Section 9(1)(vi) – Payment for shrink wrap software license reimbursed under a cost sharing arrangement is “royalty” under the Income Tax Act (Act); on facts, India-Denmark Double Taxation Avoidance Agreement (DTAA) is not applicable as the Denmark Company was not beneficial owner but merely an agent of the software license provider.
Facts:
Taxpayer, an Indian company, was engaged in the business of consulting engineers and architects. A group concern of the Taxpayer based in Denmark (DCo) executed cost sharing agreements (CSA) with all its group concerns, including the Taxpayer, for sharing the cost of various software licenses such as the standardised Microsoft office software application. This was procured from M/s Microsoft Corporation USA (Microsoft) by way of a global indent.
In terms of the cost sharing formula in CSA, DCo raised an invoice on the Taxpayer for the proportionate cost of the software. During the relevant tax year, the Taxpayer made payment to DCo against the said invoice, without deducting tax at source u/s. 195 of the Act on the premise that the said payment represented merely reimbursement/ recharge of cost without any income component. Further, since payment was towards standardised copyrighted article, there was royalty element involved.
The Tax Authority was of the view that the impugned payment was for acquisition of a software license and hence, was in the nature of royalty taxable u/s. 9(1)(vi) of the Act. Rejecting the contention that there was no income element in the reimbursements the Tax Authority opined that DCo was acting as a distributor/agent of Microsoft and hence tax was required to be withheld on such taxable payment.
On appeal by the Taxpayer, the First Appellate Authority held that the payment under consideration was for a readymade off-the-shelf software for in-house use without authority to commercially exploit the same and hence, the payment was not in the nature of royalty. Rather, being a copyrighted programme, it was in the nature of sale of ‘goods’.
Aggrieved, the Tax Authority preferred an appeal before the Tribunal.
Held:
Under the Act
Granting of a license is included as a right in the definition of royalty under Explanation 2(i) and 2(v) to section 9(1)(vi) of the Act. This would also include license to use ‘shrink wrap software’, irrespective of the medium or mode of acquiring the licenced right. Hence, the fact that the licensed software was ‘shrink wrap software’ would not impact royalty taxation.
The ratio laid down by the Karnataka High Court in case of Samsung Electronics Co. Ltd.1 and Synopsis International Old Ltd.2 squarely applied to the case under consideration.
The decisions relied on by the Taxpayer stand distinguished since they were in the context of transaction undertaken on ‘principal to principal’ basis. In the present fact pattern, DCo acted as an agent of Microsoft US.
Delhi HC ruling in case of Ericsson AB and the Mumbai Tribunal ruling in case of ACIT vs. Sonata Information Tech. Ltd. did not pertain solely to ‘license’ transactions and hence are not applicable in the present issue. Further, the Supreme Court (SC) ruling in case of Tata Consultancy Services was not in the context of the Act and hence cannot be applied.
Invoice raised specifically quoted only licence and right of usage embedded therein. Therefore, the payment under consideration for acquiring a shrink wrap software licence from Microsoft answers the definition of royalty u/s. 9(1)(vi) of the Act, and is therefore liable to withholding tax in India.
CSA is immaterial in determining the character of transaction. Cost sharing formula or any other method is only an internal arrangement. Such arrangement does not impact the characterisation of an underlying transaction which is to be determined based on facts of the case and statutory provisions.
The exclusionary provision u/s. 9(1)(vi)(b) of the Act, dealing with payment for business or source of income outside India, is not applicable since the royalty payment made to DCo is for the purpose of business of the Taxpayer in India.
Under India-Denmark DTAA
DCo was only placing indent for all its group concerns for appropriate internal arrangement and convenience. Hence, DCo merely acted as an agent of Microsoft which is the beneficial owner of the payment under consideration. Since the beneficial owner is not a resident of Denmark, the benefit of treaty is not available under para 5 of Article 13.
