The Tax Publishers2021 TaxPub(DT) 1208 (SC)

IN THE SUPREME COURT OF INDIA

R.F. NARIMAN, HEMANT GUPTA & B.R. GAVAI, JJ.

Engineering Analysis Centre of Excellence (P.) Ltd. v. CIT

Civil Appeal Nos. 8733-8734 of 2018 & Ors.

2 March 2021

JUDGMENT

R.F. Nariman, J.

Leave granted.

2. The appeals in these cases are by both the assessees as well as the Department of Revenue, Ministry of Finance (“Revenue”). Whereas the assessees have succeeded in the question that was posed before the High Court of Delhi,[1] the Revenue has succeeded insofar as the same question was posed before the High Court of Karnataka,[2] and in the ruling by the Authority for Advance Rulings (“AAR”), impugned in C.A. No. 8990/2018.

3. One group of appeals arises from a common judgment of the High Court of Karnataka dated 15-10-2011 reported as CIT v. Samsung Electronics Co. Ltd., (2012) 345 ITR 494, by which the question which was posed before the High Court, was answered stating that the amounts paid by the concerned persons resident in India to non­resident, foreign software suppliers, amounted to royalty and as this was so, the same constituted taxable income deemed to accrue in India under section 9(1)(vi) of the Income Tax Act, 1961 (“Income Tax Act”), thereby making it incumbent upon all such persons to deduct tax at source and pay such tax deductible at source (“TDS”) under section 195 of the Income Tax Act. This judgment dated 15-10-2011 has been relied upon by the subsequent impugned judgments passed by the High Court of Karnataka to decide the same question in favour of the Revenue.

4. The appeals before us may be grouped into four categories :

(i) The first category deals with cases in which computer software is purchased directly by an end-user, resident in India, from a foreign, non-resident supplier or manufacturer.[3]

(ii) The second category of cases deals with resident Indian companies that act as distributors or resellers, by purchasing computer software from foreign, non-resident suppliers or manufacturers and then reselling the same to resident Indian end-users.[4]

(iii) The third category concerns cases wherein the distributor happens to be a foreign, non-resident vendor, who, after purchasing software from a foreign, non-resident seller, resells the same to resident Indian distributors or end-users.[5]

(iv) The fourth category includes cases wherein computer software is affixed onto hardware and is sold as an integrated unit/equipment by foreign, non-resident suppliers to resident Indian distributors or end-users.[6]

5. These cases have a chequered history. The facts of C.A. Nos. 8733-8734/2018 shall be taken as a sample, indicative of the points of law that arise from the various appeals before us. In this case, the appellant, Engineering Analysis Centre of Excellence Pvt. Ltd. (“EAC”), is a resident Indian end-user of shrink-wrapped computer software, directly imported from the United States of America (“USA”). The assessment years that we are concerned with are 2001-2002 and 2002-2003.

6. The assessing officer by an order dated 15-5-2002, after applying Article 12(3) of the Double Taxation Avoidance Agreement (“DTAA”), between India and USA, and upon applying section 9(1)(vi) of the Income Tax Act, found that what was in fact transferred in the transaction between the parties was copyright which attracted the payment of royalty and thus, it was required that tax be deducted at source by the Indian importer and end-user, EAC. Since this was not done for both the assessment years, EAC was held liable to pay the amount of Rs. 1,03,54,784 that it had not deducted as TDS, along with interest under section 201(1A) of the Income Tax Act amounting to Rs. 15,76,567. The appeal before the Commissioner (“CIT”) was dismissed by an order dated 23-1-2004. However, the appeal before the Income Tax Appellate Tribunal (“ITAT”) succeeded vide an order dated 25-11-2005, in which the ITAT followed its previous order dated 18-2-2005, passed in Samsung Electronics Co. Ltd. v. ITO, ITA Nos. 264-266/Bang/2002 : 2005 TaxPub(DT) 1407 (Bang-Trib).

7. An appeal was made from the order of the ITAT to the High Court of Karnataka by the Revenue. The Division Bench of the High Court of Karnataka heard a batch of appeals and framed nine questions, of which question Nos. 8 and 9 are important and are set out as follows:

“8. Whether the Tribunal was correct in holding that since the assessee had purchased only a right to use the copyright i.e. the software and not the entire copyright itself, the payment cannot be treated as Royalty as per the Double Taxation Avoidance Agreement and Treaties, which (are) beneficial to the assessee and consequently section 9 of the Act should not take into consideration.

9. Whether the Tribunal was correct in holding that the payment partakes the character of purchase and sale of goods and therefore cannot be treated as royalty payment liable to Income Tax.”

8. In answering these questions, through a judgment dated 24.09.2009, the Division Bench of the High Court of Karnataka relied heavily upon the judgment of this Court in Transmission Corpn. of A.P. Ltd. v. CIT, (1999) 7 SCC 266 (“AP Transco”) and held that since no application under section 195(2) of the Income Tax Act had been made, the resident Indian importers became liable to deduct tax at source, without more, under section 195(1) of the Income Tax Act.

