with the software publisher and that the user will have only right to
use the software is to be looked in terms of the Indian Contract Act to arrive
at a conclusion whether such a condition is reasonable and is not against the
public policy or whether it is restricting the fair use of right of the
user/purchaser of the product. It is also a determinative factor as to whether
the property in the goods after buying off the shelf product in case of shrink
wrapped software has passed on to the purchaser or not as per the provisions of
Sale Of Goods Act 1930.
37. As discussed above, in case of shrink wrapped
software, the work is embedded in the diskette/CD ROM which is when sold to the
buyer in retail transaction as in case of ‘sale of goods’ and consequently on
the completion of the sale, the property in such goods passes to the buyer. The
user/purchaser of the CD ROM or the diskette is the owner of the copy and in
such a case, a license is not technically required in order for the purchaser
to use the copyrighted product/software for his own/ business use. So what the
buyer buys is the copyrighted product and he is entitled to fair use of the
product as is provided under section 52 of the Copyright Act. He is also
entitled to perform all or any of the activities which is essentially required
for the fair use and for the purpose for which the product is purchased by the
buyer.
38. It may also be pointed out here that even, if, such a
license agreement is not signed by the end user still the owner of the product
will have the copyrights in such a product, as are defined and explained under
the Indian Copyright Act; even the registration of the product or the work
under the Copyright Act is not compulsory. The owner of the work is deemed to
be protected in relation to the copyrights in the work but the fair use of the
product/work cannot be denied and any clause in such agreement should be deemed
to be void as against the principle of fair use of the product.
39. Further, to determine whether a copyright in a work
is infringed or not or would be deemed to be infringed or not, the most
important test is to find out whether the use is likely to harm the potential
market or the value of the copyright work. When it is not the allegation of the
owner/purchaser of the work that the purchaser/user was reproducing the work
and distributing it so as to affect his potential market in exercising the
reproduction right, then it cannot be said that the user has infringed the
rights of the purchaser, who in fact has paid the consideration to use the
copyrighted work. The use of information in the work by the purchaser for which
he purchases such a product/diskette/CD ROM is thus comes within the scope of
fair use. Copyright does not protect the fair or exclusive use of the
information rather, the purpose of copyright protection is to regulate the
dissemination of information viz. production of the copies of the copyrighted
work/information and distribution thereof. The use of information viz. a new
technology or invention can, however, be protected under the Patents Act, 1970.
However, it is pertinent to mention here that even under the Patents Act 1970,
the computer Software can not be patented. The computer software, subject to
certain exception, have been specifically excluded from patentable items under
the Patents Act, 1970.
40. At this stage, we think it appropriate to discuss
here the relevant provisions of the Copyright Act, 1957 also. The copyright has
been defined under section 14 of the Copyright Act, 1957 as under:
“14. Meaning of copyright – For the purposes of this Act,
‘copyright’ means the exclusive right subject to the provisions of this Act, to
do or authorize the doing of ay of the following acts in respect of a work or
any substantial part thereof, namely:
(a) in the case of a literary, dramatic or musical work,
not being a computer programme, -
(i) to reproduce the work in any material from including
the storing of it in any medium by electronic means;
(ii) to issue copies the work to the public not being
copies already in circulation;
(iii) to perform the work in public, or communicate it to
the public;
(iv) to make any cinematograph film or sound recording in
respect of the work;
(v) to make any translation of the work; (vi) to make any
adaptation of the work;
(vii) to do, in relation to a translation or an
adaptation of the work, any of the acts specified in relation to the work in
sub-cls. (i) to (vi);
(b) in the case of a computer programme,-
(i) to do any of the acts specified in cl. (a);
(ii) to sell or give on commercial rental or offer for
sale or for commercial rental any copy of the computer programme:
Provided that such commercial rental does not apply in
respect of computer programmes where the programme itself is not the essential
object of the rental.
……………………”
41. Section 51 of the copyright is also relevant which
deals as to when the copyright is infringed which for the sake of convenience
is reproduced as under:
“CHAPTER XI
Infringement of Copyright
51. When copyright infringed. -Copyright in a work shall
be deemed to be infringed- (a) when any person, without a licence granted by
the owner of the copyright or the Registrar of Copyrights under this Act or in
contravention of the conditions of a licence so granted or of any condition
imposed by a competent authority under this Act-
(i) does anything, the exclusive right to do which is by
this Act conferred upon the owner of the copyright, or
(ii) permits for profit any place to be used for the
communication of the work to the public where such communication constitutes an
infringement of the copyright in the work, unless he was not aware and had no
reasonable ground for believing that such communication to the public would be
an infringement of copyright; or
(b) when any person-
(i) makes for sale or hire, or sells or lets for hire, or
by way of trade displays or offers for sale or hire, or
(ii) distributes either for the purpose of trade or to
such an extent as to affect prejudicially the owner of the copyright, or
(iii) by way of trade exhibits in public, or
(iv) imports into India, any infringing copies of the
work
Provided that nothing in sub-clause (iv) shall apply to
the import of one copy of any work for the private and domestic use of the
importer.
