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Cit v. Alcatel Lucent Canada
Factual and Procedural Background
This opinion addresses multiple connected appeals and applications related to the classification of income arising from the supply of software embedded in hardware equipment by a foreign company to Indian customers. The Revenue challenged the order of the Income Tax Appellate Tribunal (ITAT) dated 04.04.2014, which rejected the Revenue's claims that such income amounted to royalty under Section 9(1)(vi) of the Income Tax Act and Article 13(3) of various Double Taxation Avoidance Agreements (DTAA). The reassessment proceedings were initiated, but both the CIT(Appeals) and the ITAT held that the supply of embedded software did not constitute royalty. The Revenue aggrieved by this, appealed to this Court.
Legal Issues Presented
- Whether the income from the supply of software embedded in hardware equipment to customers in India amounts to "royalty" under Section 9(1)(vi) of the Income Tax Act.
- Whether such income falls within the scope of Article 13(3) of the Double Taxation Avoidance Agreements between India and countries like France, Canada, Germany, and China.
- Whether the supply of embedded software constitutes supply of goods or services for the purpose of taxation.
Arguments of the Parties
Revenue's Arguments
- The Revenue contended that the income earned from supplying software embedded in hardware to Indian customers amounted to royalty under Section 9(1)(vi) of the Income Tax Act.
- It further argued that the provisions of Article 13(3) of the DTAA were applicable, thus attracting tax liability in India.
- The Revenue asserted that the ITAT erred in law by not considering these aspects and wrongly rejecting its appeals.
Assessee's Position (as noted by AO, CIT(A), and ITAT)
- The assessee claimed that the income declared should be treated as a return filed in assessment proceedings and that the supply of embedded software was part of the hardware supply.
- The assessee argued that the software did not have an independent existence and was integral to the hardware equipment supplied.
- The CIT(Appeals) and ITAT held that the supply of embedded software did not constitute royalty and thus Section 9(1)(vi) and Article 13(3) of the DTAA were not attracted.
Table of Precedents Cited
| Precedent | Rule or Principle Cited For | Application by the Court |
|---|---|---|
| Director of Income Tax v. Ericsson A.B (2012) 343 ITR 470 | Determination that supply of software embedded in hardware does not constitute royalty under Income Tax Act or DTAA. | The Court relied on this ruling to uphold the ITAT's decision that payment for embedded software was not royalty, emphasizing the inseparability of software from hardware and lack of independent use. |
| TATA Consultancy Services v. State of Andhra Pradesh (2004) 271 ITR 401 (SC) | Definition of software incorporated on a media as "goods" under Article 366(12) of the Constitution and sales tax law. | The Court referred to this Supreme Court decision to support the view that software supplied on a tangible medium constitutes supply of goods, not royalty. |
| Director of Income Tax v. Nokia Networks (2013) 358 ITR 259 (Delhi) | Interpretation of royalty and income from software supply. | The Court noted reliance on this judgment by the ITAT in affirming that the supply of embedded software does not amount to royalty. |
| Advent Systems Ltd. v. Unisys Corpn, 925 F. 2d 670 (3rd Cir. 1991) | Recognition that computer programs, once embodied in a medium, are tangible goods. | The Court cited this U.S. precedent to illustrate that software on a medium is a tangible, moveable commodity, reinforcing the classification of software supply as sale of goods. |
Court's Reasoning and Analysis
The Court observed that the ITAT had correctly relied upon the ruling in Director of Income Tax v. Ericsson A.B, where it was held that software embedded in hardware does not constitute royalty since it lacks independent existence and use apart from the hardware. The Court noted factual findings that the assessee had no business connection in India, and the supply was essentially of goods (hardware with embedded software), not of intellectual property rights as royalty. The Court further referred to the Supreme Court's decision in TATA Consultancy Services v. State of Andhra Pradesh, which held that software incorporated on a tangible medium constitutes goods for taxation purposes. The Court also acknowledged reliance on the judgment in Director of Income Tax v. Nokia Networks supporting this view. The Court concluded that the Revenue could not assess the same transaction under two different heads and that the payment for embedded software was for tangible property, not royalty. Consequently, the Court found no substantial question of law arose from these facts.
Holding and Implications
The appeal is dismissed.
