Income Tax Appellate Tribunal - Mumbai
Agfa Healthcare Nv, Mumbai vs Deputy Commissioner Of Income Tax ... on 31 August, 2018
IN THE INCOME TAX APPELLATE TRIBUNAL
"L" BENCH, MUMBAI
BEFORE SHRI SAKTIJIT DEY, JUDICIAL MEMBER AND
SHRI N.K PRADHAN, ACCOUNTANT MEMBER
ITA no.6740/Mum./2017
(Assessment Year : 2014-15)
Agfa Healthcare N.V.
C/o Deloitte Haskins & Sells LLP
Tower-3, 27th to 32nd Floor
Indiabulls Financial Centre ................ Appellant
Elphinstone Mills Compound
Senapati Bapat Marg
Mumbai 400 013 PAN - AAICA8105D
v/s
Dy. Commissioner of Income Tax (I.T)
................ Respondent
Circle-1(1)(1), Mumbai
Assesseeby : Shri Girish Dave a/w
Ms. Kadambari Dave
Revenue by : Shri M.V. Rajguru
Date of Hearing - 11.06.2018 Date of Order - 31.08.2018
ORDER
PER SAKTIJIT DEY, J.M.
Aforesaid appeal by the assessee is directed against assessment order dated 27th October 2017, passed under section 143(3) r/w 144C(13) of the Income Tax Act, 1961 (for short ―the Act‖) for the assessment year 2014-15 in pursuance to the directions of the Dispute Resolution Panel (DRP)-1, Mumbai.
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Agfa Healthcare N.V.
2. The assessee has raised five grounds.
3. Shri Girish Dave, learned Counsel for the assessee, at the outset, submitted that ground no.3 is not pressed, since, the Assessing Officer has already granted relief to the assessee by applying the correct rate of tax. In view of the submissions by the learned Counsel for the assessee, this ground is dismissed.
4. In ground no.1, the assessee has challenged the taxability of ` 2,01,63,957, received for provision of information and communication services (ICS) as royalty under section 9(1)(vi) of the Act as well as under India-Belgium Double Taxation Avoidance Agreement (DTAA).
5. Brief facts are, the assessee is a tax resident of Belgium and is in the business of production and sale of health and digital imaging solutions. In short, assessee is a manufacturer of magnetic resonance imaging (MRI) machines. For the assessment year under dispute, the assessee filed its return of income on 29th November 2013 disclosing nil income. During the assessment proceedings, the Assessing Officer called for various information and documents and on examining them he found that, though, assessee has earned income from provision of ICS to its Indian Group company viz. Agfa Healthcare India Pvt. Ltd. (AHIPL)during the relevant previous year, however, it has not offered to tax such income. Thus, he called upon the assessee to explain why 3 Agfa Healthcare N.V. the income earned from the Indian Group company should not be made taxable in India. In response, it was submitted by the assessee that the Indian Group Company (AHIPL) has entered into a business agreement with Agfa-Gevaert N.V. for provision of ICS. Subsequently, due to internal re-organization of the provision of ICS with Agfa Group, the ICS agreement was transferred to the assessee company vide tripartite novation agreement between Agfa Gevaert N.V., AHIPL and the assessee. Describing the nature of various services provided by the assessee to AHIPL as per the agreement it was submitted that assessee provides services / support requested by AHIPL in relation to use of SAP, Remote Access Services, Software Support Services, Application Support Services, WAN Services, P.C. Support Services, Mail and Calendaring Services, etc. It was submitted that ICS is a global shared service providing solutions worldwide for the needs in information and communication services of the Agfa Group worldwide. Agfa ICS servers are developed and maintained in Belgium. The ICS team serves all the Agfa associates and affiliates including AHIPL and has a total count of 296 people which includes 86 Manager level personnel and 210 employee level personnel. It was submitted that the roles and responsibilities of the ICS team includes assisting internal users and external customers about the changes to, or introduction of new services. The services are rendered from Belgium 4 Agfa Healthcare N.V. and no employee travels to India for rendering the services. It was submitted that no specific resources are dedicated to render services only to AHIPL or any other Agfa Group Company. The queries raised by the users are answered by the first available resources in the ICS team. Describing further the manner in which ICS is rendered, it was submitted that it is not in the nature of fees for technical services (FTS) as per Article-12(3)(b) of India-Belgium DTAA r/w clause-1 of the protocol of the said DTAA, since, the assessee has neither made available technical knowledge, experience, skill, knowhow of process to AHIPL nor consist of the development and transfer of a technical plan or technical design. Thus, it was submitted that the receipts cannot be taxed as FTS. Further, it was submitted that the receipts cannot even be treated as royalty under Article-12(3)(a) of the India- Belgium DTAA, as, by providing ICS services the assessee has not transferred any right of exclusive user relating to copyright, patent, trademark, design or model, plan, secret formula or process, etc. Thus, it was submitted that the receipts from ICS cannot be taxed either as FTS or royalty. The Assessing Officer after considering the submissions of the assessee, however, was not convinced with them. In support of its submissions, the assessee relied upon a number of decisions.
