2016 (5) TMI 156 - AT - Income Tax

Income from sale of shrink wrap software - taxability in India - nature of royalty under the provisions of Section 9(1)(vi) as well as article 12(3) of the Double Taxation Avoidance Agreement between India and USA - Held that - Following the view expressed by the Hon ble Delhi High Court in the case of DIT Vs. Ericsson AB, New Delhi (2011 (12) TMI 91 - Delhi High Court ), which is favourable to the Assessee, we hold that the consideration received by the Assessee for software was not royalty. The receipts would constitute business receipts in the hands of the Assessee. Admittedly the Assessee who is a non resident does not have a permanent establishment and therefore business income of the Assessee cannot be taxed in India in the absence of a permanent establishment. - Decided in favour of assessee

Issues Involved:
1. Taxability of income from the sale of shrink-wrap software as royalty under Section 9(1)(vi) of the Income Tax Act, 1961, and Article 12(3) of the India-USA DTAA.
2. Classification of payments received on the sale of shrink-wrap software as for the sale of a copyrighted article versus the transfer of copyright.
3. Consideration of payments for shrink-wrap software as for the use of a secret process under Article 12(3) of the India-USA DTAA.
4. Adherence to binding decisions of the Mumbai Tribunal in the assessee’s own case for previous assessment years.

Detailed Analysis:

1. Taxability of Income from Sale of Shrink-Wrap Software:
The primary issue revolved around whether the income from the sale of shrink-wrap software should be classified as royalty under Section 9(1)(vi) of the Income Tax Act, 1961, and Article 12(3) of the India-USA DTAA. The learned AO had held that such income was taxable in India as royalty. However, the Tribunal noted that in the assessee's own case for earlier assessment years (2003-04, 2005-06, and 2006-07), it had been consistently held that the sums received for the supply of software were not in the nature of royalty but rather business income. Since the assessee did not have a Permanent Establishment (PE) in India, the receipts were not taxable in India.

2. Classification of Payments for Sale of Shrink-Wrap Software:
The Tribunal examined whether the payments received on the sale of shrink-wrap software were for the sale of a copyrighted article or the transfer of copyright. It was established that the software sold by the assessee was provided to end-users under a license agreement, which did not transfer any copyright to the end-users. The end-users had only the right to use the software without any rights to modify, reverse engineer, or decompile it. The Tribunal referred to the Supreme Court's decision in Tata Consultancy Services Pvt. Ltd. vs. State of Andhra Pradesh, where it was held that software, once put on a media and marketed, becomes goods susceptible to sales tax, and does not involve the transfer of intellectual property rights.

3. Payments for Use of Secret Process:
The AO and the DRP had also held that the payment received for shrink-wrap software was for the use of a secret process under Article 12(3) of the India-USA DTAA. The Tribunal, however, found that the end-users did not have access to the source code or any secret process. The software was provided for personal or business use without any rights to exploit the software commercially. Hence, the payments could not be classified as for the use of a secret process.

4. Adherence to Binding Decisions:
The Tribunal noted that the AO and the DRP had not followed the binding decisions of the Mumbai Tribunal in the assessee's own case for the assessment years 2003-04, 2005-06, and 2006-07. Despite the issue being covered in favor of the assessee by several orders of the coordinate benches, the AO upheld the taxability because the matter was pending before the Hon’ble jurisdictional High Court. The Tribunal reiterated that in the absence of any new material facts or legal changes, the earlier decisions should be followed.

Conclusion:
The Tribunal upheld the grievance of the assessee, holding that the receipts from the sale of shrink-wrap software were not taxable as royalty in India. The payments were classified as business income, and since the assessee did not have a PE in India, the income was not taxable in India. The Tribunal directed the AO to delete the impugned addition of ?19,20,14,000. The appeal was allowed, and the judgment was pronounced on 31st March 2016.

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