Explanation.- For the purposes of this section, the
reproduction of a literary, dramatic, musical or artistic work in the form of a
cinematograph film shall be deemed to be an "infringing copy"
42. Certain provisions of section 52 of the Copyright Act
which are relevant are also reproduced as under:
“52. Certain acts not to be infringement of
copyright.-(1) The following acts shall not constitute an infringement of
copyright, namely:
(a) a fair dealing with a literary, dramatic, musical or
artistic work 104 [not being a computer programme] for the purposes of-private
use, including research; criticism or review, whether of that work or of any
other work;”
(aa) the making of copies or adaptation of a computer
programme by the lawful possessor of a copy of such computer programme, from
such copy-in order to utilize the computer programme for the purposes for which
it was supplied; or
to make back-up copies purely as a temporary protection
against loss, destruction or damage in order only to utilise the computer
programme for the purpose for which it was supplied;”
(ab) the doing of any act necessary to obtain information
essential for operating inter-operability of an independently created computer
programme with other programmes by a lawful possessor of a computer programme
provided that such information is not otherwise readily available;
(ac) the observation, study or test of functioning of the
computer programme in order to determine the ideas and principles which
underline any elements of the programme while performing such acts necessary
for the functions for which the computer programme was supplied;
(ad) the making of copies or adaptation of the computer
programme from a personally legally obtained copy for non-commercial personal
use;”
43. The proviso to section 57 of the Act is also
relevant. The said section 57 of the Act of 1957 is also reproduced as under:
“57. [Author’s special rights. (1) Independently of the
author’s copyright and even after the assignment either wholly or partially of
the said copyright, the author of a work shall have the right-
(a) to claim authorship of the work; and
(b) to restrain or claim damages in respect of any
distortion, mutilation, modification or other act in relation to the said work
which is done before the expiration of the term of copyright if such
distortion, mutilation, modification or other act would be prejudicial to his
honour or reputation:
Provided that the author shall not have any right to
restrain or claim damages in respect of any adaptation of a computer programme
to which clause (aa) of sub-section (1) of section 52 applies.”
44. A perusal of the above provisions of the copyright
Act reveals that the computer software is included in the definition of
literary work and is covered under the purview and scope of copyright. The
exclusive rights to do or authorize the doing of certain acts as mentioned in
clause (a) and clause (b) of section 14 vests in the owner of the work and as
per section 51 of the Act, copyright in a work shall be deemed to be infringed
when any person without license granted by the owner of the copyright or in
contravention of the conditions of a license so granted does anything, the
copyright of the owner is stated to be infringed.
However a perusal of the above provisions of the
Copyright Act also reveals that even in some cases unauthorized uses of a
copyright work is not necessarily infringing. An unlicensed use of the
copyright is not an infringement unless it conflicts with one of the specific
exclusive rights covered by the copyright statue. Further there are certain
exceptions also. As per the proviso to sub clause (iv) to the clause (b) to
section 51, import into India of one infringing copy of any work for the
private and domestic use of the importer will not be considered as
infringement.
Further, the section 52 of the Act provides for certain
other exceptions and the doing of such acts as mentioned under section 52 is
not considered as infringement of the copyright as per the statute.
In case of software, it has been provided that making of
copies or adaptation of a computer programme by the lawful possessor of a copy
of such computer programme from such copy in order to utilize the computer
programme for the purpose of which it was supplied or to make back-up copies purely
as a temporary protection against loss, destruction or damage and in order to
utilize the computer programme and further the doing of any act necessary to
obtain information essential for operating inter operatability of an
independently created computer programme with other programmes in case such
information is not otherwise readily available, the observation, study or test
of functioning of computer programme with determination, the ideas and
principles necessary for the functions for which the computer programme was
supplied and the making of copies or adaptation of computer programme from a
personally and legally obtained copy from non-commercial personal use, have
been excluded from the definition of infringement of copyright. Even import of
one infringed copy of the work for private and domestic work of the importer
has been excluded from the scope of infringement of Copyright under the Act.
