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TMI Blog2017 (5) TMI 999X X X X Extracts X X X X X X X X Extracts X X X X ..... tted to sell articles or offer services the trade marks (or brand) which belongs to another, it is incorrect to state that the brand or mark, associated with the product, constitutes the sale rather than from sale of the underlying goods or services that are the subject of the trade mark (dishes in a restaurant) themselves. It would be incorrect, therefore, to conclude what is involved is not the sale of the product, but the intangible property or mark connected with the reputation of the mark, though that reputation guarantees a high demand for the product, from which the seller benefits. Likewise, in the case of distribution, a distribution agent is under an agreement with the manufacturer to sell its good; it also possesses the right to advertise the goods and brands of the manufacturer. This implies a license of the manufacturer’s trade mark. In such an event, the distributor need not pay for the right to use the intellectual property under which the goods are sold; he merely pays for obtaining the commercial right to sell the goods he buys from the manufacturer for enabling onward sale. For a transaction to constitute a transfer of the right to use goods, there should manda ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... gh: Sh. Deepak Anand, Jr. Standing Counsel, for Sh. Pramod Kumar Rai, Sr. Standing Counsel, for Service Tax Department. Respondents Through: Sh. Anuj Aggarwal, ASC, GNCTD along with Ms. Deboshree Mukherjee, Advocate, for Respondent No.1. Sh. Amit Bansal, Sr. Standing Counsel, for Respondent No.2. Petitioner Through: Sh. Gagan Kumar, Advocate. Respondents Through: Sh. Harpreet Singh, Sr. Standing Counsel. Sh. Vikram Jetly, CGSC, for UOI. MR. S. RAVINDRA BHAT 1. The appeal (STA 27/2013) and writ petitions, (W.P.(C)3404/2015, W.P.(C)3408/2013, W.P.(C) 4453/2013 and W.P.(C)10726/2006) all are concerned with the same question of law. Resultantly, they were heard alongwith STA 26/2013.The question of law in STA 26/2013, which is the lead case in this batch, is as follows: Whether the Tribunal was right in holding that consideration received under the franchise agreement was for transfer of right to use the goods, i.e., the trade mark, under the Delhi Sales Tax on Right to Use Goods Act, 2002 and under the Delhi Value Added Tax Act, 2004? 2. The appellant is a wholly owned subsidiary of McDonald s Corporation, Delaware (a term hereinafter referred ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... essed to tax under Section 23 (6) of the Delhi Sales Tax Act, 1975, read with Section 9 of the DSTRTUG Act, for the AY 2004-05 and why a penalty should not be imposed upon the appellant for the same. The Value Added Tax Officer, Special Zone ( Assessing Authority I ), vide an order, dated 16.01.2007, treated the McDonald s system as goods and invoked a demand of ₹ 13,44,684/-. Aggrieved, McDonald s appealed to the Joint Commissioner, Trade and Taxes. The Joint Commissioner, by an order dated 01.07.2008 held that the transactions entered into by McDonald s involved the transfer of the right to use McDonald s system , which constitutes goods in terms of Article 366(29A) of the Constitution and Section (1)(n) of the DSTRTUG Act, thereby upholding the order of the Assessing Authority. 5. Being aggrieved with the above order, McDonald s appealed to the Appellate Tribunal on 01.09.2008.The Tribunal, however, dismissed the appeal, and upheld the orders of the Joint Commissioner- V and Special Commissioner- III. Thus, aggrieved with the impugned order, McDonald s appeals to this court. 6. Similarly, the petitioner Sagar Ratna Restaurants Private Ltd (the first Petitioner in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r Ratna, Sagar Ratna Hotels, Bikanerwala and GSK are hereafter referred to as the Petitioners . 8. It is in the light of the above facts, that the court would proceed to examine whether the royalty payable under the franchise agreements signed, is liable to sales tax or VAT under the Delhi Value Added Tax Act, 2004 and under the DSTRTUG Act, 2002. Prior orders McDonald s 9. In the case of McDonald s, the assessment order for AY 2004-05 dated 16.01.2007, held that the charge of royalty or franchise relates to the transfer of the right to use of a patent or trade mark, and that McDonald s is liable for registration under Section 4 of the DSTRTUG Act, 2002, at the rate of 4% read with the provisions of the Delhi Sales Tax Act, 1975. The Assessing Officer (AO) adjudged the Appellant to fulfill the conditions assigned to a dealer under the DSTRTUG Act, 2002. Further citing the case of Vikas Sales Corporation v. CCT (1996) 102 STC 106 SC , the Supreme Court had ruled that trade marks are goods, and that for transferring the right to use, a trade mark, being intangible goods it is not necessary to hand over the trade mark to the transferee or give control or poss ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ghts transferred with a right to use; they were held to fall within the definition of sale under Section 2(n) of the DSTRTUG Act, 2002 and McDonald s had