Income Tax Appellate Tribunal - Bangalore
M/S. Mann Hummel Gmbh, Bengaluru vs Deputy Commissioner Of Income-Tax, ... on 25 April, 2024
IN THE INCOME TAX APPELLATE TRIBUNAL
'B' BENCH : BANGALORE
BEFORE SHRI CHANDRA POOJARI, ACCOUNTANT MEMBER
AND
SMT BEENA PILLAI, JUDICIAL MEMBER
IT(IT)A No. 669/Bang/2023
Assessment Year : 2020-21
M/s. Mann Hummel GMBH,
The Deputy
C/o. Mann & Hummel Filter
Commissioner
Pvt. Ltd.,
of Income Tax
No. 23, 1/1, 11th Main Road,
International
1st Stage, 3rd Stage,
Taxation,
Peenya Industrial Area,
Bengaluru - 560 058. Vs. Circle - 1(2),
Bengaluru.
PAN: AAGCM9102L
APPELLANT RESPONDENT
Assessee by : Shri Chavali Narayan, CA
Revenue by : Shri G. Manoj Kumar, CIT - DR
Date of Hearing : 29-01-2024
Date of Pronouncement : 25-04-2024
ORDER
PER BEENA PILLAI, JUDICIAL MEMBER
Present appeal arises out of the order dated 12.07.2023 passed by the Ld.ACIT(International Taxation), Circle - 1(2), Bangalore for A.Y. 2020-21 on following grounds of appeal:
"Based on the facts and circumstances of the case and in law, Mann Hummel GMBH respectfully craves leave to prefer an appeal against the assessment order passed by the Deputy Commissioner of Income-tax, International Page 2 of 27 IT(IT)A No. 669/Bang/2023 Taxation Circle -- 1(2), Bengaluru (hereinafter referred to as the "learned AO") dated 12 July 2023, under section 143(3) read with section 144C(13) of the Income-tax Act, 1961 ("the Act") on the following grounds:
1. The order of the learned AO is based on incorrect interpretation of law and therefore is bad in law.
2. The learned AO and the Hon'ble Dispute Resolution Panel ("DRP") erred, in law and on facts, by holding that the payment received towards cross charge of lease line / Global Area Network (-GAN") charges, amounting to INR 49,54,520/-, is in the nature of Royalty and hence chargeable to tax under the Act and Article 12 of the India-
Germany Double Taxation Avoidance Agreement ("DTAA").
3. The learned AO and the Hon'ble DRP erred, in law and on facts, by holding that the payment made towards standardised lease line / GAN charges by Mann and Hummel Filter Private Limited ("MHIN-) to MHDE constitute charges for the "use of or right to use equipment" (i.e., cable, routers etc.) and thereby constitute Royalty as defined under the Act and the India-Germany DTAA.
4. The learned AO and the Hon'ble DRP failed to appreciate the fact that neither MHDE nor MHIN has any right or control over the equipment used by the third party service provider and accordingly holding that the MHIN has a right to use the equipment.
5. Without prejudice to the above, the learned AO erred in making an addition of markup component of INR 1,90,558 (which is included in INR 49,54,520 received towards lease line/ GAN charges) to the assessed income without considering the fact that such markup element has already been offered to tax in the return of income filed by the Appellant, thereby leading to double taxation of income.
6. Without prejudice, the Learned AO and the Honble DRP has failed to appreciate the fact that the payment made by MHIN to MHDE towards third party services is mere cost to cost re-imbursement of the standardised lease line/ GAN charges paid by the Appellant to the third party service provider.
7. The learned AO erred, in law and on facts, in initiating penalty proceedings under section 270A of the Act.
Page 3 of 27IT(IT)A No. 669/Bang/2023 The Appellant craves leave to add, alter, amend, vary, omit or substitute any of the aforesaid grounds of appeal at any time before or at the time of hearing of the appeal, so as to enable the Hon'ble Tribunal to decide on the appeal in accordance with the law."
2. Brief facts of the case are as under:
2.1 Assessee is a company based in Germany and is engaged in the manufacture and sale of industrial and automotive filters globally. It is noted that all the grounds raised by the assessee are on single issue and therefore they are being disposed of in a consolidated way.
2.2 For the year under consideration, assessee filed its return of income u/s. 139(1) of the Act on 07.01.2021 declaring gross total income of Rs.20,17,04,050/-. Subsequently, return was revised declaring total income of Rs.16,55,65,610/- claimed and refund of Rs.36,13,850/-. The case was selected for scrutiny for issue of reduction of income in revised return and claim of refund and income from other sources. Accordingly, notice u/s. 143(2) of the act was issued to the assessee along with notice u/s. 142(1) calling upon assessee to furnish various details in respect of the claim. Vide submissions dated 14.07.2021, 14.03.2022, 22.03.2022 and 22.09.2022 assessee filed various details as called for. The Ld.AO noted that, the assessee had certain international transactions with its associated enterprise in India in the nature of granting non-exclusive rights and license to use IPRs, certain information technology and communications services, research and development services. It was noted that the assessee had received a sum of Rs.3,61,38,445/- from Mann Page 4 of 27 IT(IT)A No. 669/Bang/2023 and Hummel Filters India Pvt. Ltd. in relation to grant to use sun services.