The direct effect of this decision is the confirmation that income from supply of software embedded in hardware to Indian customers does not constitute royalty under Section 9(1)(vi) of the Income Tax Act or Article 13(3) of the DTAA. The supply is treated as supply of goods, not services or royalty. No new legal precedent is set beyond affirming existing rulings, and the Revenue's appeals are rejected accordingly.
MR. JUSTICE S. RAVINDRA BHAT (OPEN COURT)
CM Nos. 3050/2015, 3052/2015, 3054/2015, 3056/2015, 3183/2015, 3185/2015, 3187/2015, 3189/2015, 3191/2015, 3193/2015, 3195/2015, 3197/2015, 3199/2015, 3201/2015, 3203/2015, 3205/2015, 3207/2015, 3209/2015, 3211/2015, 3213/2015, 3215/2015, 3217/2015, 3219/2015, 3221/2015, 3224/2015, 3226/2015, 3228/2015, 3230/2015, 3232/2015, 3234/2015, 3236/2015, 3481/2015, 3483/2015, 3485/2015, 3487/2015, 3489/2015 and 3536/2015
Exemption is allowed subject to all just exceptions.
The applications are disposed of.
CM Nos. 3049/2015, 3051/2015, 3053/2015, 3055/2015, 3182/2015, 3184/2015, 3186/2015, 3188/2015, 3190/2015, 3192/2015, 3194/2015, 3196/2015, 3198/2015, 3200/2015, 3202/2015, 3204/2015, 3206/2015, 3208/2015, 3210/2015, 3212/2015, 3214/2015, 3216/2015, 3218/2015, 3220/2015, 3223/2015, 3225/2015, 3227/2015, 3229/2015, 3231/2015, 3233/2015, 3235/2015, 3480/2015, 3482/2015, 3484/2015, 3486/2015, 3488/2015, 3490/2015 and 3535/2015
Delay is condoned. Applications are disposed of.
ITA Nos. 119/2015, 120/2015, 121/2015, 122/2015, 123/2015, 124/2015, 125/2015, 126/2015, 127/2015, 128/2015, 129/2015, 130/2015, 131/2015, 132/2015, 133/2015, 134/2015, 135/2015, 136/2015, 137/2015, 138/2015, 139/2015, 140/2015, 141/2015, 142/2015, 144/2015, 145/2015, 146/2015, 147/2015, 148/2015, 149/2015, 150/2015, 151/2015, 152/2015, 153/2015, 154/2015, 155/2015, 156/2015 and 157/2015
1. Issue notice
2. Notice is accepted by Mr. Prakash Kumar, Advocate.
3. The Revenue claims to be aggrieved by the order dated 04.04.2014 of the Income Tax Appellate Tribunal (hereinafter referred to as “the ITAT”) in several connected appeals preferred by it, all of which were rejected by the ITAT. It argues that the ITAT erred in law in not considering that the income from supply of software embedded in the hardware equipment or otherwise to customers in India amounts to royalty under Section 9(1)(vi) of the Income Tax Act and under Article 13(3) of the Double Taxation Avoidance Agreement (DTTA) between India and France, Canada, Germany, China etc.
4. Re-assessment proceedings were initiated for the year under consideration. The assessee claimed that the income declared originally in the assessment proceedings be treated as return filed in the assessment proceedings. In the re-assessment order, the AO observed that the assessee, a company incorporated in France and other concerned countries used to manufacture, trade and supply equipments and services for GSM Cellular Radio Telephones Systems. The assessee had supplied hardware and software to various entities in India. Software licenced by the assessee embodies the process which is required to control and manage the specific set of activities involved in the business use of its customers. Software also made available the process to its customers, who used it to carry out their business activities. In this view of the matter, the AO felt that the consideration of supply of software amounted to royalty under Section 9(1)(vi) of the Income Tax Act. The CIT(Appeals) - to whom the assessee appealed and later the ITAT to whom the Revenue appealed concurrently held that the supply of embedded software (which was part of the hardware supplied to the assessee's customers by it) under consideration did not constitute royalty and, therefore, Section 9(1)(vi) was not attracted and for the same reasons, Article 13(3) of the DTAA was not involved.