transferred the goods in the shape of goodwill attached with the use of trade mark and the service portion, if any, is incidental to the transfer of trade mark. The AO framed the assessment demand at ₹ 13,44,684/-. The Joint Commissioner, i.e the appellate authority, rejected McDonald s plea after undertaking an analysis of the provisions of the DSTRTUG Act, 2002, and the relevant clauses of the Master License Agreement. He concluded that the McDonald s system comprised incorporeal intellectual property. The appellate authority referred to the Supreme Court judgments of M/s. Vikas Sales Corporation (supra) and M/s Sunrise Associates v. Govt. of NCT of Delhi AIR 2006 SC 1908, to highlight how the franchise agreement has all the attributes of a license and, therefore, transactions covered by the said agreement are taxable under Section 3 of the DSTRTUG Act and, that the nature of the McDonald s system (as examined in the light of Section 2(1)(f) of the DSTRTUG Act) falls under the definition of goods . 11. As such, i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ely based on the considerations that weighed with the revenue when it demanded payments in respect of transactions that McDonalds entered into with its franchisees. The petitioners submit that this interpretation is in disregard of the dominant intention that arose from the franchise agreements, and that the service tax that was already being paid by the Petitioners, and further, that the non- exclusive transfer of the right to use goods (according to the provisions of the franchise agreements) was not tantamount to a transfer that is leviable under the DSTRTUG Act, 2002. Arguments advanced 14. At the outset, learned senior counsel for McDonald s submits that the assessing authorities and the Tribunal misconstrued the terms of the franchise agreement. The franchise agreement only confers the right to use the McDonald s systems in a restaurant, and royalty is paid as a percentage of gross sales. The exclusive purpose for which the McDonald s system can be utilized is highlighted in the clause 11 (d) of the franchise agreement that reads as follows: Franchise and Joint Venture Partner shall acquire no right to use, or to license the use of, any name, mark or other int ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for delivery; b. There must be a consensus ad idem as to the identity of the goods; c. The transferee should have a legal right to use the goods consequently all legal consequences of such use including any permissions or licenses required therefore should be available to the transferee; d. For the period during which the transferee has such legal right, it has to be the exclusion to the transferor -this is the necessary concomitant of the plain language of the statute - viz. a transfer of the right to use and not merely a licence to use the goods; e. Having transferred the right to use the goods during the period for which it is to be transferred, the owner cannot again transfer the same rights to others. Thus, it was contended how the franchise agreement only permits the use of McDonald s system but there is no transfer of any right to use the trade mark. 17. Likewise, learned counsel highlighted the decision of Malabar Gold Private Ltd. v. CTO (2013) 63 VST 496 wherein the Kerala High Court in consideration of nature of the franchise, as well as the scope of the expression transfer of right to use goods and the scope of Article 366(29 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ike knowhow, recipe, training, trade secrets, policies, etc. are provided to the franchisee. But, there are no goods, and no transfer of property. Thus, the provisions of Article 366(29A) and the corresponding definition of goods and sale in the MVAT Act are not applicable at all. Concurrently, in the present appeal, the object of the franchise agreement between McDonald s and its franchisee(s) is to operate a comprehensive restaurant system (consisting of manuals, instructions etc., to run McDonald s restaurants) at the location(s) specified in the agreement. The agreement is not even remotely connected with sale or deemed sale of goods and the ownership in the McDonald s trade mark, logo, service marks, and brand name is solely vested in McDonald s Corporation, U.S and is never transferred. This is clearly manifested in the various clauses of the franchise agreement. 20. It was argued that levy of VAT in the present case is impermissible. The counsel for appellants relied on the judgment reported as Godfrey Phillips Ltd. v. Union of India (2005) 2 SCC 515 to argue that the Constitution does not permit overlapping of taxes as held. Once an activity is taxable as a s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Therefore, the revenue s position is that there can be no exemption for these levies merely because the agreement involves incorporeal rights. The revenue disputes the assessee s arguments regarding exclusivity and submit that it is irrelevant that the appellant or the petitioners can enter into several such agreements by giving franchises to multiple users. There is no such exception carved out in law, especially when the subject is a bundle of rights. 