BEFORE THE AUTHORITY FOR ADVANCE RULINGS (INCOME TAX), NEW DELHI
12th Day of October, 2011
P R E S E N T
Justice Mr. P. K.Balasubramanyan (Chairman) Mr. V.K. Shridhar (Member)
A.A.R. No. 885 of 2010
Name and address of the applicant: Upaid Systems Limited
Commissioner concerned : Director of Income-tax (International Taxation) Hyderabad
R U L I N G
[By Justice P.K. Balasubramanyan]
The applicant is a company incorporated under the laws of British Virgin Islands. It was previously known as ‘In touch Technologies Holdings Limited’, the predecessor of which in turn was ‘In Touch Technology Limited’. The applicant is engaged in the business of providing and enabling Electronic Payment Services via mobile and fixed line telecom and other telecom services networks. Over the years, the applicant has been conceiving, designing and developing Software Technology relating to payment processing platforms and services. In the year 1966, a new framework for an advanced intelligent processing platform was conceived of. In order to exploit that invention commercially, appropriate software had to be designed and developed. After developing the design, the applicant outsourced the development of software to Satyam Enterprise Solutions Limited. On 29.5.1997, a Memorandum of Understanding was entered into in that behalf with Satyam Enterprise Solutions Limited. Satyam Enterprise Solutions Limited subsequently merged with its parent Satyam Computer Services Ltd. The obligations under the MOU with the applicant were taken over by the parent Satyam Computer Services Limited under the scheme of amalgamation. The Memorandum of Understanding provided that Satyam would develop certain Operation Support Systems software which included, inter alia, products that came to be known as ‘Call Manager’ and ‘Net Manager’.
2. On 11.9.1998 as Assignment Agreement effective from 1.1.1998 was executed between the parties where under Satyam, after receiving good and valuable consideration, assigned to the predecessor of the applicant in perpetuity all worldwide right, title and interest in the software and Intellectual Property Rights and Copyright over the software developed. The Assignment Agreement also assigned to the applicant the right to seek patent protection for inventions and to own all patent applications and letters patent or similar legal protection for such inventions in all countries throughout the world. The Assignment Agreement was executed in the United States of America and the governing law was the law of the United States. On 15.9.1998, the applicant filed a provisional patent application with the United States Patent and Trademark Office in respect of ‘Call Manager’ and ‘Net Manager.’ Satyam, along with the Assignment Agreement had also provided assignment letters from its employees who had worked on the innovations sought to be patented. These letters were also relied on by the applicant before the Patent Authority.
3. The Memorandum of Understanding entered into on 29.5.1997, was then replaced by a Services Agreement dated 19.9.1999 made effective from 15.9.1998 under which Satyam was to continue to provide software development services to the applicant till the end of the year 2002. The Services Agreement reaffirmed that the predecessor of the applicant would be the owner of the Intellectual Property Rights over the software developed by Satyam.
4. There were some omissions in the application filed before the Patent Authority. These omissions were rectified by Satyam at the request of the applicant and a combined declaration was filed with the Patent Authority. Being satisfied, the Patent Authority granted ‘Patent 947’ to the applicant on 20.11.2001. Other subsidiary applications in respect of inventive work predicated in part upon ‘947 Patent’ were also filed by the applicant before the Patent Authority. The entirety of the patent portfolio of the applicant, according to it, is either wholly or partially dependent upon ‘947 Patent’.
5. During the interregnum, Satyam had acquired 22.06% equity in the applicant as per the share issuance agreement executed in the year 1999 in lieu of outstanding receivables. Disputes arose between the parties, a settlement was arrived at and a Settlement Agreement dated 31.12.2002 was executed. By it, the share issuance agreement and the Services Agreement between the parties were terminated. Satyam ceased to be the contract software developer for the applicant. Satyam also almost entirely divested itself of its shares in the applicant. The agreement affirmed that the Intellectual Property Rights over the software shall be the sole and exclusive property of the applicant. Satyam agreed to execute any document that may be needed in furtherance of filing and maintaining the applications relating to the Intellectual Property.