45. It is also pertinent to mention here that the Income
Tax Act does not specifically include the ‘computer software’ in the term
‘literary work’ and under such circumstances, if we apply the same analogy to
the treaty, then perhaps the ‘computer software’ will be out of the scope of
the treaty. However, if we apply the Copyright Act, then the ‘computer
software’ will have to be included in the term ‘literary work’ but to
constitute ‘royalty’ under the treaty, the consideration should have been paid
for the use of or the right to use the copyright in the ‘literary work’ and not
the ‘literary work’ itself.
46. Further, when we read the definition of copyright and
literary work as provided in the Copyright Act, 1957, it is also important to
note down that what constitutes infringement of copyright and what are the
exceptions to it. If the software purchased by the assessee and the use of it
by the assessee is covered within the exceptions as provided under section 52
of the Copyright Act, then in that event it cannot be said that the transfer of
right to use or for use of the copyright has passed. The proviso to section 57
of the Copyright Act has further clarified that the author of the work shall
not have right to restrain or claim damages in respect of any adaptation of a
computer programme to which clause (aa) of sub section (1) of section 52
applies.
47. Further in case of imported software i.e. if the
original work has been published outside India, as per the provisions of the
Copyright Act, apart from the work being original and not copied from
elsewhere, the work should be first published in India or if the work is
published outside India, the author on the date of publication, if the author
is dead, at the time of his death, should be citizen of India. In case of
unpublished work, the author on the date of making of a work should be a
citizen of India or domicile in India. Section 40 of the Copyright Act 1957,
provides for International Copyrights. As per the section 40 of the Act, the
Government of India may by an order published in the official gazette direct
that all or any provisions of this Act shall apply to the work published or
unpublished in any territory outside India. Such a right is extended in
relation to countries which have entered into a treaty or which are a party to
a convention relating to rights of the copyright owners and have undertaken to
make such provisions in their laws in relation to the Indian authors for
protection of their rights in their country. Section 40, 40A and section 41of
the Copyright Act, 1957 are relevant in this respect. Section 42 of the
Copyright Act, however, put certain restrictions on the rights in works of
foreign authors first published in India wherein it has been provided that if a
foreign country does not give adequate protection to the works of the Indian
authors, the Central Government may direct that such of the provisions of the
Act as confer copyright on works first published in India of the foreign
authors shall not apply. So if a foreign country recognizes the copyrights of
the Indian authors in their copyrighted work, the India also allows the
copyright to the foreign authors on reciprocal basis. So a foreign author can
claim the copyright in a product, if India has a treaty with that country or if
India and that other country are signatories of the certain international
treaties or conventions e.g. Berne convention to which India is a signatory.
Under such circumstances, in respect of works done in foreign countries or by
foreign authors, the copyright does not automatically flow or extended to them.
The rights of the foreign author are to be examined in the light of the
Copyright Act and the relevant treaty or the convention, if any, signed by
India with that country to which the foreign author belongs. The copyright in a
foreign product thus does not flow automatically or impliedly, so far as the
Indian copyright laws are concerned.
48. Hence, while interpreting the definition of ‘royalty’
as provided in the DTAA, it is to be seen as to what has been purchased by the
assessee i.e. whether the ‘copyright’ itself has been purchased or what the
assessee has purchased is only a ‘copyrighted work’. It is also required to be
analysed as to whether the use of such right would amount to infringement of
copyright if a license or permission in this respect is not given by the owner;
and when assessee has purchased a copyrighted product i.e. off the shelf
software, whether the use of the same for the business purpose of the assessee
is covered within the exceptions as provided under section 52 of the Copyright
Act. Further, in case of imported work/product, whether the protection of
copyright is available to the foreign author in terms of section 40,40A, 41 and
42 of the Copyright Act 1957.
49. The provisions of the Copyright Act, as discussed
above are clear and unambiguous in this respect. If the assessee has purchased
a copy of a computer software programme and he uses the said copy for his
business purpose and if the said use falls within the scope and purview of the
exceptions of section 52, such as the use of it for the purpose for which it is
supplied and to make backup copies for temporary purpose as a protection
against loss or damage and doing of any act necessary to obtain information
essential for operating the software for the purpose for which it is purchased
etc. as provided under section 52, then in that event it cannot be said to be
an infringement of copyrights of the author or owner of the work. As held by
the Hon’ble Karnataka High Court in the case of “Samsung Electronics Company
Ltd. & Others” (supra) while relying upon Article 3 sub section (2) of the
DTAA with US as the identically worded article being there in almost all the
tax treaties with other countries, that any term not defined in the convention
shall, unless the context otherwise requires, have the meaning which it is
under the laws of that ‘State’ concerning the tax to which the convention
applies. In view of above, when we see the definition as per the statutory
provisions/domestic law of the country i.e. Copyright Act,1957 of India which
is the taxing State in this case, it is apparent that the fair use of the work
for the purpose of which it is being purchased and doing of such other acts
including making of copy for protection from damage or loss can not, in any
case, said to be any infringement of copyright whether or not any license in
this respect has been granted by the author/owner of the work. The right to use
or for use of the product accrues to the purchaser by the operation of the
statute and as held by the Hon’ble Delhi High Court in the case of “Infrasoft
Ltd.” (supra), the same would amount to the sale of a goods and the acts done
such as downloading of the same to the computer or making backup copies etc.