2.3 Assessee relied on the decision of Hon'ble Supreme Court in case of Engineering Analysis Centre of Excellence Pvt. Ltd.
reported in (2021) 125 taxmann.com 42 and submitted that the receipts were not taxable as they are not in the nature of royalty. It was submitted that the receipts were merely for grant of right to use standard software which was cross charged to Mann & Hummel India Pvt. Ltd. It was submitted that, these were not in the nature of managerial services, for lack of human element involved. The assessee before the Ld.TPO had filed the agreements which it had with the Indian counterpart and submitted that, the assessee buys a random third party software and provides to its affiliates to which it cross charges fees. It is submitted that, the assessee identifies specific needs of its affiliates and accordingly negotiates the price based on the functions and services that each service partners requires for effective, efficient and economical use of the software. It is submitted by the assessee that, there is no human involvement in the process as can be observed from the agreements and that the entire service though technical is automated in such a way that it meets the dynamic needs of the associated enterprises.
2.4 The Ld.AO after considering the submissions of the assessee was of the opinion that the remuneration received by the assessee is taxable under domestic law as FTS. The Ld.AO thus Page 5 of 27 IT(IT)A No. 669/Bang/2023 passed the draft assessment order by proposing an addition of Rs.3,61,38,445/- in the hands of the assessee.
2.5 On receipt of the draft assessment order, the assessee preferred objections before the DRP. The DRP called for remand report on various objections put forth by the assessee. On the issue of software license fees, based on the remand report by the Ld.AO, the DRP held that the decision of Hon'ble Supreme Court in case of Engineering Analysis Centre of Excellence Pvt. Ltd. (supra) is squarely applicable to the facts of the case and the reimbursement received by the assessee does not fall under the category of FTS. The DRP decided the issues by observing as under:
"On the issue of leased line charges, the observations in the remand report of the AO is reproduced below- "The assessee is of the view that both assessee and MHIN are end customers for the services provided by third party service provider in relation to internet connectivity and Global Area Network(GAN). They do not possess any right or control over the equipment used by the third party service provider for rendering such services. No right to use the third party equipment has been granted and hence the payments would not constitute royalty.""
2.5.1 However, the DRP held that the Indian counterpart of the assessee has right to use the equipment (routers) to receive services from the assessee and as the equipments is installed in the premises of the assessee and therefore can manage the troubleshoot on the global area network activity. The consideration received by the assessee is in the nature of royalty under section 9(1)(vi) of the Act.
Page 6 of 27IT(IT)A No. 669/Bang/2023 The DRP thus held the consideration received by the assessee as royalty u/s. 9(1)(vi) of the Act.
2.6 On receipt of the DRP directions, the Ld.AO passed the final assessment order, making addition in the hands of the assessee at Rs.49,54,520/- as royalty.
2.7 Aggrieved by the final assessment order passed by the Ld.AO, assessee is in appeal before this Tribunal.
3. The Ld.AR relied on the decision of Coordinate Bench of this Tribunal in case of M/s. Madura Coats Pvt. Ltd. vs. DCIT in IT(IT)A Nos. 1344 & 1345/Bang/2019 vide order dated 31.05.2022 wherein it is held as under:
"In the present facts of the case the agreement between assessee and J&P Coats is clear of the fact that there is no transfer of any intellectual property, or any exclusive right has been granted to the assessee for using such intellectual property. Rather, the payment is made by the assessee to J&P Coats, based on the agreement between BT to J&P Coats. The assessee has made the payment based on coast allocation towards the band width services provided by J&P Coats as per agreement between BT to J&P Coats.
The Ld.AR submitted that, reliance placed by the authorities below on decision in case of Verizon Communications Singapore Pvt. Ltd. v. ITO(supra) is misplaced. We have gone through facts of of Verizon Communications Singapore Pvt. Ltd. v. ITO(supra). In that case, the Indian payer company obtained 'leased lines' on hire basis under a contract from non-resident Verizon Communication. This is a vital fact which makes it factually different with that of assessee before us. When an Indian company takes leased line on hire, then it can be said that it had 'used' it as observed by Hon'ble Madras High Court therein. In present facts of the case, the J&P Coats has neither leased nor has given on hire any Page 7 of 27 IT(IT)A No. 669/Bang/2023 network to the assessee. Instead the assessee reimbursed the cost incurred by J&P Coats towards the bandwidth charges provided by BT to all the Coats group companies world wide.
Therefore it cannot be said that the assessee has 'used' the network belonging to J&P coats. Therefore, reliance of the revenue on the said case law is of no assistance.
On perusal of the agreement, between assessee and J&P Coats we note that, the assessee do not have any ownership or rights in respect of such 'process', and hence in our view the payment in question cannot be considered as 'royalty'.
Accordingly, we are of the view that the payments made by assessee to J&P Coats cannot be held to be taxable in India as it does not amount to income as per DTAA as well as Income tax Act."