5. We have noticed, at the outset, that the ITAT had relied upon the ruling of this Court in Director of Income Tax v. Ericsson A.B (2012) 343 ITR 470 wherein identical argument with respect to whether consideration paid towards supply of software along with hardware - rather software embedded in the hardware amounted to royalty. After noticing several contentions of the revenue, this Court held in Ericsson A.B (supra) as follows:-
“54. It is difficult to accept the aforesaid submissions in the facts of the present case. We have already held above that the assessee did not have any business connection in India. We have also held that the supply of equipment in question was in the nature of supply of goods. Therefore, this issue is to be examined keeping in view these findings. Moreover, another finding of fact is recorded by the Tribunal that the Cellular Operator did not acquire any of the copyrights referred to in Section 14(b) of the Copyright Act, 1957.
55. Once we proceed on the basis of aforesaid factual findings, it is difficult to hold that payment made to the assessee was in the nature of royalty either under the Income-Tax Act or under the DTAA. We have to keep in mind what was sold by the assessee to the Indian customers was a GSM which consisted both of the hardware as well as the software, therefore, the Tribunal is right in holding that it was not permissible for the Revenue to assess the same under two different articles. The software that was loaded on the hardware did not have any independent existence. The software supply is an integral part of the GSM mobile telephone system and is used by the cellular operator for providing the cellular services to its customers. There could not be any independent use of such software. The software is embodied in the system and the revenue accepts that it could not be used independently. This software merely facilitates the functioning of the equipment and is an integral part thereof. On these facts, it would be useful to refer to the judgment of the Supreme Court in TATA Consultancy Services v. State of Andhra Pradesh (2004) 271 ITR 401 (SC), wherein the Apex Court held that software which is incorporated on a media would be goods and, therefore, liable to sales tax. Following discussion in this behalf is required to be noted:-
“In our view, the term “goods” as used in Article 366(12) of the Constitution of India and as defined under the said Act are very wide and include all types of movable properties, whether those properties be tangible or intangible. We are in complete agreement with the observations made by this Court in Associated Cement Companies Ltd. (supra). A software programme may consist of various commands which enable the computer to perform a designated task. The copyright in that programme may remain with the originator of the programme. But the moment copies are made and marketed, it becomes goods, which are susceptible to sales tax. Even intellectual property, once it is put on to a media, whether it be in the form of books or canvas (In case of painting) or computer discs or cassettes, and marketed would become “goods”. We see no difference between a sale of a software programme on a CD/floppy disc from a sale of music on a cassette/CD or a sale of a film on a video cassette/CD. In all such cases, the intellectual property has been incorporated on a media for purposes of transfer. Sale is not just of the media which by itself has very little value. The software and the media cannot be split up. What the buyer purchases and pays for is not the disc or the CD. As in the case of paintings or books or music or films the buyer is purchasing the intellectual property and not the media i.e the paper or cassette or disc or CD. Thus a transaction sale of computer software is clearly a sale of “goods” within the meaning of the term as defined in the said Act. The term “all materials, articles and commodities” includes both tangible and intangible/incorporeal property which is capable of abstraction, consumption and use and which can be transmitted, transferred, delivered, stored, possessed etc. The software programmes have all these attributes…
In Advent Systems Ltd. v. Unisys Corpn, (925 F. 2d 670 (3rd Cir. 1991)), relied on by Mr. Sorabjee, the court was concerned with interpretation of uniform civil code which “applied to transactions in goods”. The goods therein were defined as “all things (including specially manufactured goods) which are moveable at the time of the identification for sale”. It was held:
“Computer programs are the product of an intellectual process, but once implanted in a medium are widely distributed to computer owners. An analogy can be drawn to a compact disc recording of an orchestral rendition. The music is produced by the artistry of musicians and in itself is not a “good,” but when transferred to a laser-readable disc becomes a readily merchantable commodity. Similarly, when a professor delivers a lecture, it is not a good, but, when transcribed as a book, it becomes a good.
That a computer program may be copyrightable as intellectual property does not alter the fact that once in the form of a floppy disc or other medium, the program is tangible, moveable and available in the marketplace. The fact that some programs may be tailored for specific purposes need not alter their status as “goods” because the Code definition includes “specially manufactured goods.”
56. A fortiorari when the assessee supplies the software which is incorporated on a CD, it has supplied tangible property and the payment made by the cellular operator for acquiring such property cannot be regarded as a payment by way of royalty.”
6. This Court also noticed that the ITAT had in addition relied upon other judgment of this Court i.e Director of Income Tax v. Nokia Networks, (2013) 358 ITR 259 (Delhi).
7. In view of this settled position, this court is of the opinion that no substantial question of law arises. The appeal is accordingly dismissed.
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