Sale of software cannot be treated as royalty under India-Singapore DTAA

Microstrategy Singapore Pte. Ltd. Vs ACIT (ITAT Delhi)

Sale of software, a copyrighted article, cannot be treated as royalty under article 12(3) of India-Singapore DTAA

Facts- The assessee is a non-resident company incorporated in Singapore and is a tax resident of that country. The core activity of the assessee is distribution and maintenance of software to customers in the Asian market. Additionally, the assessee also offers consultancy, system integration and education services to its customers for sale of software products and provision of services. The assessee has entered into agreement with Indian distributors, partners (resellers) for sale of software products as well as related maintenance support services. The maintenance support services include upgradation of software version, addressing critical defect correction and resolving queries over telephone. During the year under consideration, the assessee has sold software products and rendered maintenance services to Indian customers against which it has received a consideration of Rs.2,59,12,204/-. An amount of Rs.26,09,576/- was withheld at source by the Indian customers towards tax. As could be seen, out of the aforesaid amount received, an amount of Rs. 9,17,792/- relating to training/education related services was offered to tax in India while filing the return of income for the impugned assessment year. Whereas, the balance amount of Rs.2,44,94,412/- was not offered to tax on the plea that it is neither royalty nor FTS. Hence, in absence of a PE, the amount, being in the nature of business income, is not taxable.

The AO, however, did not accept the claim of the assessee. Relying upon certain judicial precedents, including, the decision of Hon’ble Karnataka High court in case of CIT Vs. Samsung Electronic Pvt. Ltd. he held that the amount received by the assessee towards sale of software products and provision of software related maintenance services is in the nature of royalty, both under section 9(1)(vi) of the Act as well under Article 12(3) of the India – Singapore DTAA. Further, he held that the amount received by the assessee towards provision of software related maintenance services, as otherwise, is also in the nature of FTS both under Section 9(1)(vii) as well as Article 12(4)(b) of the India – Singapore Tax Treaty. Accordingly, he added back the amount of Rs.2,59,12,204/- to the income of the assessee while completing the assessment. The aforesaid decision of the Assessing Officer was also upheld by learned Commissioner (Appeals).

Conclusion- The assessee has sold is copyrighted article and not the copyright. It is also observed, while treating the payment received by the assessee as royalty, the departmental authorities have been greatly influenced by the decision of the Hon’ble Karnataka High Court in case of Samsung Electronics Pvt. Ltd. (supra). However, the issue is no more res integra in view of the decision of Hon’ble Supreme court in case of Engineering Analysis Centre of Excellence (P.) Ltd. (supra). Since, the factual matrix clearly reveals that the assessee has sold a copyrighted article and not the copyright, the ratio laid down by the Hon’ble Apex Court in the decision referred to above would squarely apply. Accordingly, we hold that the amount received by the assessee from sale of software and provision of software related services cannot be treated as royalty under Article 12(3) of the India – Singapore DTAA.

FULL TEXT OF THE ORDER OF ITAT DELHI

The captioned appeal by the assessee arises out of the order dated 31.01.2018 of learned Commissioner of Income Tax (Appeals)-43, New Delhi, pertaining to assessment year 2014-15.

2. The grounds raised by the assessee are as under:

Based on the facts and in the circumstances of the case and in law, the Appellant respectfully craves leave to prefer an appeal against the order passed by the learned Commissioner of Income-tax (Appeals) – 43 [‘Learned CIT(A)’], under Section 250 of the Income-tax Act, 1961 (‘Act’), on the following grounds:

On the facts and circumstances of the case and in law, the learned CIT(A) has:

General ground

1.erred in upholding the total income of the Appellant at Rs 2,59,12,200 as against the returned income of Rs 9,17,792.

Taxability of sale of software products

2.erred in upholding that the income earned by the Appellant from sale of software products of Rs 1,30,74,292 is taxable in India as ‘royalty’ under Section 9(1 )(vi) of the Act and under Article 12 of the India-Singapore Tax Treaty.

Taxability of provision of software related support services

3.erred in upholding that income earned by the Appellant from provision of software related support services of Rs 1,19,20,121 is taxable in India as ‘Fees for Technical Services’ under Section 9(l)(vii) of the Act and under Article 12 of India-Singapore Tax Treaty.

