This article summarizes a recent ruling of the Karnataka High Court (HC) [ITA No. 2808 of 2005] in the case of Samsung Electronics and others (Taxpayers). The HC held that any payment resulting in any income in the hands of a non-resident would be subject to withholding tax under the Indian Tax Law (ITL). Unless an order is obtained from the Tax Authority for withholding tax at a lower rate or for not withholding tax, a taxpayer would need to withhold tax on the income at the applicable withholding tax rates, even if the income may not be taxable in the hands of the non-resident.
Facts of the case
- One of the Taxpayers in the litigation was engaged in the development, manufacture and export of computer software. The Taxpayer imported ‘shrink-wrapped’ computer software from outside India for use in its business. No tax was withheld in respect of such payments on the ground the same cannot be treated as royalty either under the ITL or under the applicable Tax Treaty. However, the Tax Authority held such payments to be in the nature of royalty and subject to deduction of tax at source under the ITL.
- Certain other Taxpayers in the litigation were engaged in the distribution of ‘shrink-wrapped’ computer programs. The Taxpayers used to import copies of the computer programs for subsequent sale to customers in India.
- As the Taxpayers were under a bona fide belief that the payments made to non-residents were not chargeable to tax under the ITL or under an applicable Tax Treaty, the Taxpayers had not withheld tax on the payments nor had they applied for an order from the Tax Authority for not withholding tax.
- While the first appellate authority ruled in favor of the Tax Authority, the second appellate authority held in favor of the Taxpayers. It held that the payments made were not in the nature of royalty, based on the definition of ‘royalty’ under the ITL or under the relevant Tax Treaty and, hence, were not chargeable to tax under the ITL.
- The Tax Authority filed an appeal before the HC against the ruling of the second appellate authority.
Issue before the HC
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