2015 (2) TMI 458 - HC - Income Tax

Royalty u/s 9(1)(vi) - India-Federal Republic of Germany DTAA - acquisition of a partial right in the intangible property or know-how without the transferor fully alienating as the ownership rights - Technology Transfer and Technical Assistance Agreement - Held that - We do not think the present case is one of absolute or full transfer of ownership in technology made available under Article 3 of the agreement. The proprietorship or ownership rights continued to vest with ADC, but right to use with trade name, technology etc. was granted by ADC to HCL. There was no transfer of the ownership in the intellectual property rights. In fact, the agreement stipulated that the HCL could protect the patents and intellectual property rights of ADC. The manufacturing and other activities undertaken by HCL was subject to quality control and inspection by ADC. Clause 4.1 clearly stipulated that technical and other information was to remain ADC s proprietary. Information/knowhow was to remain confidential during the term of the agreement and even after expiry or termination thereof, until the same entered public domain or was otherwise generally known. HCL could not have breached the said confidentiality clause. A material breach by HCL would have resulted in an earlier termination of the agreement and reversion of all rights granted to HCL. It entailed ceasure of right to manufacture, use or sell the licensed products. Tangible technical information was to be returned. The agreement permitted HCL to disclose the said confidential intellectual property rights to the sub-contractors or sub-licensees only to the extent required for proper and authorised use of technology.Clause 2.3 was similarly worded and stated that HCL might sub-licence or sub-contract in whole or in part production of the licensed products and might disclose the technology provided that such disclosure would not confer upon the sub-contractor or the sub-licencee any rights other than those accorded to HCL. As noticed above, lump-sum payments are covered under the term royalty . The agreement postulated grant of permission to use or right to use intellectual property rights or knowhow and it is not a case of outright sale. Mode and manner is not determinative, but nature and character of the right acquired is definitive and decisive criteria, thus to hold that HCL Ltd. was only permitted and allowed use and right to use. Tribunal was right in holding that the lump sum payment of ₹ 1,11,38,650/- to the assessee, by M/s Apollo Domain Computers West Germany, under agreement, dated 11th May, 1987, was liable to tax under the Act - Decided in favour of revenue.

Summary

Issues Involved:
1. Whether the lump sum payments made by HCL Infosystems Limited to Apollo Domain Computers, GmbH Germany under the agreement dated 11th May 1987 were liable to tax under the Income Tax Act, 1961.
2. Whether these payments constituted "royalty" under Article VIIIA of the Double Taxation Avoidance Agreement (DTAA) between India and the Federal Republic of Germany.

Detailed Analysis:

1. Taxability of Lump Sum Payments:
The primary issue was whether the lump sum payments of Rs. 1,11,38,650 and Rs. 50,51,050 made by HCL to ADC under the agreement dated 11th May 1987 were liable to tax under the Income Tax Act, 1961. The court noted that HCL Infosystems Limited, formerly known as HCL Limited, was a representative assessee of Apollo Domain Computers, GmbH Germany. The court examined the relevant clauses of the agreement to determine the nature of the payments and whether they fell within the definition of "royalty" under the DTAA.

2. Definition and Scope of 'Royalty' under Article VIIIA of DTAA:
The court analyzed Article VIIIA of the DTAA, which defines "royalties" as payments for the use of, or the right to use, any copyright, patent, trademark, design, model, secret formula, process, or for information concerning industrial, commercial, or scientific experience. The court emphasized that the term "royalty" includes payments for the right to use industrial, commercial, or scientific equipment, expanding the scope of what constitutes royalty.

The court referred to the OECD commentary and other international tax law principles to distinguish between payments for the use of intellectual property and payments for the transfer of ownership. Payments for the use or right to use intellectual property are considered royalties, whereas payments for the transfer of full ownership are not.

Examination of the Agreement:
The court examined the "Technology Transfer and Technical Assistance Agreement" between HCL and ADC. Key clauses were analyzed to determine whether the agreement constituted a full transfer of ownership or merely a right to use the intellectual property:

- Clause 2.1: Granted HCL a non-exclusive right to manufacture, maintain, use, and sell the licensed products in India using ADC's technology, indicating a right to use rather than a transfer of ownership.
- Clause 2.3: Allowed HCL to sublicense or subcontract the production of licensed products, but the disclosure of technology to sub-licensees was restricted and subject to confidentiality provisions.
- Clause 4: Emphasized confidentiality, stating that the technology and information conveyed by ADC to HCL would remain confidential and proprietary even after the agreement's termination.
- Clause 5: Addressed industrial property rights, stipulating that HCL would not question ADC's rights and would assist in defending against infringement claims.
- Clause 14: Provided for the agreement's duration and termination, with confidentiality obligations continuing even after termination.

Conclusion:
The court concluded that the agreement did not constitute a full transfer of ownership of the technology. Instead, it granted HCL a right to use ADC's intellectual property, subject to various restrictions and confidentiality obligations. Therefore, the lump sum payments made by HCL to ADC were considered royalties under Article VIIIA of the DTAA and were liable to tax in India.

Judgment:
The court answered the substantial questions of law against the appellant (HCL Infosystems Limited) and in favor of the respondent (Revenue). The appeal was disposed of with no order as to costs.