4.erred in upholding that income earned by the Appellant from provision of software related support services of Rs 1.19220.121 is taxable in India as ‘royalty’ under Section 9(l)(vi) of the Act and under Article 12 of India-Singapore Tax Treaty.

Levy of education cess

5.erred in levying education cess amounting to Rs 77,737 without appreciating the fact that the tax rate under Article 12 of the India-Singapore Tax Treaty is inclusive of education cess.

Other grounds

6. erred in charging interest under section 234B of the Act amounting to Rs.20,196.

7.erred in initiating penalty proceedings under section 271(1)(c) of the Act.

Each of the above grounds of appeal is without prejudice to the independent of one another.

3. Ground no. 1 being a general ground does not require specific adjudication.

4. The core issue arising in the appeal is raised in ground nos. 2, 3 and 4 and concerns taxability of amount received by the assessee from sale of software and provision of software related support services as royalty and Fees for Technical Services (FTS) both under the provisions of Income-tax Act, 1961 as well as under India – Singapore Double Taxation Avoidance Agreement (DTAA).

5. Briefly the facts relevant for the purpose of deciding the issue are, the assessee is a non-resident company incorporated in Singapore and is a tax resident of that country. The assesse is a wholly owned subsidiary of Microstrategy Inc., a US based company. The core activity of the assessee is distribution and maintenance of software to customers in the Asian market. Additionally, the assessee also offers consultancy, system integration and education services to its customers for sale of software products and provision of services. The assessee has entered into agreement with Indian distributors, partners (resellers) for sale of software products as well as related maintenance support services. The maintenance support services include upgradation of software version, addressing critical defect correction and resolving queries over telephone. During the year under consideration, the assessee has sold software products and rendered maintenance services to Indian customers against which it has received a consideration of Rs.2,59,12,204/-. An amount of Rs.26,09,576/- was withheld at source by the Indian customers towards tax. As could be seen, out of the aforesaid amount received, an amount of Rs. 9,17,792/- relating to training/education related services was offered to tax in India while filing the return of income for the impugned assessment year. Whereas, the balance amount of Rs.2,44,94,412/- was not offered to tax on the plea that it is neither royalty nor FTS. Hence, in absence of a PE, the amount, being in the nature of business income, is not taxable.

6. The Assessing Officer, however, did not accept the claim of the assessee. Relying upon certain judicial precedents, including, the decision of Hon’ble Karnataka High court in case of CIT Vs. Samsung Electronic Pvt. Ltd. he held that the amount received by the assessee towards sale of software products and provision of software related maintenance services is in the nature of royalty, both under section 9(1)(vi) of the Act as well under Article 12(3) of the India – Singapore DTAA. Further, he held that the amount received by the assessee towards provision of software related maintenance services, as otherwise, is also in the nature of FTS both under Section 9(1)(vii) as well as Article 12(4)(b) of the India – Singapore Tax Treaty. Accordingly, he added back the amount of Rs.2,59,12,204/- to the income of the assessee while completing the assessment.

7. The aforesaid decision of the Assessing Officer was also upheld by learned Commissioner (Appeals) while deciding assessee’s appeal.

8. Learned counsel for the assessee submitted, the amount received on sale of software and provision of software related maintenance services cannot be treated as royalty under Article 12(3) of the India – Singapore Tax Treaty, as, what the assessee has sold is a copyrighted article and not copyright.

9. Drawing our attention to the sample copy of reseller agreement with the Indian distributors placed in the paper-book as well as sample copy of invoices raised, he submitted, the assessee and its holding company exclusively own intellectual property rights in and on the software. He submitted, the assessee merely grants the Indian distributors/resellers the right to distribute a copyrighted article and not the copyright. Therefore, the Indian distributors/resellers do not use or have right to use the copyright in the software product. He submitted, there is nothing on record to suggest that the assessee has transferred its right over the copyright to the Indian distributors. He submitted, the definition of royalty under Article 12(3) is narrower than section 9(1)(vi) of the Act. He submitted, since reciprocal amendment in conformity with the provisions contained in the Act has not been made in Article 12(3), the definition of royalty as given in the domestic law cannot be imported to the Treaty provisions. He submitted, going by the definition of royalty under Article 12(3) of the Treaty, only in case of transfer of copyright the amount received can be treated as royalty. Whereas, if the amount received is in respect of sale of copyrighted article simplicitor, it cannot be regarded as royalty under Article 12(3).