24. Learned counsel points out that in Subway Systems (supra) the Bombay High Court had not completely agreed with the assessee, but in one of the cases, held in favour of the revenue. The following passage of the judgment was cited: We do not think that in BSNL the Supreme Court intended to prescribe a test of global or universal application without regard to individual circumstances. The judgment of the Supreme Court (in paragraph 90) notes the factual aspects. There, the entire infrastructure, instruments, appliances and exchange remained in the physical control and possession of the petitioner at all times and there was neither any physical transfer of such goods nor any transfer of the right to use such equipment o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rned counsel elaborated the arguments, by relying on the revenue model. It was submitted that the percentage of gross turnover or receipt as the basis of royalty showed that the licensor trade mark owner, really intended that the proportion of the value of the mark was to be the basis for calculating its royalty (or franchise fee/license) in relation to the entire turnover. The observations of the tribunal in this regard, which were commended for consideration and endorsement of this court, are as follows: the service that the appellant is providing to the franchisee is with a view to get the gross sales of the franchisee augmented so that it may get more royalty which means that the provision of sales under the MLA is designed in a manner to ensure continual enhancement of sales of the franchisee meaning thereby that provisions incorporated in the MLA are just for the purpose of the gross sales enhanced. In our considered view provision of service under the MLA is incidental to the main activity of transfer of the right to use the trade mark McDonald . 28. Learned counsel relied on Section 2(1)(v) of the Trade and Merchandise Marks Act, to say that the purpose of a tra ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o use the same in the manner required by the law as has been done in the present case. The right to use the trade mark can be transferred simultaneously to any number of persons. The decision of the Andhra Pradesh High Court in Rashtriya Ispat Nigam Ltd. v Commercial Tax Officer thus has no application to the transfer of right to use a trade mark. 30. The definition of goods in Section 2(1)(m)(ii) of the DVAT Act was relied by counsel for the revenue, who said that it included property in goods (whether as goods or in some other form) as the incident of taxation, was relied upon together with the expression sale in Section 2 (zc) of the said Act, which inter alia, expansively states that the term (i.e. sale ) includes (vi) transfer of the right to use any goods for any purpose (whether or not for a specified period) for cash, deferred payment or other valuable consideration; As there is elasticity to the form (i.e tangibility) of the subject matter (property) as well as to the term ( whether or not for a specified period ) the grant of a right to use the mark, as part of an arrangement, cannot but be a transfer of the right to use it. In this regard, particular empha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r a conclusion with respect to DVAT incident and levy. Analysis and Findings: 33. To analyse the soundness of the rival contentions and examine if consideration received under the franchise agreements was for transfer of right to use the goods, i.e., the trade mark, under the DSTRTUG Act, 2002 and under the Delhi Value Added Tax Act, 2004, the court needs to first examine what is intended to be transferred in the franchise and trade mark licensing agreements. 34. From a plain reading of the MLA, in (in the McDonald s cases) it is apparent that the arrangement is a composite contract wherein, the trade mark and other services like knowhow, recipe, training, trade secrets, policies, etc. are provided to the franchisee. The object of the franchise agreement between McDonald s and its franchisee(s) is to operate a comprehensive restaurant system (consisting of manuals, instructions etc., to run McDonald s restaurants) at the locations specified in the agreement, albeit, without an exclusive transfer of right to use the same. Similarly, the agreements signed by the Petitioners (Sagar Ratna, Bikanerwala in whose cases the arrangement is a franchise contract) give the respe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tends to make a non-exclusive transfer of the composite system of services that is not limited to the trade mark, but is inclusive of a bunch of services, and hence, cannot be treated as goods and be subject to VAT. By virtue of this observation alone, the levy under the DVAT is incorrect. In Commissioner VAT, Trade and Taxes Department v. International Travel House Ltd. [2009] (25) VST 653 , a Division Bench of this court held that composite contracts cannot be split up by taking from it the value of the goods for the purposes of taxing the same under DVAT Act. The relevant part of the judgement reads as follows: 1. The conclusion, therefore, which emerges with respect to the facts of the present case on