6. According to the applicant, it subsequently discovered certain facts which led it to believe that some of the signatures in the inventors assignment purportedly signed by the inventor employees of Satyam and furnished to the applicant and filed by the applicant before the Patent Authority, were not genuine but were forgeries. This discovery was made during the proceedings initiated by the applicant for infringement of patent, in Texas, USA in June 2005, against Qualcomm Incorporated and Verizon Wireless, two telecom companies on the ground that those companies had infringed the applicant’s ‘947 patent’ and subsequent patents while developing their software platforms. It was in defence of those proceedings that the two companies produced declarations from two employees of Satyam involved in the developing of the software, that they had not signed the employee assignment or the combined declaration furnished by Satyam to the applicant based on which the patent had been applied for and obtained by the applicant. Having failed to get any assistance from Satyam in proving the documents as genuine, the applicant was forced to settle the proceedings for infringement commenced against Qualcomm and Verizon on unfavourable terms. This was done in April 2007.
7. On 4.4.2007, the applicant filed a complaint against Satyam in the District Court of Texas. One of the employees of Satyam was also impleaded. The complaint underwent two amendments and the third and final amended complaint was filed in October 2008. In its complaint, the applicant contended that on account of forgery, fraud, misrepresentation and breach of contractual covenants by Satyam and its employees, the value of its entire patent portfolio had been impaired and it was forced to settle the action against Qualcomm and Verizon for infringement of patent, on most unfavorable terms. It accused Satyam of breach of contractual covenants and forgery. It sought the relief of a declaration as to the validity and enforceability of its patent under the laws of the United States, damages resulting from fraud/negligent, misrepresentation and/or forgery by Satyam in providing documents containing forged signatures and in breach of contractual covenants, exemplary and punitive damages for fraud and forgery and for interest and costs. In defence, Satyam disowned any responsibility for the alleged forgeries and defended the action.
8. Satyam, challenging the jurisdiction of the District Court, Texas to entertain the complaint, approached the Queen’s Bench Division of the Commercial Court, London contending that in terms of the settlement dated 31.12.2002, the applicant was barred from pursuing its complaint in Texas since the agreement made in the complaint stood extinguished by the settlement and that in any event, the complaint fell within the exclusive jurisdiction of the English Courts. The trial judge by judgement dated 1 .1 .2008 dismissed the action, finding that the subject matter of the complaint was not extinguished by the settlement and that the Texas Court had jurisdiction to deal with the complaint. The appeal filed by Satyam was dismissed by the Court of Appeal. A Petition for Leave to Appeal to the House of Lords filed by Satyam was also rejected. Thus, the applicant was enabled to pursue its complaint in the District Court, Texas.
9. To reconcile the differences arising out of the complaint, an attempt at Mediation was made. The attempt succeeded and the parties entered into a Settlement Agreement on 18.7.2009 signed in Dallas, Texas, USA. It provided for the parties to sever all ties with each other forever and for settlement of all claims and disputes between the parties. In satisfaction of all the claims of the applicant, Satyam agreed to pay to the applicant an amount of $ 70 million in two instalments. The first instalment of $ 45 million was to be paid within 10 business days of Satyam getting the approval of its Board of Directors and of the Boards of other companies as may be necessary, of getting Governmental or Regulatory approvals as may be necessary under India law, after putting forward its best efforts for getting them. All payments were to be made “by wire transfer to a bank of Upaid‟s Choosing”. Then followed a provision for Escrow of Funds. The same is quoted below.
“3. Escrow of Funds.
a. Within 10 business days of obtaining board approvals referred in paragraph 9(a), Satyam will deposit the equivalent in Indian Rupees of the First Payment and the Final Payment in an interest bearing escrow account or accounts in India at a reputed international bank or Indian nationalized bank as reasonably and mutually agreed for the purpose of securing the payment obligations in paragraph 2.
b. In the event the First Payment is made on or before 180 days from the date of this Settlement Agreement, then Satyam shall be entitled to the principal in the amount of the First Payment and all accrued interest thereto.
c. In the even the First Payment is made more than 180 days after the date of this Settlement Agreement, then Satyam shall be entitled to the principal in the amount of the First Payment and Upaid shall receive all accrued interest with respect to the First Payment.
d. After the First Payment is received, Satyam shall have the right to replace the escrowed funds securing the Final Payment with either a bank guarantee or letter of credit in the same amount pending receipt of the Final Payment at which time security shall no longer be necessary.
e. After the Final Payment is received, Satyam shall be entitled to the principal in the amount of the Final Payment and all accrued interest thereto.”