3.1 He also relied on the decision of Hon'ble Hyderabad Tribunal in case of Qualcomm India Pvt. Ltd. reported in TS-605-ITAT-2016 (HYD) wherein this Tribunal has held as under:
"Having regard to the rival contentions and the material on record, we find that Verizon Business, USA, has entered into an agreement with Qualcomm Inc, USA and the assessee being a group company of Qualcomm of USA, is also receiving services from Verizon Business, USA. From the nature of the services rendered by Verizon Business, it is seen that these are basically internet or bandwidth services provided to facilitate the assessee in discharge of its obligations to its group companies i.e. providing software design, manufacture and testing services to its group companies through the bandwidth services provided by Verizon. The bandwidth services definitely require certain sophisticated equipment which has to be installed at the customers' premises. It is the contention of the assessee that the equipment provided at the customers' premises is in the nature of 'modem' and 'routers' which cannot be considered as scientific equipments as defined u/s 9(1)(vi) of the Act and further it is also stated that the equipment is to be provided at the customer's premises in USA only and not outside USA. Therefore, the undersea cables and the routers etc, which are part of the equipment are not the customer's equipment but rather it is the equipment installed and used by Verizon Business Services, USA for rendering their services of providing Page 8 of 27 IT(IT)A No. 669/Bang/2023 bandwidth or internet services to its customers worldwide. It is stated that the internet facility to be provided by Verizon USA to its customers across the world requires sophisticated and complex equipments, but it cannot be said that the assessee is given an exclusive right to use those equipments for which it is making the payment. Further, when we go through the statement of Mr. Thakoor (referred above), we find that the assessee is also provided with CPE (Customer Premises Equipment) by Verizon through its partner in India. It is not just network connection but the equipment required to access the network connection. From the CPE agreement, it is seen that a customer may purchase or take on rent/lease the CPE. The customer may also provide its own CPE if approved by Verizon and maintenance is done by Verizon subject to the customer providing the necessary information to Verizon. Therefore, it is clear that the CPE is not personalized/sophisticated modified equipment for specific and exclusive use of the assessee. It is a sophisticated product, but the payment made by the assessee cannot be said to be for use of scientific or commercial equipment within the meaning of 'royalty' under the Indian Income Tax Act."
3.2 Further reliance was placed on the decision of DDIT (Int Tax) vs. Savvis Communication Corporation reported in 158 ITD 750 wherein the Hon'ble Mumbai ITAT held that payment made towards providing services through use of certain scientific equipment could not be treated as consideration for "use of or right to use of scientific equipment' which is a sine qua non for taxability under section 9(1)(vi), read with Explanation 2 (iva).
3.3 It was submitted that the Coordinate Bench of this Tribunal in case of Wipro Ltd. vs. ITO reported in 80 TTJ (Bang.) 191, the Tribunal held that the payment for transmission of data and software through uplink and downlink services is not "royalty" as no process has been made available to the assessee and hence section 9(1)(vi) Explanation 2 clause (iii) cannot apply.
Page 9 of 27IT(IT)A No. 669/Bang/2023 3.4 The Ld.AR submitted that the Coordinate Bench of this Tribunal in case of Infosys Technologies Ltd. vs. DCIT reported in 139 TTJ (Bang.) (UO)18, the Tribunal followed the rationale of the AAR decision of Dell International Services and the jurisdictional Wipro Ltd. (supra) and came to the conclusion that payment towards bandwidth charges is not for right to use industrial, commercial or scientific equipment.
3.5 Hon'ble Bombay High Court in case of Siemens Aktiongesellschaft reported in (2009) 177 Taxman 81, wherein it was held that privity of contract is between third party service provider and the parent company, where the latter received the bandwidth and passed on the services to various entities of its group on a cost to cost basis. Therefore, it cannot be said that there was any income element which had arisen in the case, and consequently where the assessee therein had reimbursed the expenses having no income element, there was no requirement to withhold tax on such payments.
3.6 Reliance was also placed on the decision of the Hon'ble Supreme Court in the case of A.P. Moller Maersk AS [TS-70-SC- 2017] where in it was held that it is only "income" that is liable to be taxed, mere recoupment or reimbursement of expenses cannot be regarded as "income" chargeable to tax in the hands of the recipient.
Page 10 of 27IT(IT)A No. 669/Bang/2023 3.7 In view of the above, the assessee humbly submits that, the recoupment of expenses by assessee from Indian AE would qualify as reimbursement and would not be in the nature of 'income'.
In view of the above factual and technical arguments, the Ld.AR submitted that the lease line expenses reimbursed by Indian AE to assessee is not subject to tax in India as Royalty under the Act. Given the above, the assessee humbly requested this Tribunal to delete the addition made by the Ld.AO in the final assessment order, treating the receipts towards cross charge of lease line / GAN charges as royalty under the Act.
4. On the contrary, the Ld.DR relied on the orders passed by the authorities below.
5. We have perused the submissions advanced by both sides in the light of records placed before us.
5.1 According to the authorities below, the consideration received by assessee from its Indian AE was a consideration received for "use" or "right to use" the equipment associated to the leased line provided by the third party to all the Mann & Hummel group entities globally. The authorities at this juncture has ignored to note one important aspect that the cables, routers etc., that form part of the equipment neither belongs to the assessee nor to the Indian AE, but the equipment is installed and used by the third party for rendering their standard services of leased line to its customers worldwide. The fact that the equipments were not Page 11 of 27 IT(IT)A No. 669/Bang/2023 placed at the disposal of either the assessee or the Indian AE, has been overlooked while considering the issue in hand.
5.2 On perusal of the agreement, it is more clearer. We note that assessee has entered into an agreement for GAN connection which is "provided by a third party telecom company" that it is Indian affiliate towards internet services to connect Germany office to India. It is noted that, it is the responsibility of the third party for providing maintenance of network and related equipments including the management and monitoring of the connection. Further it is noted that, these are standard services, which are not customized to specifically meet the requirements of the assessee.
5.3 It is noted that the GAN connection to the Indian affiliates is realized through CISCO routers, which are maintained by the provider. These routers are ancillary to the provision of bandwidth, and is incapable of independent function.
5.4 On further perusal of the agreement, it is noted that there is no transfer of intellectual property rights or any exclusive rights that has been granted to the assessee. The routers that are used in the course of rendition of service are maintained by the overseas service provider. It is also noted that, there is no transfer of technology at any point of time and that the assessee is charging a mark-up has cross charged towards the service provided and the same is offered to tax.