applying the ratio of the BSNL s case is that, since the contract in question is a composite contract of sale of goods and services, clearly, it is not permissible for the State Legislature by applying DVAT Act to tax composite contracts comprising of both goods and services. Not only the contracts cannot be artificially split up so as to enable the sale element to be taxed, further, the States cannot treat the contract as only a contract of sale of goods and tax the whole ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on. 37. McDonald s and the petitioners (Sagar Ratna, and Bikanerwala) are solely engaged in providing franchise services to its franchisees and the same would thus not be liable to VAT under the provisions of the DVAT Act, as the franchise service is expressly a taxable service and cannot be treated as goods. From a perusal of the facts of the cases, as well as the provisions of the franchise agreements, it can be concluded that what was intended to be transferred was not the trade mark, but an entire gamut of services, which includes, inter alia, a guide that educates the franchisees on various aspects of business and conduct to market the business. To segregate the terms of the agreement to levy VAT on only specific aspects of it would be inexact. Moreover, the Appellant and the Petitioners are already paying service tax levied on the franchise agreements, and there can be no overlapping of taxes. The subject matters in List I and List II of the Seventh Schedule to the Constitution are distinct and once a particular service is subject to service tax, it cannot be treated as a sale of goods and subject to VAT. Thus, the definition of intellectual property and levy of sale ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e Franchiser. The Franchisee shall- not be entitled to change the menu, the name of food items, and their recipes. In case of any food items supplied to the Franchisee in packaged form the Franchisee undertakes not to temper with such packed food items except putting such notices as are required by the packaging laws prevalent in the state and shall inform the Franchiser of any such laws and the alterations made for the compliance thereto. 3.7 MAXIMUM PRICES The Franchisee undertakes not to charge customers prices in excess of the prices specified by the Franchiser in writing from time to time ************* ************ ************ 3.18 ASSIGNMENT It is agreed that this agreement is non- assignable, transferable and no right direct or indirect in favour of any other party can be created without written consent of the Franchiser. The Franchiser shall have absolute discretion either to accept with such terms and conditions as may be deemed fit, or refuse the same. The Franchisee undertakes not to assign, charge or otherwise deal with the right granted to the Franchisee under this agreement and arrangement in any way without the prior written consent ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ranchiser becomes aware provided however that the prosecution of any claim with respect to any Intellectual Property Rights shall be the sole responsibility and undertaken at the absolute discretion of the Franchiser. 5.4 The franchisee undertakes that notwithstanding anything contain contrary to in this agreement, after the termination of this agreement the franchisee shall not use the trademark SAGAR RATNA or any other deceptively similar trademark at any time thereafter in respect of any restaurant or allied business including food items. 40. Likewise, in Bikanerwala s case, the franchise agreement relied on, states, inter alia that: 9. Protection of Rights of FRANCHISER: (b) The FRANCHISEE acknowledges and agrees that all rights in and to the trade names/artistic works BIKANO BIKANERVALA including all of the goodwill of the business associated therewith, are and shall hereafter continue to be the exclusive property of the FRANCHISER, and that for all use of the said trade names/artistic works by the FRANCHISER, the FRANCHISEE, acknowledges and agrees that it does not have and shall not hereafter claim acquire or assert any ownership. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... etor were relied upon: LICENSOR hereby grants to LICENSEE a non exclusive rights to use and/or authorise the use of the Trade Marks by such parties as LICENSOR may approve upon or in relation to the Contract Products for sale in India, Nepal and Bhutan (and in such other countries as may be agreed upon in writing between the parties from time to time) subject to the further terms of this Agreement. 2 LICENSEE shall use and/or authorise the use of the Trade Marks upon or in relation only to the Contract Products manufactured and packed in strict accordance with the Quality standards, specifications (including standards and specifications as to quality control, method of processing, packaging) and directions of LICENSOR. The Trade Marks shall not be used upon or in relation to any goods other than the Contract Products. 