10. The settlement agreement reiterated that they intended it to be a full and final settlement of all disputes between the parties and that the parties intended it to sever all ties between them and to end their relationship forever. It then proceeded to provide:
“Subject to the fulfilment of paragraph 9 of the Settlement Agreement, all prior agreements or understandings between the parties or any of their respective present or past officers, directors or employees, regarding any matters whatsoever are extinguished, including the Assignment dated September 11, 1998, the Services Agreement effective as of September 15, 1998, the Share Issuance Agreement dated September 1, 1999, the previous Settlement Agreement between the parties effective as of December 31, 2002, any assignments between or among Satyam, Upaid and/ or individual present or former employees of Satyam and any amendments to such agreements. Notwithstanding this provision, Upaid shall retain whatever intellectual property rights have already been transferred to it under any assignment or agreement strictly on an “as is”or quitclaim basis without Satyam or its present or former employees making any representation or warranty about such transfer or having any further obligation to perfect such transfer. Upon dismissal with prejudice of this action, Satyam waives its rights to preclude former employees from having contact with Upaid under any nondisclosure agreements signed during the pendency of this action to the extent necessary for Upaid’s patents.”
It was also provided:
“8. Upaid will grant a perpetual worldwide, royalty free license on all of its patents, pending patents and any future patents to Satyam and its affiliates, including Tech M and M&M. Such royalty free license shall not be assignable. In addition, Upaid covenants not to sue British Telecommunications (“BT”) and AT&T for patent infringement or any other claim related to its patents.”
11. Thus, the payment made was for extinguishment of all rights and obligations between the parties, for severing their business relationship arising out of prior agreements, towards compensation for deficiency in its patent found to exist by the applicant, for grant of perpetual world wide royalty free licence by the applicant on all its patents, pending and future to Satyam, subject to Satyam not having a right to assign the licence. An undertaking of forbearance to sue two of the affiliates of Satyam by Upaid was also incorporated.
12. Satyam did not pay the amount by wire transfer to a Bank of Upaid‟s choosing, but it deposited the amount into an escrow account. Satyam seems to have insisted that it was entitled to deduct the taxes from the amounts to be paid and that the responsibility for tax was that of the applicant. The applicant adopted the stand that the compensation agreed to be paid was liable to be paid without deduction of tax and the liability for tax, if any, should be borne by Satyam. To establish its stand, Satyam moved the Supreme Court of the State of New York seeking a declaration that it was entitled to deduct the taxes from the amount to be paid. The applicant resisted that claim. It was in this context that the applicant approached this Authority for an Advance Ruling by invoking Section 245Q of the Income-tax Act. This Authority allowed the application for giving a Ruling on the following questions:
(i) Is the amount receivable by the applicant from M/s. Satyam Computer Services Ltd. (“Satyam”), in accordance with Paragraph 2 of the settlement agreement entered between the applicant and Satyam on July 18, 2009 at Dallas, USA, a capital receipt in the hands of the applicant?
(ii) If the answer to question (i) is in the affirmative, can the said amount be treated as income under any of the specified heads provided in the Income-tax Act, 1961 (“Act‟)?
(iii) If the answer to questions (i) and (ii) are in the affirmative, can the said amount be considered to accrue or arise or deemed to accrue or arise in India or upon its receipt, can it be considered to have been received or deemed to have been received in India?
(iv) If the answers to all the above questions are in the affirmative, what would be the basis and method of determination of taxable income and applicable tax rate thereon?
(v) If the answer to question (i) is in the negative, i.e. the said amount is found to be in the nature of revenue receipt, can the said amount be considered to accrue or arise or deemed to accrue or arise in India or upon its receipt, can it be considered to have been received or deemed to have been received in India?
(vi) If the answer to question (v) is in the affirmative, is the said amount taxable under the Act?
(vii) If the answer to question (vi) is in the affirmative, what would be the basis and method of determination of taxable income, applicable tax rate and applicable rate of deduction of tax at source thereon?