9. This view of the High Court was set aside by this Court in GE India Technology Centre (P) Ltd. v. CIT, (2010) 10 SCC 29 (“GE Technology”), which ultimately found that the judgment of the High Court dated 24-9-2009 had misread AP Transco (supra).

Consequently, this Court remanded the matter to the High Court of Karnataka to decide, on merits, the question of law framed as follows:

“24. In our view, section 195(2) is based on the “principle of proportionality”. The said sub-section gets attracted only in cases where the payment made is a composite payment in which a certain proportion of payment has an element of “income” chargeable to tax in India. It is in this context that the Supreme Court stated: (Transmission Corpn. case ((1999) 7 SCC 266 : (1999) 239 ITR 587 (SC) :1999 TaxPub(DT) 1403 (SC)) , SCC p. 274, para 10)

“10. … If no such application is filed income tax on such sum is to be deducted and it is the statutory obligation of the person responsible for paying such 'sum' to deduct tax thereon before making payment. He has to discharge the obligation (to TDS).”

(emphasis supplied)

If one reads the observation of the Supreme Court, the words “such sum” clearly indicate that the observation refers to a case of composite payment where the payer has a doubt regarding the inclusion of an amount in such payment which is exigible to tax in India. In our view, the above observations of this Court in Transmission Corpn. case ((1999) 7 SCC 266 : (1999) 239 ITR 587 : 1999 TaxPub(DT) 1403 (SC)) which is put in italics has been completely, with respect, misunderstood by the Karnataka High Court to mean that it is not open for the payer to contend that if the amount paid by him to the non-resident is not at all “chargeable to tax in India”, then no TAS is required to be deducted from such payment. This interpretation of the High Court completely loses sight of the plain words of section 195(1) which in clear terms lays down that tax at source is deductible only from “sums chargeable” under the provisions of the Income Tax Act i.e. chargeable under sections 4, 5 and 9 of the Income Tax Act.

25. Before concluding we may clarify that in the present case on facts ITO (TDS) had taken the view that since the sale of the software concerned, included a licence to use the same, the payment made by the appellant(s) to foreign suppliers constituted “royalty” which was deemed to accrue or arise in India and, therefore, TAS was liable to be deducted under section 195(1) of the Act. The said finding of ITO (TDS) was upheld by Commissioner (Appeals). However, in the second appeal, ITAT held that such sum paid by the appellant(s) to the foreign software suppliers was not a “royalty” and that the same did not give rise to any “income” taxable in India and, therefore, the appellant(s) was not liable to deduct TAS. However, the High Court did not go into the merits of the case and it went straight to conclude that the moment there is remittance an obligation to deduct TAS arises, which view stands hereby overruled.

26. Since the High Court did not go into the merits of the case on the question of payment of royalty, we hereby set aside the impugned judgment of the High Court and remit these cases to the High Court for de novo consideration of the cases on merits. The question which the High Court will answer is: whether on facts and circumstances of the case ITAT was justified in holding that the amount(s) paid by the appellant(s) to the foreign software suppliers was not “royalty” and that the same did not give rise to any “income” taxable in India and, therefore, the appellant(s) was not liable to deduct any tax at source?”

10. The impugned judgment of the High Court of Karnataka, dated 15-10-2011, reported as CIT v. Samsung Electronics Co. Ltd., (2012) 345 ITR 494, dealt with a whole group of appeals, and was thus faced with the following question so posed by this Court:

“The question which the High Court will answer is—

“whether, on facts and circumstances of the case, the Income-tax Appellate Tribunal was justified in holding that the amount(s) paid by the appellant(s) to the foreign software suppliers was not “royalty” and that the same did not give rise to any “income” taxable in India and, therefore, the appellant(s) was not liable to deduct any tax at source?”

11. After setting out the facts in one of the appeals treated as the lead matter, namely ITA No. 2808/2005 concerning Samsung Electronics Co. Ltd., and the relevant provisions of the Income Tax Act, India's DTAAs with USA, France and Sweden respectively, the High Court of Karnataka, on an examination of the End-User Licence Agreement (“EULA”) involved in the transaction, found that what was sold by way of computer software included a right or interest in copyright, which thus gave rise to the payment of royalty and would be an income deemed to accrue in India under section 9(1)(vi) of the Income Tax Act, requiring the deduction of tax at source.

12. Leading the charge on behalf of the appellants in the appeals against this impugned judgment of the High Court of Karnataka, Shri Arvind Datar, learned Senior Advocate, appearing on behalf of IBM India Ltd. (“IBM India”) in C.A. No. 4419/2012, which is a resident Indian distributor of computer software products purchased from IBM Singapore Pte Ltd. (“IBM Singapore”), submitted that his client is a non-exclusive distributor, which purchases off-the-shelf copies of shrink-wrapped computer software from a foreign company in Singapore for onward sale to Indian end-users under a Remarketer Agreement. He stressed that IBM India, the distributor, is not party to the EULA between IBM Singapore and the ultimate end-users/customers in India. The Indian end-user pays IBM India, and in turn, IBM India pays this amount to IBM Singapore after deducting a portion of profit. Importantly, under the Remarketer Agreement, IBM India does not own any right, title or interest in copyright and other intellectual property owned by IBM Singapore, and merely markets IBM Singapore's software products in India.

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