10. He submitted, the ratio laid down in case of CIT Vs. Samsung Electronics Pvt. Ltd. (supra) relied upon by the departmental authorities is no longer good law in view of the decision of the Hon’ble Supreme Court in case of Engineering Analysis Centre of Excellence (P) Ltd. Vs. CIT, [2021] 125 taxmann.com 42 (SC). He submitted, the ratio laid down by the Hon’ble Supreme Court in the aforesaid decision would squarely apply to assessee’s case as the facts are, more or less, identical. To buttress his contention, learned counsel for the assessee furnished before us a chart showing the comparative analysis of the facts in assesee’s case and in case of Engineering Analysis Centre of Excellence (P.) Ltd.(supra). For better appreciation, the comparative analysis is reproduced hereunder:

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11. Thus, he submitted, the issue is squarely covered in favourte of the assessee by virtue of the aforesaid decision of the Hon’ble Supreme Court.

12. As regards treatment of software related maintenance services as FTS, learned counsel for the assessee submitted, while providing such services, the assessee has not made available any technical knowledge, skill, knowhow or experience which would enable the party to use it independently without requiring the aid and assistance of the assessee. He submitted, the provision of Article 12(4) of India – Singapore Treaty are identical to Article 12(4) of India – USA Treaty. He submitted, in the Memorandum of Understanding to the Indian – USA Tax Treaty, it has been explained that Article 12(4), includes only certain technical and consultancy services. He submitted, technical services, in this context, have been interpreted as service requiring expertise to a particular technology; consultancy services have been interpreted to mean advisory services. He submitted, while explaining Article 12(4)(b) in the Memorandum of Understanding to the Indian – USA Tax Treaty, it has been said that only those services, which make available experience, skills, know-how or processes or consist of the development or transfer of the technical plan or technical design qualify as included services or technical services. He submitted, Memorandum of Understanding explaining the provision of section 12(4) of India – USA Tax Treaty can also be used as a guide to interpret Article 12(4) of India – Singapore DTAA. Thus, he submitted, when the Revenue has failed to demonstrate that the ‘make available’ condition has been satisfied, the amount received cannot be treated as FTS in terms with Article 12(4)(b) of the Treaty. In support of his contention, he relied upon the following decisions:

• DIT vs Guy Carpenter (346 ITR 504) (Delhi HC)
• Interteck Services [307 ITR 418]. The decision has been followed in the case of M/s Invensys Systems Inc [AAR No 796 of 2009].
• Anapharma Inc [305 ITR 405]. The decision has been followed in the case of M/s BharatiAxa General Insurance Co Ltd [AAR No 845 of 2009
• CIT v. De Beers India Minerals (P.) Ltd. (346 ITR 467) (Karnataka HC)
• Raymond Ltd vs DCIT (Mumbai Tribunal) (86 ITD 791)
• Boston Consulting Group (Mumbai Tribunal) (280 ITR 1)
• DDIT v Preroy AG (Mumbai Tribunal) (309 SOT 187)
• Mark & Spencer Reliance India Pvt. Ltd. (38 taxmann 190) (Mumbai Tribunal)
• Anapharm Inc (305 ITR 394) (AAR)
• ITO vs Nokia India Pvt. Ltd.(Delhi Tribunal) (44 CCH 314)
• Intertek Testing Services India Pvt Ltd (307 ITR 418) (AAR)
• Hughes Systique India (P) Ltd. vs DCIT (50 Taxmann.com 25) (Delhi Tribunal)
• ACIT v Viceroy Hotels Ltd (60 DTR 1) (Hyderabad Tribunal)

13. Insofar as the taxability of the amount received by the assessee as royalty is concerned, learned Departmental Representative fairly submitted that the issue now stands covered in favour of the assessee in view of the ratio laid down by the Hon’ble Supreme Court in case of Engineering Analysis Centre of Excellence (P.) Ltd. (supra). However, insofar as the issue of taxability of the amount as FTS, learned Departmental Representative submitted, while providing such services the assessee has made available technical knowledge, skill, knowhow etc. to the distributors/resellers to enable them to use such technical knowledge, skills, know-how etc. Therefore, the consideration received for provision of such services has to be treated as FTS.

