i) In the absence of transfer of certain rights constituting ‘copyright right’, payment received by taxpayer was not ‘royalty’ under India-Israel DTAA.
(ii) ‘Process’ in the definition of ‘royalty’ should be understood as know-how and not product. Hence, treating payment for software as payment for ‘process’ is divorced from the ground realities of business.
Facts:
The taxpayer was a company incorporated in, and tax resident of, Israel. The taxpayer did not have any office or PE in India and it qualified to access India-Israel DTAA.
The taxpayer entered into an agreement with an Indian company (IndiaCo) for grant of a perpetual, irrevocable, non-exclusive, royalty-free, worldwide licence, to install, use, operate or copy the software and the documentation licensed under the agreement solely for implementation, operation, management and maintenance of IndiaCo’s wireless network in India.
In terms of the agreement, the taxpayer had received certain payment form IndiaCo. The taxpayer had furnished return of its income disclosing ‘nil’ income. The AO found that the taxpayer had raised invoice on IndiaCo.
The taxpayer contended that the amount received from IndiaCo was business profits and in absence of PE in India, it could not be taxed in India. The AO, however, held that the amount was ‘royalty’ and was liable to tax in India.
In appeal, the CIT(A) held that the payment was for ‘purchase of copyrighted material’ and not payment for ‘use of, or right to use, copyright’. Therefore, it was not ‘royalty’ under Article 12(3) of India-Israel DTAA.
Before the Tribunal, the taxpayer submitted that while the decision in Gracemac Corporation v. ADIT, (2010) 42 SOT 550 (Delhi) was a later decision, it was contrary to law laid down by the Special Bench decision in the case of Motorola Inc. v. DCIT, (2005) 95 ITD 269 (Delhi) (SB). Further, till a Larger Bench decision directly on the issue is not overruled, it has to be followed. On the other hand, the tax authority submitted that the later decision should be followed.
Held:
The Tribunal held as follows.
(i) In the context of India-Sweden DTAA, in Motorola case, the Special Bench considered the issue whether payment for software could be treated as payment for ‘use of, or the right to use, any copyright of literary artistic or scientific work’ and held that the software supplied was a copyrighted article and not for providing use of a copyright and hence, it could not be considered as ‘royalty’ either under the Income-tax Act or under India-Sweden DTAA.
(ii) The language in India-Israel DTAA is the same as that in India-Sweden DTAA. In Motorola case, the Special Bench has identified four rights which would constitute ‘copyright right’. Since this is not so in case of the licence transferred by the taxpayer, the payment received by the taxpayer is not for use of copyright in the software. Hence, it was not ‘royalty’ under India-Israel DTAA.
(iii) When someone pays for the software, the payment is for product which gives certain results and not for the process of execution of embedded instructions. In fact, the software buyer cannot tinker with the process. Hence, to treat the payment for software as a payment for process would be a hyper-technical approach totally divorced from the ground realities of business. The ‘process’ in the definition of ‘royalty’ in the Article 12(3) of India-Israel DTAA should be understood in the nature of know-how and not a product.