Page 12 of 27IT(IT)A No. 669/Bang/2023 5.5 It has been submitted that the payment is towards network related to hardware component and leasedline services and not towards any software or licenses. It is noted from the agreement that certain technical services that are provided by the assessee are as under:
Operating System and Application administration System Performance and manage workload changes Error and Event management Technical support including 3rd parties supplier when necessary System and application backup and recovery Release - and version upgrading including 3rd parties supplier when necessary Patch management System Security management e.g. Antivirus, Firewall, DMZ, Hardening 5.6 For the above services, certain professional charges are included in the total payment received by the assessee.
A. Whether payment received by assessee could be considered as Royalty as per section 9(1)(vi) read with Explanation 2, 5 & 6 of the Act ?
The Ld.AO and CIT(A) held the payment received to be 'Royalty', as they are of the view that, there is use of process by the assessee in terms of Section 9(1)(vi) of the Act, r.w.Expl. 5 & 6. On perusal of the observation by the Ld.CIT(A) we note that the payment made by the assessee to Indian AE have been upheld to be 'royalty' on the premise that assessee has used the 'process'.
Page 13 of 27IT(IT)A No. 669/Bang/2023 The term "Process" occurs under clause (i), (ii) and (iii) to Explanation 2 to Section 9(vi). It reads as under:--
'Explanation 2.: For the purposes of this clause, "royalty" means consideration (including any lump sum consideration but excluding any consideration which would be the income of the recipient chargeable under the head "Capital gains") for--
(i) the transfer of all or any rights (including the granting of a licence) in respect of a patent, invention, model, design, secret formula or process or trade mark or similar property;
(ii) the imparting of any information concerning the working of, or the use of, a patent, invention, model, design, secret formula or process or trade mark or similar property;
(iii) the use of any patent, invention, model, design, secret formula or process or trade mark or similar property;' The term "process" used under Explanation 2 to section 9(1)(vi) in the definition of 'royalty' does not imply any 'process' which is publicly available. The term "process" occurring under clauses (i),
(ii) and (iii) of Explanation 2 to section 9(1)(vi) means a "process"
which is an item of intellectual property. Clause (iii) of the said Explanation reads as follows:
"(iii) the use of any patent, invention, model, design, secret formula or process or trade mark or similar property"
Clauses (i) & (ii) of the said explanation also use identical terms. The words which surround the word 'process' in clauses (i) to (iii) of Explanation 2 to section 9(1 )(vi), refer to various species of intellectual properties such as patent, invention, model, design, formula, trade mark etc. The expression 'similar property' used at the end of the list, further fortifies the stand that the terms 'patent, invention, model, design, secret formula or process or trade mark' are to be understood as belonging to the same class of properties viz. intellectual property.
Page 14 of 27IT(IT)A No. 669/Bang/2023 'Intellectual property' as understood in common parlance means, Knowledge, creative ideas, or expressions of human mind that have commercial value and are protectable under copyright, patent, service mark, trademark, or trade secret laws from imitation, infringement, and dilution. Intellectual property includes brand names, discoveries, formulas, inventions, knowledge, registered designs, software, and works of artistic, literary, or musical nature.
5.7 We refer to the commentary in Prof.Klaus Vogel's Commentary on Double Taxation Convention, wherein, the term 'Royalty' is defined as under:
"Paragraph 2 contains definition of the term 'royalties'. These relate, in general, to rights or property constituting different forms of literary and artistic property, the elements of intellectual property specified in the text and information concerning industrial, commercial or scientific experience. The definition applies to payments for the use of, or the entitlement to use, rights of the kind mentioned, whether or not they have been, or are required, registered in a public register. The definition covers both payments made under a license and compensation which a person would be obliged to pay for fraudulently copying or infringing the right."
Thus the word "process" must also refer to specie of intellectual property, applying the rule of, ejusdem generis or noscitur a sociis, as held by Hon'ble Supreme Court in case of CIT vs.Bharti Cellular reported in (2011) 330 ITR 239.
5.8 As we are analyzing the applicability of section 9(1)(vi), observation by Hon'ble Madras High Court in case of CIT vs. Page 15 of 27 IT(IT)A No. 669/Bang/2023 Neyveli Lignite Corpn. Ltd. (supra), would be relevant. The Hon'ble High Court held that, "10.The term (royalty' normally connotes the payment made to a person who has exclusive right over a thing for allowing another to make use of that thing which may be either physical or intellectual property or thing. The exclusivity of the right in relation to the thing for which royalty is paid should be with the grantor of that right. Mere passing of information concerning the design of machine which is tailor-made to meet the requirement of a buyer does not by itself amount to transfer of any right of exclusive user, so as to render the payment made therefor being regarded as royalty."
In the present facts of the case the agreement between assessee and Indian AE is clear of the fact that there is no transfer of any intellectual property, or any exclusive right has been granted to the assessee for using such intellectual property. Rather, the payment is made by Indian AE to the assessee, based on the agreement between assessee and third party service provider. The assessee has made the payment based on coast allocation towards the bandwidth services provided by the assessee as per agreement between assessee and third party.
Therefore in our opinion, the payment made by assessee to Indian AE cannot fall within the ambit of 'Royalty' under section 9(1)(vi) by virtue of Explanation 2.
5.9 Now, by Finance Act, 2012, Explanation 5 & 6 were added with retrospective effect from 1.6.1976 which reads as under:--
"Explanation 5: For the removal of doubts, it is hereby clarified that the royalty includes and has always included consideration in respect of any right, property or information, whether or not -
(a) The possession or control of such right, property or information is with the payer;
(b) Such right, property or information is used directly by the payer;Page 16 of 27
IT(IT)A No. 669/Bang/2023
(c) The location of such right, property or information is in India. Explanation 6: For the removal of doubts, it is hereby clarified that the expression "process" includes and shall be deemed to have always included transmission by satellite (including up-linking, amplification, conversion for down-linking of any signal), cable, optic fibre or by any other similar technology, whether or not such process is secret."
