Payments made by telecasting companies to satellite companies for telecommunication or broadcasting constitutes royalty

Background :-Conflicting decisions of the Income-tax Appellate Tribunal (the Tribunal) concerning similar payments in the case of Asia Satellite Telecommunications Co. Ltd. v. DCIT [2003] 85 ITD 478 (Delhi ITAT) and DCIT v. Pan AmSat International Systems Inc. [2006] 9 SOT 100 (Delhi ITAT) led to the constitution of the Special Bench of the Delhi Tribunal. It was held that payments made by telecasting companies to satellite companies for telecommunication or broadcasting constitutes royalty under provisions of the Income-tax Act, 1961 (‘the Act’) as well as various tax treaties.

Issues before the Special Bench

• Whether the services rendered by the taxpayers through their satellites for telecommunication or broadcasting amount to ‘process’?
• Whether the term ‘secret’ appearing in the phrase ‘secret formula or process’ in Explanation 2 to Section 9(1)(vi) and in the relevant article of the tax treaties qualify the word ‘process’ also?
• If the term ‘secret’ qualifies the word ‘process’ also, whether the services rendered through secret process only will be covered within the meaning of royalty?
• Whether the payment received by the taxpayers amounts to ‘royalty’ and if so, whether the same is liable to tax under Section 9(1)(vi) of the Act read with relevant provisions of tax treaty as applicable?

Taxpayer’s Contentions :- Detailed submissions were filed by all 3 taxpayers, summary of which are provided below:

New Skies Satellites

• None of the business operations of the taxpayer is carried out in India and therefore such receipts/ income cannot be taxed in India.
• The role of the taxpayer is limited to receiving the signals and relaying the same. The prime interest of the customers is merely to transmit such signals and not to have knowledge of the technology used or processes involved.
• The customers do not have control or custody of the satellites. There is no use or right to use granted to the customers in the satellites/ transponders or in the processes in the satellites. The taxpayer merely provides services and does not impart any ‘process’ involved in the working of the satellites. These satellites and infrastructure and their control and monitoring are owned and maintained by the taxpayer through its employees who are based outside India.
• There must be made to the grantor/licensor as consideration for parting with its exclusive right and for allowing others to make us of that right to constitute a payment for ‘royalty’. There has been no partying of any right, let alone the exclusive right, by the taxpayer in favour of its customers.
• Such consideration received by the taxpayer is not for a ‘secret  process’. The process used is not at all secret as data on working of satellites is publicly available in the books, websites etc. Thus based on the ruling of the Tribunal in the case of PanAmsat, a process, not being secret, cannot constitute ‘royalty’
• The use of ‘comma’ in the tax treaty after the word ‘process’ which is missing under the Act, signifies that it is qualified by the word ‘secret’. It may be noted that the PanAmsat decision was rendered in the context of the India-USA tax treaty which also contains comparable provisions on the definition of ‘royalty’
• Given that the word “process” is surrounded by words such as patent, invention, model, design, trade mark, etc. which denote IPRs, the word ‘process’ would take its color from the meaning of the words associated with it (by application of the principles of ejusdem generis and noscitur a sociis). Accordingly, ‘process’ must be intricately linked to Intellectual Property Rights (IPRs). Therefore, receipts do not constitute consideration for ‘use or right to use the process’.
• Consideration received by the taxpayer is for the provision of services, and therefore, the same are not covered within the ambit of ‘royalty’. Further, in the absence of a Permanent Establishment in India, the consideration received cannot be taxed in India;
• Tax treaties intending to tax payments for transmission by satellites have made specific inclusions to this effect, such as in case of Indo- Hungary tax treaty as well as between Australia and Czech Republic and tax treaty between Australia and New Zealand.
• The receipts are also not in the nature of equipment royalty.

Additional Contentions by Shin Satellite:- Since the telecasting facilities/ services are provided by the taxpayer outside India (as signals are received and released outside India), it should not entail any tax in India. This was in consonance with the principles laid down by Supreme Court in the case of Ishikawajma-Harima Heavy Industries Ltd. v. DIT [2007] 288 ITR 408 (SC), which held taxability of services arises only when the same have been utilised as well as rendered in India.

Tax Department’s contentions :- The Tax Department disputed the contentions of the taxpayers and

argued that payment of transmission through satellites is in the nature of ‘royalty’ and not provision of ‘services’. The matter that required adjudication of the Special Bench was that whether the word ‘secret’qualifies the word ‘process’ also.

In this regard, the Tax Department provided detailed counter arguments which were accepted by the Special Bench. These have been discussed below.