14. We have considered rival submissions and perused the materials on record. Undisputedly, during the year under consideration, the assessee had sold certain software products to customers in India and has also provided software related maintenance services. The first issue which arises for consideration is, whether the amount received by the assessee towards sale of software products and software related maintenance services can be treated as royalty under Article 12(3) of India – Singapore Tax Treaty. In case, it does not come within the ambit of royalty as defined under the Treaty, there is no need to go into the provisions of the Act. On a perusal of the assessment order it is noticed that the Assessing Officer has not factually examined the nature of transaction between the assessee and the Indian Customers. The Assessing Officer relying upon certain judicial precedents has straightway assumed that the assessee has sold a copyright. However, neither the sample agreement nor any other material available on record demonstrate that the assessee has transferred/sold the use or right to use a copyright and not copyrighted article.

15. On the contrary, the facts on record clearly demonstrate that what the assessee has sold is copyrighted article and not the copyright. It is also observed, while treating the payment received by the assessee as royalty, the departmental authorities have been greatly influenced by the decision of the Hon’ble Karnataka High Court in case of Samsung Electronics Pvt. Ltd. (supra). However, the issue is no more res integra in view of the decision of Hon’ble Supreme court in case of Engineering Analysis Centre of Excellence (P.) Ltd. (supra). Since, the factual matrix clearly reveals that the assessee has sold a copyrighted article and not the copyright, the ratio laid down by the Hon’ble Apex Court in the decision referred to above would squarely apply. Accordingly, we hold that the amount received by the assessee from sale of software and provision of software related services cannot be treated as royalty under Article 12(3) of the India – Singapore DTAA.

16. Insofar as the issue of treating the amount received towards provisions of software related services as FTS, we have noticed that the Assessing Officer has not brought any cogent material on record to demonstrate that while providing the software related maintenance service, the assessee has made available any technical knowledge, knowhow, skill etc. so as to enable the recipient of such service to use it independently in exclusion of the assessee. Therefore, in our considered opinion, the conditions of Article 12(4)(b) of the Treaty are not satisfied. That being the factual position emerged on record, the amount received cannot be treated as FTS. Therefore, the addition made is deleted.

17. Accordingly, ground nos. 2, 3 and 4 are allowed.

18. In ground no. 5, the assessee has challenged the levy of education cess on the ground that as per the definition of tax under Article 2, being in the nature of surcharge, would be included in the tax rates prescribed in the Treaty. For such, proposition, he relied on the following decisions:

• Soregam SA v DDIT (101 taxmann.com 94) (Delhi Tribunal) (referpage no. 370 to 382 of Legal Paperbook)
• DIC Asia Pacific Pte Ltd v Assistant Director of Income Tax (18 ITR(T) 358) (Kolkata Tribunal) (refer page no. 383 to 386 of Legal Paperbook)
• R.A.K. Ceramics, UAE v DCIT(IT) (176ITD 294)(Hyderabad Tribunal)
• Sunil V Motiani v Income Tax Officer (International Taxation) (59 SOT 37) (Mumbai Tribunal)

19. Learned Departmental Representative submitted, the issue may be resorted back to the Assessing Officer for re-examination.

20. Having considered rival submissions, we are of the view that the issue has become, more or less, academic, since, we have deleted the additions made by the Assessing Officer. However, the Assessing Officer is directed to compute the tax liability strictly in terms with the Treaty provisions, keeping in view the ratio laid down in the decisions, referred to above. Ground nos. 6 and 7, being inconsequential, do not require adjudication.

21. In the result, the appeal is allowed, as indicated above. Order pronounced in the open court on 29th April, 2022