1984 (1) TMI 130 - AT - Income Tax

Summary

Issues Involved:
1. Taxability of payments for technical drawings and engineering data.
2. Interpretation of the term "royalty" under Explanation 2 to Section 9(1)(vi) of the Income Tax Act, 1961.
3. Applicability of Section 44D of the Income Tax Act, 1961.

Detailed Analysis:

1. Taxability of Payments for Technical Drawings and Engineering Data:
The primary issue concerns whether the payment made by the Indian company to the foreign company for technical drawings and engineering data should be taxed. The foreign company, Karamische Industries, entered into an agreement with the Indian company, Klayman Porcelains Ltd., for constructing a tunnel-kiln. The agreement included three components: supply of materials, supply of technical drawings and data, and deputation of an expert for supervision and commissioning.

The Income Tax Officer (ITO) argued that the payment for technical drawings and data constituted royalty under Explanation to Section 9(1)(vi) of the Income Tax Act, 1961, and thus was taxable. The ITO grossed up the amount and taxed it at 20%.

The appellate authority partially upheld the assessment but disagreed with the grossing up of income, stating there was no case for assuming the income was tax-free in the hands of the foreign company.

The Tribunal found that the contract, although indivisible, had three distinct components. The supply of materials and technical data, dispatched from abroad, did not generate taxable profit in India. The Tribunal concluded that the payment for technical drawings and data was described as the 'price' and should not be considered taxable in India.

2. Interpretation of the Term "Royalty":
The ITO contended that the payment for technical drawings and data fell within the definition of "royalty" under Explanation 2 to Section 9(1)(vi). According to the ITO, the designs and drawings contained information concerning technical and scientific knowledge, which should be construed as royalty.

The Tribunal, however, disagreed, stating that the agreement did not involve any transfer of rights to the Indian company. The Indian company was not interested in exploiting the technical data for constructing other kilns. The Tribunal emphasized that the payment was for a component of an indivisible contract for constructing a kiln, not for any right to use the designs and drawings.

The Tribunal also noted that the Government of India approved the agreement, describing the payment as the 'price' for importing designs and drawings, not as royalty. The Tribunal concluded that the payment did not fall under any clauses of Explanation 2 and did not constitute royalty.

3. Applicability of Section 44D:
Section 44D of the Income Tax Act, 1961, denies the recipient of royalty any deduction under the statute. The ITO attempted to tax the payment under this section, arguing that it was royalty.

The Tribunal found that the payment for technical drawings and data did not constitute royalty and thus could not be taxed under Section 44D. The Tribunal emphasized that the payment was for the cost of constructing the kiln, not for any rental or hire of patent rights or technical know-how.

The Tribunal concluded that the payment did not accrue or arise in India, as no part of the activities related to the supply of materials or engineering data was undertaken in India. The Tribunal allowed the appeal and annulled the assessment.

Conclusion:
The Tribunal allowed the appeal, concluding that the payment for technical drawings and engineering data did not constitute royalty under Explanation 2 to Section 9(1)(vi) and thus could not be taxed under Section 44D. The assessment was annulled.