Special Bench’s Ruling

Responses to specific queries:

• Services rendered by the taxpayers through their satellites for telecommunication or broadcasting amounts to “process.”
• The terms ‘secret’ appearing in the phrase ‘secret formula or process’ in Explanation 2 to Section 9(1)(vi) of the Act and in the relevant Article of the tax treaty will not qualify the word ‘process’. Therefore, it is not necessary that the services rendered must be through ‘secret process’ only. Services rendered even through ‘simple process’ will constitute royalty.

Additional findings:

• ‘Use’ or ‘right to use’ the process vests with the telecasting companies

+The process embedded in the transponder is ‘used’ by the telecasting companies and not by the satellite companies as they do not have any control either on the data to be up linked/down linked or at the time of up linking/ down linking. The role of the satellite companies is restricted to maintain the health of the transponders and satellite to ensure uninterrupted use of transponders by the telecasting companies;

+ In a similar case of PanAmsat in China, the Chinese Court has acknowledged that there is right to use with the telecasting company for the bandwidth provided by the satellite company and it was used by the telecasting company for signal transmission; and

+The argument is further strengthened in view of the Satcom Policy, which clearly states that the Satcom Policy shall be provided for users to avail transponder capacity from both domestic/ foreign satellites.

• Absence of punctuation mark ‘comma’ after the words secret formula or process in the Act and existence of such ‘comma’ in the provisions of the tax treaty is irrelevant for interpretation of the tax treaty

+ Based on judicial precedents, the Tribunal has held that punctuation is not a controlling element and cannot be allowed to control the plain meaning of a text. The only exception is a case where the statute in question is carefully punctuated. In that case, punctuation may be resorted to for purpose of construction.

+ Principles of literal interpretation do not apply to interpretation of tax treaties. To find the meaning of words employed in the tax treaties we have to primarily look at the ordinary meanings given to those words in that context and in the light of its objects and purpose.

+ Accordingly, the word ‘secret’ does not qualify the word ‘process’ under the definition of royalty under the relevant tax treaties.

?+Secret process’ does not mean that the process is unknown or mysterious since it is not possible in the commercial world to keep processes stricto sensu secret. Secret process should mean that access to the process is checked/ restricted or made secure.

Accordingly, even if the argument that only ‘secret’ process qualifies as royalty is accepted, it will not exonerate the taxpayer from its liability to pay tax as ‘secret process’ since it is matter of record that telecasting process is a secure process.

• Application of principles of interpretation known as “ejusdem generis” and “noscitur a sociis”

+These rules of construction prevail only in cases where intention of the legislature is not clear. Accordingly, these rules have no application when the meaning is not in doubt.

+On the basis of the above, the argument of the taxpayers that ‘process’ must be intricately linked to IPRs was refuted.

• Applicability of Clause (vi) of Explanation 2 to Section 9(1)(vi) of the Act

+As per Clause (vi), the definition of royalty includes payments for ‘rendering of any services’ in connection with the use of any patent, invention, model, design, secret formula or process or trade mark or similar property.

+ Therefore, even if it is accepted that the taxpayers were merely providing ‘services’, the same would also fall within the ambit of royalty under the Act by virtue of the aforesaid Clause.

• Applicability of Ishikawajima-Harima Heavy Industries Ltd. To Section 9(1)(vi) :-It has been clarified by the Explanation to Section 9 inserted by Finance Act, 2007 that where the income is deemed to accrue or arise in India inter alia under Clause (vi) of sub-section (1), then, such income shall be included in the total income of nonresident irrespective of the fact that the non-resident has a residence or place of business or business connection in India. Thus, existence of satellite in the territory of India is not a condition precedent for taxability of royalty received by the taxpayer.

Our Comments :- The Special Bench has overruled the ratio laid down by PanAmsat, and has held that the word ‘secret’ does not qualify the word ‘process’ in the definition of royalty under relevant tax treaties. Accordingly, the payments made to satellite companies for transmission have been held taxable as “royalties” under the provisions of the Act as well as under the tax treaties.

Since the special bench has given a very wide meaning to the word ‘process’ it may have far reaching implications. The Tax Department may rely on this decision and contend that various technical processes which were hitherto not covered within the ambit of ‘royalties’ may now get covered for example-

• Cases similar to Wipro Ltd. v. ITO [2004] 80 TTJ 191 (Bangalore) where provision of bandwidth for up linking / down linking held as not taxable either as royalty or Fess for Technical Services (FTS) may now be tried under “royalty” under the pretext that such provision results in a “process” or services relating to such “process”
• Cases similar to the principle decided in Sky cell Communications Ltd. v. DCIT [2001] 251 ITR 53 (Mad) wherein it was held that the subscription to a cellular telephone service for using the telephone facility does not amount to technical services may also get covered in the wider approach of royalty definition.
• Perhaps this decision would write a separate page in tax on taxation of various services rendered from outside India through e-commerce like web hosting.