would be the necessary acts for enabling the use of the product and would not
amount to the transfer of copyright or right therein, but only the transfer of
the copyrighted product and thus will not be covered under the definition of
royalty under DTAA. The consideration, thus, paid will be the business income
of the non-resident and taxable in accordance with the provisions of DTAA. We
may clarify here that even in cases where the owner of the copyrighted work may
restrict the use of or right to use the work by way of certain terms of the
license/software agreement, the validity or the enforceability of the same may
be subject matter in other laws such as Indian Contract Act 1872 , Sale of
goods Act 1930 or the Consumer Protection Act 1986 etc., but, the same in any
way can not be said to grant of or infringement of copyright in the light of
specific statutory provisions of Copyright Act 1957.
50. Now coming to the facts of the case in hand, the DRP
has given a specific finding of fact that what the assessee in the present case
has purchased is the shrink wrapped /off the shelf software. It has also been
discussed in detail in paras above that the definition of ‘royalty’ given in
the treaty is more beneficial to the assessee as compared to the provisions of
section 9 of the Income Tax Act and the assessee has opted for the definition
that is provided under the DTAA, thus as per section 90 of the Income Tax Act,
definition of ‘royalty’ as provided in the DTAA will prevail as over the
general definition of ‘royalty’ provided under the Income Tax Act. Hence,
without expressing our opinion or any view in relation to the definition of
‘royalty’ vis-à-vis ‘computer software’ as provided under the Income Tax Act,
we have given our findings only in respect of the scope of ‘royality’ under the
DTAA.
51. In view of our detailed discussion made above, the
assessee can not be said to have paid the consideration for use of or the right
to use copyright but has simply purchased the copyrighted work embedded in the
CD- ROM which can be said to be sale of ‘good’ by the owner. The consideration
paid by the assessee thus as per the clauses of DTAA can not be said to be
royalty and the same will be outside the scope of the definition of ‘royalty’
as provided in DTAA and would be taxable as business income of the recipient.
The assessee is entitled to the fair use of the work/product including making
copies for temporary purpose for protection against damage or loss even without
a license provided by the owner in this respect and the same would not constitute
infringement of any copyright of the owner of the work even as per the
provisions of section 52 of the Copyright Act,1957.
52. Even otherwise, the Revenue has not cited any direct
case law of the jurisdictional High Court of Bombay before us. In the case laws
cited by the Revenue of the Hon’ble Karanatka High Court in the matter of “CIT
vs. Samsung Electronics Company Ltd.” (supra) and “CIT vs. Synopsis
International Old Ltd.” (supra ) though a view in favour of the Revenue has
been taken, but, the Hon’ble Delhi High Court in the case of “DIT vs. Infrasoft
Ltd.” (supra) which is a latter decision and has discussed the Samsung case
also has taken the view in favour of the assessee. The Hon’ble Delhi High court
has taken the identical view favouring the assessee in the case of “DIT vs
Nokia Network” (supra) and in the case of “DIT vs. Ericson A.B.” (supra) also.
The Hon’ble Bombay High Court in the case of “The Addl. Commissioner of Sales
Tax vs. M/s Ankit International,” Sales Tax Appeal No.9 of 2011 vide order
dated 15 September, 2011 while relying upon the decisions of the Hon’ble
Supreme Court in “The Commissioner of Income Tax V. Vegetable Product Ltd.”
(1973) 88 ITR 192 and in “Mauri Yeast India Pvt. Ltd. V. State of U.P.” (2008)
14 VST 259(SC) : (2008) 5 S.C.C. 680 has held that, if two views in regard to
the interpretation of a provision are possible, the Court would be justified in
adopting that construction which favours the assessee. Reliance can also be
placed in this regard on the decision of Hon’ble Supreme Court in “Bihar State
Electricity Board and another vs. M/s. Usha Martin Industries and another :
(1997) 5 SCC 289. We accordingly adopt the construction in favour of the
assessee.
In view of our discussion made above, this issue is accordingly
decided in favour of the assessee.
53. In view of our observations made above, the appeal of
the assessee is treated as allowed for statistical purposes.
*****
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