(viii) If the said amount is held to be taxable under the Act, and if the court of competent jurisdiction in New York, USA holds that Satyam is contractually bound to bear the tax payable on the said amount, would Section 195A of the Act be applicable for the purpose of determination of income on which tax deduction at source will be effected?
(ix) Even if said amount is held to be taxable under the Act, and regardless of the outcome of the adjudication given by the court of competent jurisdiction in New York, is Satyam legally bound to satisfy the judgment-debt arising from the afore-mentioned settlement agreement by paying the entire amount specified in Paragraph 2 of the aforesaid settlement agreement without any deduction of tax to the applicant?
(x) Is the interest receivable by the applicant in terms of Paragraph 3.c of the afore-mentioned settlement agreement taxable income under the Act and would such income be subject to tax deduction at source under the Act?
13. Before proceeding to consider the various questions posed, it seems proper to set down some of the findings by the Courts which may have a bearing on the questions falling for our Ruling. The Court of Appeal has noticed that the trial “judge found that the Assignment Agreement undoubtedly assigned the inventions and intellectual property rights which were the subject of the provisional patent application filed on that date and contained co-operation obligations upon Satyam which were intended to enable Upaid to protect those conventions and rights”. It further noticed the finding that:
“the Assignment Agreement was not the ‘subject matter’ of the Settlement Agreement, but was expressly preserved in full by its terms.”
The Court of Appeal then recorded its finding:
“My conclusion on this short point is that the object of clause 3.1 was to ensure that Upaid retained all relevant intellectual property, and clause 3.1 .(b) is not limited to confirmation of past assignments in the sense of transfers of property. The relevant term is ‘will survive and shall be governed’ and I am satisfied that that means that the assignments will continue to apply in accordance with their terms.”
14.On how the right was dealt with under the Settlement Agreement, the Court of Appeal held:
“The construction point is a short one, and I agree with the Judge. I accept Mr. Foxton’s submission that it is plain (and common ground) that in commercial terms intellectual property was very important to the parties and was treated separately in the Settlement Agreement. Since the Assignment Agreement was concerned exclusively with intellectual property it made commercial sense not to include it within the releases.”
15. Thus, it is clear from this interparties judgment, which has become final, that the parties dealt with separately the intellectual property rights which was important to both and which had been taken assignment of earlier by the applicant.
16. Clause 5 of the Settlement Agreement dated 18.7.2009 recognised the right of the applicant to retain all intellectual property rights in the software created and under clause 8 the applicant granted to Satyam a license on all its patents, pending and future to use the patents. No doubt, it was described to be royalty free license.
17. The question that arises is what is the nature of the payment made or to be made by Satyam to the applicant under this Settlement. It is clear that various claims were involved in the complaint leading to the settlement. The breach of obligations on the part of Satyam, complaint of fraudulent conduct, compensation for a dent in their patent right by having to concede the right to Qualcomm and Verizon and the costs involved in the litigation with them and the grant of a license to Satyam to use its patents perpetually, all formed components of the compensation agreed upon.
18. During the hearing under section 245R(4) of the Act, it was first submitted on behalf of the applicant that the Supreme Court of the State of New York has upheld the claim of Satyam by holding that it was entitled to withhold the taxes from out of the amount to be paid to the applicant under the Settlement Agreement. This was subsequently re-affirmed by communication dated 11.8.2011 with a prayer to withdraw question no. (viii) from the questions admitted for a ruling. The court has decreed, “Adjudged and declared that the Settlement Agreement requires that Upaid Systems Ltd., must cooperate with IDBI Bank to allow IDBI Bank to withhold taxes from the $ 70 million Settlement Account in the Settlement Agreement in anticipation of there being a tax obligation on U paid’s part to the Indian Government authorities.” We think that the proper course to adopt is to clarify that the parties will be bound by the adjudication of Court inter-parties now rendered, subject to any modification thereof in appeal or further appeal therefrom.
19. Learned counsel for the applicant submitted that the compensation to be paid by Satyam to the applicant is in the nature of a capital receipt and not revenue receipt. We find that the Revenue has not joined issue with the applicant on this aspect. It has also taken up the position that it is a capital receipt, but has contended that it has to be taxed under the head Capital Gains and that the gain has accrued in India.