5.10 By insertion of Explanation 5 & 6, meaning of word 'Process' has been widened. As per these explanations, the word 'Process' need not be 'secret', and situs of control & possession of right, property or information has been rendered to be irrelevant. However, in our opinion, all these changes in the Act, do not affect the definition of 'Royalty' as per DTAA. The word employed in DTAA is 'use or right to use', in contradistinction to, "transfer of all or any rights" or 'use of', in the domestic law. As per Explanation 5 & 6, the word 'process' includes and shall be deemed to included, transmission by satellite (including up- linking, amplification, conversion for down-linking of any signal), cable, optic fibre or by any other similar technology, whether or not such process is secret. However, the Explanation does not do away with the requirement of successful exclusivity of the right in respect of such process being with the person claiming 'royalty' for granting its usage to a third party.
5.11 The Ld.AR submitted that, reliance placed by the authorities below on decision in case of Verizon Communications Singapore Pvt. Ltd. v. ITO(supra) is misplaced. We have gone through facts of of Verizon Communications Singapore Pvt. Ltd. v. ITO(supra). In that case, the Indian payer company obtained 'leased lines' on hire basis under a contract from non-
Page 17 of 27IT(IT)A No. 669/Bang/2023 resident Verizon Communication. This is a vital fact which makes it factually different with that of assessee before us. When an Indian company takes leased line on hire, then it can be said that it had 'used' it as observed by Hon'ble Madras High Court therein. In present facts of the case, the J&P Coats has neither leased nor has given on hire any network to the assessee. Instead the Indian AE reimbursed the allocated cost incurred by the assessee towards the bandwidth charges provided by third party to all the Mann & Hummel group companies world wide.
Therefore it cannot be said that the Indian AE has 'used' the network belonging to the assessee. Therefore, reliance of the revenue on the said case law is of no assistance.
5.12 On perusal of the agreement, between assessee and Indian AE, we note that, the assessee do not have any ownership or rights in respect of such 'process', and hence in our view the payment in question cannot be considered as 'royalty'. The assessee is rendering telecommunications services to all its Group concerns, with the aid of the third party.
5.13 The meaning attached to phrase 'use or right to use' has been explained in following decisions:
Decision of Authority For Advance Ruling(hereinafter referred to as AAR), in case of Cable & Wireless Networks India(P.)Ltd., In re, reported in (2009) 182 Taxman 76 Decision of AAR in case of ISRO Satellite Centre reported in 2008) 307 ITR 59 Decision of AAR in case of Dell International Services (India) P. Ltd.In.re.
reported in (2008) 172 Taxman 418.
Page 18 of 27IT(IT)A No. 669/Bang/2023 The above decisions, lay down that, in order to satisfy 'use or right to use', the control and possession of right, property or information should be with payer.
5.14 In the decision of Authority For Advance Ruling, in case of Cable & Wireless Networks India(P.)Ltd., In re(supra), a similar issue was considered wherein Cable & Wireless Networks India(P.)Ltd was a company incorporated in India part of Cable & Wireless Group of companies. Cable & Wireless Networks India(P.)Ltd., was engaged in providing international long distance and domestic long distance telecommunication services in India. As per the agreement Cable & Wireless Networks India(P.)Ltd., would provide the Indian leg of service of using its own network and equipments and network of other domestic operators. Similarly, the international leg of services would be provided by the UK group company using its international infrastructure and equipments. The Cable & Wireless Networks India(P.)Ltd., sought for advance ruling in respect of nature of payments made by Cable & Wireless Networks India(P.)Ltd., to the UK Group company, whether the payment is taxable as 'royalty' or 'FTS' under section 9(1)(vi)/(vii). The AAR relied on following decisions:
Decision of Hon'ble Supreme Court in case of BSNL vs. UOI reported in (2006) 3 STT 245 Decision of AAR in case of Dell International Services India Ltd. In.re reported in (supra) Decision of Hon'ble Madras High Court in case of CIT vs. Neyveli Lignite Corpn. Ltd. reported in (2000) 243 ITR 459 Decision of coordinate bench of this Tribunal in case of WIPRO Ltd. Vs. ITO reported in (2003) 86 ITD 407.Page 19 of 27
IT(IT)A No. 669/Bang/2023 5.15 The AAR relying on its view in case of Dell International Services India Ltd. In., held as under:
"12.5 It seems to us that the two expressions 'use' and 'right to use' are employed to bring within the net of taxation the consideration paid not merely for the usage of equipment in praesenti but also for the right given to make use of the equipment at future point of time. There may not be actual use of equipment in prasenti but under a contract the right is derived to use the equipment in future. In both the situations, the royalty clause is invokable. The learned senior counsel for the applicant sought to contend, relying on the decision of Andhra Pradesh High Court in the case of Rashtriya Ispat Nigam Ltd. v. CTO [1990] 77 STC 182 which was affirmed by the Supreme Court, that mere custody or possession of equipment without effective control can only result in use of the equipment whereas a right to use the equipment implies control over the equipment. We do not think that such distinction has any legal basis. In the case of Rashtriya Ispat Nigam Ltd. (supra), what fell for consideration was the expression "transfer of right to use any goods" occurring in a sales-tax enactment. Obviously, where there is a transfer, all the possessory rights including control over the goods delivered will pass on to the transferee. It was in that context, emphasis was laid on 'control'. The Supreme Court affirmed the conclusion of the High Court that the effective control of machinery even while the machinery was in use of the contractor remained with RIN Ltd. which lent the machinery. The distinction between physical use of machinery (which was with the contractor) and control of the machinery was highlighted. The ratio of that decision cannot be pressed into service to conclude that the right of usage of equipment does not carry with it the right of control and direction whereas the phrase 'right to use' implies the existence of such control. Even in a case where the customer is authorized to use the equipment of which he is put in possession, it cannot be said that such right is bereft of the element of control. We may clarify here that notwithstanding the above submission, it is the case of applicant that, it has neither possession nor control of any equipment of BTA. 12.6 The other case cited by the learned counsel for applicant to explain the meaning of expressions 'use' and 'right to use' is that of BSNL v. UOI (2006) 3 STT 245 (SC). Even that case turned on the interpretation of the words "transfer of right to use the goods" in the context of sales-tax Acts and the expanded definition of sale contained in clause (29A) of section 366 of the Constitution. The question arose whether a transaction of providing mobile phone service or telephone connection amounted to sale of goods in the special sense of transfer of right to use the goods. It was answered in the negative. The underlying basis of the decision is that there was no delivery of goods and the subscriber to a telephone service could not have intended to purchase or obtain any right to use electro-magnetic waves. At the most, the concept of sale in any subscriber's mind would be limited to the handset that Page 20 of 27 IT(IT)A No. 669/Bang/2023 might have been purchased at the time of getting the telephone connection. It was clarified that a telephone service is nothing but a service and there was no sale element apart from the obvious one relating to the handset, if any. This judgment, in our view, does not have much of bearing on the issue that arises in the present application. However, it is worthy of note that the conclusion was reached on the application of the well-known test of dominant intention of the parties and the essence of the transaction.