The special bench has further observed that the location of satellite is irrelevant to decide the tax ability in India. However, this argument could still be debatable because the special bench has not relied on any commentaries or precedents to arrive at this conclusion. It could be relevant to refer to the definition of ‘India’ under section 2(25A) of the Act which was amended by the Finance Act 2007, with retrospective effect from 25 August 1976, to include the ‘airspace above the Indian tertiary’.

We would also like to bring to your attention the definition of ‘royalty’ in the proposed draft Direct Taxes Code Bill, 2009 which has been extended to specifically include the consideration for use/right to use of transmission by satellite, cable, optic fibre, ship or aircraft and live coverage of any event.

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IN THE INCOME TAX APPELLATE TRIBUNAL

SPECIAL BENCH NEW DELHI

ITA Nos. 5385 to 5387/Del/04

Asst. Years: 2000-01 to 2002-03

 M/s New Skies Satellite NV Vs. Asst. D.I.T., Cir.2(1),

AND

ITA No.2598 to 2601/Del/04,
ITA No. 4394 to 4397/Del/04
Asst. Year: 1998-99 to 2001-02

M/s Shin Satellite Public Co. Ltd., Vs. Asst. D.I.T., Cir.2(1),

Coram: Vimal Gandhi President, R.C.Sharma Accountant Member, JP Bansal Judicial Member

Date of Order: 03.03.2009

O   R   D   E   R

On the request of the Revenue, regular bench has referred the following question for consideration of the Special Bench:

i) Whether on the facts and in the circumstances of the case, the services rendered by the assessees involved in these appeals, through their satellites for telecommunication or broadcasting, amount to ‘secret process’ or only ‘process ‘?

ii) Whether the term ‘secret’ appearing in the phrase ‘secret formula or process’ in Explanation 2 to section 9(l)(vi) and in the relevant article of the Treaties, will qualify the word ‘process’ also? If so, whether the services rendered through secret process only will be covered within the meaning of royalty?

iii) Whether, on the facts and in the circumstances of the case, the payment received by the assesses from their customers on account of use of their satellites for telecommunication and broadcasting, amounts to ‘royalty’ and if so, whether the same is liable to tax under section 9(J)(vi) of the Income-tax Act, 1961 read with relevant provisions of DTAA? “

M/s Asia Satellite Telecommunication (ITA 1484 to 1491/08) has applied to join as Intervener (represented by Shri S. Ganesh, Sr. Adv.); claimed that the decision of the Special Bench would affect its case and therefore it be permitted to make its representation.

2. It is to be mentioned that one of the grounds for making request of constitution of Special Bench was the seeming difference which the Revenue, at the relevant time saw between two decisions of the Tribunal namely Asia Satellite Telecommunications Co. Ltd. and M/s PAN Am Sat International Systems etc. The matter was referred to the Special Bench by the regular bench after considering in detail arguments of both the sides. The Bench also observed that issues are of great public importance and involved in large number of appeals. The revenue has objected to the joining of the Intervener by arguing that there was no conflict between the two decisions.

3. At the outset and before the case could be started, learned special counsel for the Department Shri Y.K. Kapoor submitted that there was no conflict between the two decisions. The later case of M/s Pan Am Sat International Systems had wrongly interpreted DT AA between India and America and, therefore, the limited question relating to interpretation of treaty was involved before the Special Bench. The controversy is now being sought to be enlarged by the Intervener by raising other questions on the interpretation of section 9(1)(vi) of the I.T. Act. The above question stood settled by decision of Tribunal in the case of Asia Satellite and several other cases. The Interveners are trying to reopen concluded matters as far as Tribunal is concerned. Shri Kapoor, therefore, argued that Intervener should not be permitted to join. He further argued that question should be suitably amended so that the controversy before the Spl. Bench remain confined only to the interpretation of Treaties. Shri Kapoor also filed written submissions in support of oral arguments advanced by him. He also relied upon large number of decisions, which as per his own admission, an related to joining of parties under order 1 Rule 10 of CPC. The learned counsel for the Interveners opposed above submissions and with reference to revenue’s admissions stated that it was revenue’s own case that there was conflict between the two decisions of the Tribunal and that it was necessary for the Spl. Bench to consider questions raised before the Tribunal in the light of statutory provisions as well as provisions of the Treaty.