3 LICENSEE shall not use and/or authorise the use of the Trade Marks or any of them in close proximity or in conjunction with any other trade mark or trade name, whether owned by LICENSEE or any other third party. The manner in which the Trade Marks or any of them may be used upon or in relation to the Contract Products and on labels, packaging, print ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... registration of a trade mark shall, if valid, give to the registered proprietor of the trade mark the exclusive right to the use of the trade mark in relation to the goods or service in respect of which the trade mark is registered and to obtain relief in respect of infringement of the trade mark in the manner provided by this Act. (2) The exclusive right to the use of a trade mark given under sub-section (1) shall be subject to any conditions and limitations to which the registration is subject. The property in the mark always vests with the owner. Furthermore, importantly the use of the mark by the licensee inures to the owner, as the latter s continuous use, in terms of Section 48 of the Trade marks Act, which is as follows: 48. Registered users.- (1) Subject to the provisions of section 49, a person other than the registered proprietor of a trade mark may be registered as a registered user thereof in respect of any or all of the goods or services in respect of which the trade mark is registered. (2) The permitted use of trade mark shall be deemed to be used by the proprietor thereof, and shall be deemed not to be used by a person other than th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... goods during the period for which it is to be transferred, the owner cannot again transfer the same rights to others. It was similarly held in 20th Century Finance Corporation Ltd. v. State of Maharashtra (2000) 119 STC 182 that a right to use goods accrues only on transfer of right. The Supreme Court in this case held that the taxable event under Article 366(29A)(d) of the Constitution was the transfer of the right to use goods, and a distinction was set out between a transfer of a right to use goods and a mere permissive use of goods. Paragraphs 26 and 27 of the judgment read: 26. Next question that arises for consideration is, where is the taxable event on the transfer of the right to use any goods. Article 366(29A)(d)empowers the State legislature to enact law imposing sales tax on the transfer of the right to use goods. The various sub-clauses of Clause(29A) of Article 366 permit the imposition of tax thus: Sub-clause (a)on transfer of property in goods; Sub-clause (b) on transfer of property in goods; Sub-clause (c) on delivery of goods; Sub-clause (d) on transfer of the right to use goods; Sub-clause (e) on supply of goods; and Sub clause (f) on supply of serv ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fer of such a right and unless there is transfer of right, the right to use does not arise. Therefore, it is the transfer which is sine qua non for the right to use any goods. 45. Likewise, the Supreme Court in State of Andhra Pradesh and Anr. v. Rashtriya Ispat Nigam Ltd. [2002] 126 STC 114 (SC) upheld the Andhra Pradesh High Court s decision that the essence of transfer is passage of control over the economic benefits of property which results in terminating rights and other relations in one entity and creating them in another. A similar decision was made in Malabar Gold Private Ltd. v CTO (2013) 63 VST 496 , where a Division Bench of the Kerala High Court considered the nature of the franchise agreement as well as the scope of the expression transfer of right to use the goods . The High Court concluded that the tests laid down in the BSNL (supra) case were squarely applicable, that there were no goods which were deliverable at any stage and there was no transfer of right to use any trade mark. 46. For a transfer of the right to use goods to be effective, such transfer of right should be one that the transferee can exercise in exclusion of others; which is not t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rand benefit accrues or arises to the franchisee/licensee. 48. From the above analysis, what irrefutably follows is that the franchise agreements in the three cases (and trade mark licensing agreement in GSK s petition) permit a limited right to use the composite system of the respective businesses of the Appellant and the Petitioners to the franchisors/licensee, and the dominant intention, as well as the specific provisions arising from the franchise agreements are not of a transfer of the right to use goods. 49. In view of the above discussion, it is held that the Tribunal erred in holding that consideration received under the franchise agreement (in McDonald s case) was for transfer of right to use the goods, i.e., the trade mark, under the Delhi Sales Tax on Right to use Goods Act, 2002 and under the Delhi Value Added Tax Act, 2004; its findings are set aside. For the same reasons, it is held that the franchise agreements in the case of Bikanerwala and Sagar Ratna are not subject to DVAT levy; in the case of GSK, it is held that the trade mark licensing agreement cannot result in fastening DVAT liability upon such transaction. The assessment orders and notices impugned in ..... X X X X Extracts X X X X X X X X Extracts X X X X
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