The word 'use' - what it means:
12.7 Let us now explore the meaning of the key word 'use'. The expression 'use' has a variety of meanings and is often employed in a very wide sense, but the particular meaning appropriate to the context should be chosen. In S.M. Ram Lal & Co. v. Secretary to Government of Punjab [1998] 5 SCC 574, the Supreme Court noted that 'in its ordinary meaning', "the word 'use' as a noun, is the act of employing a thing; putting into action or service, employing for or applying to a given purpose". In the New Shorter Oxford Dictionary, more or less the same meaning is given. The very first meaning noted there is: "the action of using something; the fact or state of being used; application or conversion to some purpose". Another meaning given is "Make use of (a thing), especially for a particular end or purpose; utilize, turn to account... cause (an implement, instrument etc.) to work especially for a particular purpose; manipulate, operate". The various shades of meanings given in the decided cases in America are referred to in Words and Phrases, Permanent Edition Vol. 43A. Some of them are quoted below :
"The word 'use' means to make use of; convert to one's service; to avail oneself of; to employ". (Miller v. Franklin County) "The word 'use' means the purpose served, a purpose, object or end for useful or advantageous nature". (Brown v. Kennedy) "'Use' means to employ for any purpose, to employ for attainment of some purpose or end, to convert to one's service or to put to one's use or benefit. (Beach v. Liningston) "'Use', as a noun, is synonymous with benefit and employment and as a verb has meaning to employ for any purpose, to employ for attainment of some purpose or end, to avail one's self, to convert to one's service or to put to one's use or benefit". (Esfeld Trucking Inc. v. Metropolitan Insurance Co.) 12.8 The word 'use' in relation to equipment occurring in clause (iva) is not to be understood in the broad sense of availing of the benefit of an equipment. The context and collocation of the two expressions 'use' and 'right to use' followed by the words "equipment" suggests that there must be some positive act of utilization, application or employment of equip-ment for the desired purpose. If an advantage is taken from sophisticated equipment installed and provided by another, it is difficult to say that the recipient/customer uses the equipment as such. The customer merely makes use of the facility, though he does not himself use the equipment.Page 21 of 27
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13. It is the contention of the revenue that dedicated private circuits have been provided by BTA through its network for the use of the applicant. The utilization of bandwidth upto the requisite capacity is assured on account of this. The electronic circuits being 'equipment' are made available for constant use by the applicant for transmission of data. The access line is installed for the benefit of the applicant. Therefore, the consideration paid is towards rent for circuits and the physical components that go into the system. It is further contended that rendition of service by way of maintenance and fault repairs is only incidental to the dominant object of renting the automated telecommunication network.
13.1 There is no doubt that the entire network consisting of under-sea cables, domestic access lines and the BT equipment - whichever is kept at the connecting point, is for providing a service to facilitate the transmission of voice and data across the globe. One of the many circuits forming part of the network is devoted and earmarked to the applicant. Part of the bandwidth capacity is utilised by the applicant. From that, it does not follow that the entire equipment and components constituting the network is rented out to the applicant or that the consideration in the form of monthly charges is intended for the use of equipment owned and installed by BTA. The questions to be asked and answered are: Does the availment of service involve user of equipment belonging to BT or its agent by the applicant ? Is the applicant required to do some positive act in relation to the equipment such as operation and control of the same in order to utilize the service or facility ? Does the applicant deal with any BT equipment for adapting it to its use ? Unless the answer is 'yes', the payment made by the applicant to BTA cannot be brought within the royalty clause (iva). In our view, the answer cannot be in the affirmative. Assuming that circuit is equipment, it cannot be said that the applicant uses that equipment in any real sense. By availing of the facility provided by BTA through its network/circuits, there is no usage of equipment by the applicant except in a very loose sense such as using a road bridge or a telephone connection. The user of BT's equipment as such would not have figured in the minds of parties. As stated earlier, the expression 'use' occurring in the relevant provision does not simply mean taking advantage of something or utilizing a facility provided by another through its own network. What is contemplated by the word 'use' in clause (iva) is that the customer comes face to face with the equipment, operates it or controls its functioning in some manner, but, if it does nothing to or with the equipment (in this case, it is circuit, according to the revenue) and does not exercise any possessory rights in relation thereto, it only makes use of the facility created by the service provider who is the owner of entire network and related equipment. There is no scope to invoke clause (iva) in such a case because the element of service predominates.
