2016 (6) TMI 1159 - AT - Income Tax

TDS u/s 194J - non deduction of tds on cost of purchase of software - disallowance u/s 40(a)(ia) - Held that - From the facts of the case is it is apparent that the assessee is only buying the software and selling the same in the open market, thus he is acting only in the capacity as distributor/agent or as trader. The end user of the software obtains the code from the software developer for using the software embedded in the CD. Thus, there is a continuous relationship between the software developer and the end user. Thus the provisions of the Act relating to tax deducted at source will not apply and hence, provisions of section 40(a)(ia) of the Act cannot be invoked. See The Principal Commissioner of Income Tax-6 Versus M. Tech India P. Ltd. 2016 (1) TMI 812 - DELHI HIGH COURT - Decided in favour of assessee

Summary

Issues Involved:
1. Disallowance under Section 40(a)(ia) of the Income Tax Act for non-deduction of TDS on software purchase under Section 194J.
2. Definition and applicability of 'royalty' under Section 9(1)(vi) of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Disallowance under Section 40(a)(ia) for Non-deduction of TDS on Software Purchase under Section 194J:
The core issue in this appeal is the disallowance of ?4,52,93,242/- under Section 40(a)(ia) of the Income Tax Act due to the assessee's failure to deduct TDS on payments made for the purchase of software, which the Assessing Officer (AO) treated as 'royalty' under Section 194J. The AO noted that the assessee purchased software from various companies and failed to deduct TDS on these payments. The AO invoked Section 40(a)(ia) and disallowed the expenditure, citing Explanation 4 and 5 of Section 9(1)(vi), which clarify that payments for software are considered 'royalty'. The AO argued that the payment for software, even without rights to use or modify, constitutes 'royalty' and thus attracts TDS under Section 194J.

2. Definition and Applicability of 'Royalty' under Section 9(1)(vi):
The Commissioner of Income Tax (Appeals) [CIT(A)] upheld the AO's decision, emphasizing that the definition of 'royalty' under Explanation 2 of Section 9(1)(vi) includes the transfer of all or any rights in respect of software. The CIT(A) rejected the contention that the software purchased was not used by the assessee, stating that the transfer of rights itself suffices for it to be considered 'royalty'. The CIT(A) also referred to Explanation 4 and 5, which were inserted by the Finance Act, 2012 with retrospective effect from 01.06.1976, to clarify that payments for software are included under 'royalty'. The CIT(A) relied on the Karnataka High Court's decision in CIT vs. Samsung Electronics Co. Ltd., which held that payments for software are 'royalty' and taxable in India.

Appellant's Argument:
The appellant argued that the software purchased was customized for the end-user and that the assessee acted merely as a dealer, without any rights to modify the software. They relied on the Delhi High Court's decision in Principal CIT vs. M.Tech India P. Ltd., which held that payments for software purchased for resale do not constitute 'royalty' and thus do not attract TDS under Section 194J. The appellant contended that the software was a product sold to customers, who then obtained installation codes from the software developers, indicating no direct use or modification rights by the assessee.

Tribunal's Decision:
The Tribunal, after hearing both parties, concluded that the assessee acted as a distributor or trader of the software, without acquiring any rights to use or modify it. The Tribunal relied on the Delhi High Court's decision in Principal CIT vs. M.Tech India P. Ltd., which distinguished between payments for acquiring the right to use software and payments for purchasing software as a product. The Tribunal held that in cases where software is purchased for resale, the consideration paid is not for 'royalty' but for the product itself. Consequently, the provisions of Section 194J and Section 40(a)(ia) do not apply.

The Tribunal directed the AO to delete the disallowance of ?4,52,93,242/-, allowing the appeal in favor of the assessee.

Conclusion:
The appeal was allowed, with the Tribunal holding that payments for the purchase of software for resale do not constitute 'royalty' under Section 9(1)(vi) and thus do not attract TDS under Section 194J. The disallowance under Section 40(a)(ia) was deleted.