Payment for purchase of software is considered as royalty if it’s a right to use of software and not as a product

CA Suraj R. Agrawal

Case Summary:-

Facts of the case:

1. The Assessee entered into an agreement with M/s Track Health Pty. Limited, Australia (hereafter ‘THPL’) captioned “VAR Agreement”.

2. The Assessee had also entered into an agreement with M/s Speed Miners, Malaysia which is stated to be similar to the ‘VAR Agreement’ entered into by the Assessee with THPL.

3. In terms of the agreements, the Assessee had paid a sum of Rs. 66,87,509 and Rs. 9,35,987/- to THPL and M/s Speed Miner respectively.

4. According to the AO, the said payments of Rs. 66,87,509/- and Rs.9,35,987/- were in the nature of ‘royalty’ and since the Assessee had not withheld any tax, the AO disallowed the same Under Section 40(a) (i) of the Act.

5. The Assessee had also entered into a similar agreement with M/s Intersystems India Pvt. Ltd., Gurgaon in terms of which the Assessee had paid a sum of Rs. 13,78,496/- without deducting any tax at source. This expenditure was disallowed by the AO under Section 40(a) (ia) of the Act.

6. Assessee submitted that it was a Value Added Reseller (VAR) of software related to healthcare and hospitality.

7. The said software was purchased from THPL under the ‘VAR Agreement’ and the same was resold to various end-users in India.

8. The Assessee claimed that similar purchases made in the preceding years had been considered as purchases and allowed as a deduction in computing its taxable income.

9. The Assessee contended that being a reseller of products, the payments made by the Assessee for acquiring the products could not be considered as royalty.

10. The CIT (A) took note of the Assessee’s submission that while the AO had treated similar payments to M/s Data Innovation Asia Limited as made for the purchase of software, it had treated the payments made to THPL and M/s Speed Miners as royalty and, thus, the decision of the AO was self contradictory.

11. The CIT (A) accordingly accepted the Assessee’s contention that the payments made by it for the purchase of software from THPL and M/s Speed Miners were not royalty.

12. With regard to the disallowance of Rs. 13,78,496/- made under Section 40(a)(ia), the CIT(A) found that the transactions were identical to the ones entered into by the Assessee with THPL and M/s Speed Miners and, therefore, the payments made to Intersystems India Pvt. Ltd., Gurgaon were also held to be on account of purchases.

13. Consequently, the CIT(A) directed the deletion of the additions made by the AO in the sum of Rs. 76,23,496 under Section 40 (a) (i) and Rs. 13,78,496/- under Section 40(a)(ia).

14. The Tribunal concurred with the decision of the CIT (A) that the payments in question made to THPL and M/s Speed Miners, Malaysia were for purchasing software and the payments made could not be considered as royalty.

Issue put before ITAT/Court:

Whether in facts and circumstances of the case, the ITAT, was justified in law in deleting disallowance of Rs.72,23,496/- Rs.13,78,496/- made by the Assessing Officer under section 40(a)(i) and 40(a)(ia) of the Act. Respectively

Contentions of Appellant:

1. He supported the decision of the CIT (A) and the Tribunal.

2. He also referred to the decisions of Court in Dynamic Vertical Software India P. Ltd. (supra) wherein the payments made by a reseller for purchase of software for sale in the Indian market was held not to be royalty.

3. He also referred to paragraph 3 of Article 12 of the Double Taxation Avoidance Treaty between India and Australia and contended that the payments made to THPL did not fall within the definition of royalty under the said Treaty.

Contention by Revenue:

1. He submitted a copy of the “VAR Agreement” and submitted that the payments made under the said Agreement were not for the purchase of software but was in the nature of royalty.

2. He drew the attention of the Court to clause 4.2 (d) of the Terms and Conditions of the said Agreement which entitled the Assessee “to customize the Software for the purposes of End Users”.

3. He contended that the Agreement entitled the Assessee to use the software and, therefore, the payments were royalty within the meaning of Explanation 2 to Section 9(1) (vi) of the Act.

4. He argued that by virtue of Section 14(b) (i) of the CR Act, all of the acts specified in Section 14(a) would also be applicable in the case of a computer programme.

Ruling of Honorable ITAT/Court:

1. The Assessee had entered into a “VAR Agreement” with THPL. Paragraph 1.1 of the said agreement expressly indicates that THPL had appointed the Assessee (described as VAR) to “market and sell the products” in the Territory.

2. A plain reading of the aforesaid agreement indicates that the Assessee has been appointed for the purposes of reselling THPL’s software.

3. In the cases where an Assessee acquires the right to use software, the payment so made would amount to royalty.

4. However in cases where the payments are made for purchase of software as a product, the consideration paid cannot be considered to be for use or the right to use the software. It is well settled that where software is sold as a product it would amount to sale of goods.

5. It is necessary to make a distinction between the cases where consideration is paid to acquire the right to use a patent or a copyright and cases where payment is made to acquire patented or a copyrighted product/material.

6. In cases where payments are made to acquire products which are patented or copyrighted, the consideration paid would have to be treated as a payment for purchase of the product rather than consideration for use of the patent or copyright.

7. The question framed answered in the affirmative, that is, in favour of the Assessee and against the Revenue.