13.2 Usage of equipment connotes that the grantee of right has possession and control over the equipment and the equipment is Page 22 of 27 IT(IT)A No. 669/Bang/2023 virtually at his disposal. But, there is nothing in any part of the agreement which could lead to a reasonable inference that the possession or control or both has been given to the applicant under the terms of the agreement in the course of offering the facility. The applicant is not concerned with the infrastructure or the access line installed by BTA or its agent or the components embedded in it. The operation, control and maintenance of the so-called equipment, solely rests with BTA or its agent being the domestic service provider. The applicant does not in any sense possess nor does it have access to the equipment belonging to BTA. No right to modify or deal with the equipment vests with the applicant. In sum and substance, it is a case of BTA utilizing its own network and providing a service that enables the applicant to transmit voice and data through the media of telecom bandwidth. The predominant features and underlying object of the entire agreement unerringly emphasize the concept of service. The consideration paid is relatable to the upkeep and maintenance of specific facility offered to the applicant through the BTA's network and infrastructure so that the required bandwidth is always available to the applicant. The fact that the international circuit as well as the access line is not meant to offer the facility to the applicant alone but it enures to the benefit of various other customers is another pointer that the applicant cannot be said to be the user of equipment or the grantee of any right to use it. May be, a fraction of the equipment in visible form may find its place at the applicant's premises for the purpose of establishing connectivity or otherwise. But, it cannot be inferred from this fact alone that the bulk of consideration paid is for the use of that item of equipment.
13.3 In cases where the customers make use of standard facility like telephone connection offered by the service provider, it does not admit of any doubt that the customer does not use the network or equipment of the service provider. But, where the service provider, for the purpose of affording the facility, has provided special infrastructure/network such as a dedicated circuit (as in the instant case), controversies may arise as to the nature of payment received by the service provider because it may not stand on the same footing as standard facility. However, even where an earmarked circuit is provided for offering the facility, unless there is material to establish that the circuit/equipment could be accessed and put to use by the customer by means of positive acts, it does not fall under the category of 'royalty' in clause (iva) of Explanation 2."
5.16 We also refer to the commentary relied by the Ld.Counsel form Prof. Klaus Vogel's Commentary on Double Taxation Convention, wherein 'Secrete formulae or process' is defined as under:
Page 23 of 27IT(IT)A No. 669/Bang/2023 "Secret formulae or processes: This covers Know-how in the narrower sense of the term viz., all business, secrets of a commercial or industrial nature. In most of the countries, they enjoy at least relative protection or are capable of being protected. That is why Article 12(2) very properly use, in connection with such formulae, etc., the criterion 'right to use', which is pertinent to them (letting) as it is in the case of absolute proprietary rights. As a rule, the 'right to use' already come into existence in these instance by authorized information(legitimate disclosure of secrets) . It may be restricted in the point of time in respect of the period following the expiry of the license. On the difference between a product with relatively simple technology, and a business secret."
5.17 We note that, in case of DCIT v. PanAmSat International Systems Inc., reported in (2006) 9 SOT 100 , Hon'ble Delhi High Court distinguished the decision of Asia Satellite Telecommunication Co. Ltd. v. Dy. CIT reported in (2003) 85 ITD 478 and held as under:--
"19. The question that first comes up for consideration is whether section 9(1)(vi) of the Income-tax Act, read with the Explanation 2 below thereto, is applicable. This also involves the subsidiary question whether the issue is covered by the order of the Delhi Bench of the Tribunal in the case of Asia Satellite Telecommunication Co. Ltd. (supra) which is also a case of a non-resident company based in Hongkong which owned a transponder and allowed it to be used by broadcasters. Both issues are interlinked in the sense that in the above order the Tribunal has held in the context of the provisions of clause (iii) of Explanation 2 below section 9(1)(vi), that a "process" is involved when the signals that are uplinked through the earth stations to the transponder get converted into different frequencies and fit for being down-linked via earth stations over the footprint area. It was therefore held that the payment was for the use of a "process" and hence royalty within the meaning of the aforesaid clause. The clause reads as follows :
"(iii) the use of any patent, invention, model, design, secret formula or process or trademark or similar property;"
It was not disputed before us on behalf of the assessee that the nature of the activity carried on by it is the same as in the case of Asia Satellite Telecommunication Co. Ltd. (supra). If that is so, we have to hold, respectfully following the order of the co-ordinate Bench, that there is a "process" involved in the activity carried on by the assessee before us. In Asia Satellite Telecommunication Co. Ltd.'s case (supra) it was further held that the word "secret" appearing in clause (iii) above qualifies only the word "formula" but not the word "process" and therefore even if the process involved in the operation of the transponder is in the public Page 24 of 27 IT(IT)A No. 669/Bang/2023 domain and no longer a secret known only to a few, the payment for the process would still be taxable as royalty. The reason or logic given in paragraph 6.18 of the order by the Tribunal to hold that the word "secret" does not qualify the word "process" is that "there is no comma after the use of the word 'secret' till the end of clause (iii) and if the intention has been to apply the word 'secret' before the word 'process' also, then a comma would have been used after the word 'formula'" and further that the word "secret" cannot also be applied to the word "trademark" because once registered there is nothing secret about the trademark and the impossibility of reading the word "secret" before the word "trademark" further strengthens the view that the word "secret" cannot be read before the word "process" also. This naturally takes us to the question whether there is anything in article 12.3(a) of the DTAA between India and USA which militates against such a view. It must be remembered that India had no DTAA with Hongkong and hence the view taken by the Tribunal (supra) with regard to the clause (iii) of Explanation 2 below section 9(1)(vi) would apply if we were to also interpret the same provision. But article 12.3(a) is worded as below :