4. We have given careful thought to the rival submissions of the parties. We do not find any force in the objections raised on behalf of Shri Kapoor. It is clear from the application filed by the Revenue requesting for constitution of Special Bench as well as from the lengthy arguments advanced by them before the regular bench that the conflict between the two decisions of the Tribunal was specifically pleaded by the Revenue. The Revenue also wanted Spl. Bench to consider provisions of section 9(1)(vi) and provisions of Treaty as for as they are applicable to facts and circumstances involved in the case.

5. Further the regular bench while making reference had also observed that the question involved in the present case is of great public importance affecting large number of cases. It will not be fair and just for the Spl. Bench to shut the door to the Intervener who are merely seeking interpretation of the provisions of the relevant Act and of the Treaties in respect of same process / use of the transponder. In this connection, we may quote from the application, filed by the revenue, as under:

“Government of India
Income Tax Department
Office of the Director of Income-tax
International Taxation
New Delhi-110002.

Dated: 17.10.2006

To The Hon ‘ble President Income-tax Appellate Tribunal New Delhi.

Ref Prayer for constitution of Special Bench in the cases of M/s New Skies Satellite NV (ITA No. 5385, 5386, 53871Del104) for Assessment years 2000-01 to 2002-03 and M/s Shin Satellite Public Co. Ltd. (ITA No. 4394, 4395, 4396, 43971De1104) for Assessment years: 1997-98 to 2001-02.

As it May Please Your Honour:

Recently. the decision of Hon ‘ble ITAT in the case of M/s Pan Am Sat International Systems Inc (ITA No. 1796/Del/2001) has been pronounced which in our opinion is contrary to the decisions of Hon’ble ITAT in the cases of M/s Asia Satellite Telecommunications Ltd. (85 ITD 478) and M/s Satellite Television Asian Region Ltd. (ITA No. 5066/Mum/2004). The decision in the case of Pan Am Sat International Systems Inc was pronounced after about 14 months from the date of last hearing because of which certain vital arguments of the revenue inadvertently escaped attention of the Hon’ble Bench. The same is evident from the fact that out of more than 50 judicial pronouncements cited by the revenue in its support, only 6 have attained the attention of the Hon ‘ble Bench. For these reasons, the revenue is preparing to file a petition u/s 254(2) in the case of Pan Am Sat International Systems Inc. Be that as it may, the revenue prays, in the wake of necessity arisen out of the above conflicting orders, that the Special Bench may be constituted in the captioned cases as due to varying views of coordinated authorities, the issue cannot be said to be crystallized The Special Bench, if constituted may have the effect of crystallizing the issue once and for all.

The Special Bench so constituted may decide the following questions:

1. Whether or not a punctuation mark ‘comma’ may be allowed to govern the interpretation of statute in the light of various judicial pronouncements of different courts holding a negative view on the Issue.

2. Whether or not for the purpose of defining royalty u/s 9(1)(vi) of the Income Tax Act, 1961 or the DTAAs with Netherlands and Thailand the process must be secret, if yes whether the process ‘kept secret’ is a ‘secret process’ or not.

3. Whether or not the payment in respect of transmission of signals qualifies for fee for technical services.

4. Whether the payment for the use of transponder is the payment for the use· of equipment and the same in turn qualifies as royalty in respect of use of equipment or not.

It is further prayed that Hon ‘ble Members who have expressed their views in one way or the other in the case of M/s Asia Satellite Telecommunications Co. Ltd. or in the case of M/s Pan Am Sat International Systems Inc. may not be included in the constitution of Special Bench as they have already expressed their views on the issues.

Reliance in this regard is also placed on the decision of Hon’ble President dated 25.09.2006for constitution of Special Bench in Mumbai in the case of M/s Satellite Television Asian Region Ltd for another assessment year on the same Issue.

For this act of kindness, we shall be highly obliged.

(emphasis ours)

Sd/
Director of Income-tax
International Taxation
New Delhi.”

6. Further in their written request dated 01.11.2006, the Revenue sought that following question be referred to the Special Bench:

“Whether on the facts and circumstances of the above mentioned cases, the income from Bandwidth / transmission charges for up-linking / down-linking signals / data transmission through the use of transponders in the satellite is taxable in the hands of above mentioned foreign companies in accordance with provisions of the Income-tax Act read with relevant provisions of Tax treaties with respective countries? “

7. It is evident from above that it was ‘revenue’s stand that there is conflict between the two decisions of the Tribunal and that matter has to be examined with reference to provisions of the Statute as well as the provisions of the DTAA. Instead of one, the reference bench framed three questions to cover comprehensively the issue involved in the present group of appeals.

8. In the light of above discussion, the objection of the Revenue is rejected, and Intervener is permitted to join.