"The term 'royalties' as used in this article means :
(a)payments of any kind received as consideration for the use of, or the right to use, any copyright of a literary, artistic, or scientific work, including cinematograph films or work on film, tape or other means of reproduction for use in connection with radio or television broadcasting, any patent, trademark, design or model, plan, secret formula or process, or for information concerning industrial, commercial or scientific experience, including gains derived from the alienation of any such right or property which are contingent on the productivity, use or disposition thereof; and"
In Asia Satellite Telecommunication Co. Ltd.'s case (supra) the Tribunal pointed out, while repelling the argument that the word "secret" also qualifies the word "process" appearing in clause (iii) of Explanation 2, that there is no comma after the word "secret" till the end of the clause and had the intention been to qualify the word "process" also with the word "secret" there would have been a comma after the word "process" (by mistake mentioned in the order as "formula"). The Tribunal was thus prepared, with respect, to accept the argument that both the words "formula" and "process" can be said to be qualified by the word "secret" had the clause been drafted as under :
"the use of any patent, invention, model, design, secret formula or process, or trademark or similar property"
What the Tribunal has pointed out stands fulfilled in article 12.3(a) of the treaty with USA. From the article quoted above, it may be seen that there is a comma after the words "secret formula or process" which indicates that both the words "formula" and "process" are qualified by the word "secret". The requirement thus under the treaty is that both the formula and the process, for which the payment is made, should be a secret formula or a secret process in order that the consideration may be characterised as royalty. We do agree with the argument of the Special Page 25 of 27 IT(IT)A No. 669/Bang/2023 Counsel for the Department, on the strength of the several authorities cited by him, that normally punctuation by itself cannot control the interpretation of a statutory provision and in fact the learned counsel for the assessee did not seriously dispute the proposition. However, the punctuation the use of the comma coupled with the setting and words surrounding the words under consideration, do persuade us to hold that under the treaty even the process should be a secret process so that the payment therefore, if any, may be assessed in India as royalty. The Tribunal in Asia Satellite Telecommunication Co. Ltd.'s case (supra) have recognized that all the items referred to in clause (iii) of Explanation 2 such as patent, invention, model, formula and process etc. are intellectual properties. Similarly, the words which surround the words "secret formula or process," in article 12.3(a) of the treaty refer to various species of intellectual properties such as patent, trademark, design or model, plan, etc. Thus the words "secret formula or process" must also refer to a specie of intellectual property applying the rule of ejusdem generis or noscitur a socii.
20. That takes us to a consideration of the question whether the process carried on by the assessee is a secret process. On this question, we have weighed the elaborate arguments advanced by both the sides carefully and hold that so far as the transponder technology is concerned there appears to be no "secret technology", known only to a few. There is evidence adduced before us to show that the technology is even available in the form of published literature/book from which a person interested in it can obtain knowledge relating thereto. There is no evidence led from the side of the Department to show that the transponder technology is secret, known only to a few, and is either protected by law or is capable of being protected by law. This aspect of the matter was not required to be considered by the Tribunal in the case of Asia Satellite Telecommunication Co. Ltd. (supra) because the view taken by the Tribunal was that there was no requirement in clause (iii) of Explanation 2 below section 9(1)(vi) of the Act that the process involved, for which the payment is being made, should be a secret process. But in the view we have taken on the language employed by article 12.3(a) of the treaty coupled with the punctuation and the setting and surrounding words, the payment would be considered as royalty only if it is made for the use of a secret process. Since there is nothing secret about the process involved in the operation of a transponder, the payment for the use of the process assuming it to be so does not amount to royalty."
5.18 Similar issue came up before Hon'ble Delhi Tribunal in case of Bharti Airtel vs.ITO (TDS) reported in (2016) 67 taxmann.com
223. The issue considered therein was in respect of payment towards call interconnectivity charged for call transmission on Page 26 of 27 IT(IT)A No. 669/Bang/2023 foreign network. The Tribunal therein, on applying ratios pronounced in the above referred decisions, held it not as 'Royalty'.
Therefore in our opinion, the Payments made by the Indian AE in view of services provided by the assessee cannot fall within the ambit of 'Royalty' under section 9(1)(vi) Explanation 5 &6.
5.19 Admittedly, there is no treaty between India and Hong Kong during the relevant assessment year, the country of which the assessee is a tax resident. Therefore, the assessee's receipt has to be analysed under the Income Tax Act alone.
Further, there is nothing on record brought by the revenue to establish a PE of the assessee in India. Under such circumstances, the receipt by the assessee is taxable as business income as per the Laws of Germany.
Accordingly, the grounds raised by the assessee stands allowed. In the result, the appeal filed by the assessee stands allowed. Order pronounced in the open court on 25th April, 2024.
Sd/- Sd/-
(CHANDRA POOJARI) (BEENA PILLAI)
Accountant Member Judicial Member
Bangalore,
Dated, the 25th April, 2024.
/MS /
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Copy to:
1. Appellant 2. Respondent
3. CIT 4. DR, ITAT, Bangalore
5. Guard file 6. CIT(A)
By order
Assistant Registrar,
ITAT, Bangalore