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Agfa Healthcare N.V.
6. Though, the Assessing Officer agreed with the assessee that the receipts from ICS cannot be treated as FTS as per Article-12(3)(b) of the India-Belgium DTAA r/w clause-1 of the Protocol to the India- Belgium Tax Treaty and Article-13(4) of the Tax Treaty, however, he held that the amount received from AHIPL for provision of ICS is in relation to use of computer software and/or for the use of process or for rendering of services in relation to those items. Referring to Explanation-4 to section 9(1)(vi) of the Act, the Assessing Officer observed that as per the said Explanation transfer of right to use a computer software would come within the purview of royalty as per section 9(1)(vi) of the Act. Accordingly, he concluded that the amount received from ICS is taxable as royalty both under the Income Tax Act, 1961 as well as India-Belgium DTAA and added back the amount of ` 2,01,63,957. Being aggrieved of such addition made in the draft assessment order, the assessee raised objections before the DRP.
7. The DRP, after considering submissions made by the assessee, observed that the services provided by the assessee is not limited to rendering of on-call services like removing problems and attending complaints. The DRP observed that AHIPL does not have computer related set-up and the entire trading related process has been out sourced to the assessee. The assessee has developed an elaborate SAP based platform comprising of hardware and software along with 6 Agfa Healthcare N.V. cloud space which is owned by it and AHIPL is granted access to this platform on payment of fee. The DRP observed that the fees paid by AHIPL is not for any on-call service but for utilizing a comprehensive platform developed by the assessee through which AHIPL conducts its business. Thus, the platform provided to the assessee is in the form of a technical plan or process and the assessee has been granted a right to use it. The DRP referring to Article-12(3) of India-Belgium DTAA ultimately concluded that the payment made to the assessee for ICS is in the nature of royalty. Accordingly, it upheld the decision of the Assessing Officer.
8. The learned Authorised Representative drawing our attention to the original service agreement and the subsequent tripartite novation agreement submitted that this agreement has been entered into by the assessee with all distributors across the globe including the assessee and the term of the agreement is for one year. The learned Authorised Representative taking us through different clauses of the agreement explained the nature of services to be performed by the assessee. Drawing our attention to submissions made before the Assessing Officer, a copy of which is at Page-68 of the paper book, submitted that in the process of rendering such services no technology has been made available by the assessee to AHIPL and the entire services were performed outside India. Referring to Article-12(3)(a) of 7 Agfa Healthcare N.V. India-Belgium DTAA, the learned Authorised Representative submitted, as per the definition of royalty under the treaty any payment made by 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 it will be in the nature of royalty. He submitted, as per the terms of the agreement the nature of ICS provided by the assessee to AHIPL does not involve transfer of any right of exclusive user or right to use of any copyright, patent, trade mark, design or model, plan, secret formula or process, etc., as per Article-12(3)(a) of tax treaty. He submitted, treating the payment received towards ICS services as royalty by taking recourse to Explanation-4 of section 9(1)(vi) of the Act is also improper, as no such provision akin to Explanation-4 of section 9(1)(vi) has been incorporated in India-Belgium tax treaty to enlarge the scope of the expression ―Royalty‖ as defined under Article-12(3)(a). Thus, he submitted, in such circumstances the definition of royalty under India- Belgium tax treaty should prevail over the definition of royalty as per section 9(1)(vi) r/w Explanation-4 of the Act. Hs submitted, though, the aforesaid submission was made before the DRP, however, it was totally overlooked. In support of his submission learned Authorized Representative relied upon a number of decisions as submitted in a compilation.
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Agfa Healthcare N.V.
9. The learned Departmental Representative relied upon the observations of the DRP and the Assessing Officer.
10. We have considered rival submissions and perused materials on record. It is evident from material on record, both the assessee and the Department are in agreement that the receipts from ICS is not in the nature of FTS as per Article-12(3)(b) of the India-Belgium DTAA as well as section 9(1)(vii) of the Act. Therefore, there is no need to deliberate on the issue as to whether the payment received by the assessee from ICS is in the nature of FTS. The only issue which requires examination is, whether the payment received by the assessee towards ICS from AHIPL can be treated as royalty under Article-12(3)(a) of India-Belgium DTAA. In case such payment does not come within the ambit of royalty as defined under Article- 12(3)(a), it cannot be brought to tax by treating it as royalty under section 9(1)(vii) of the Act, since, as per section 90(2) of the Act, the treaty provisions being more beneficial will prevail over the provisions of the Act. The term royalty has been defined under Article-12(3)(a) of the India-Belgium DTAA as under:-
―3(a) The term ―royalties‖ as used in this article means payments of any kind received as a consideration for the use of or the right to use, any copyright of literary, artistic or scientific work including cinematograph films, any patent, trade mark, design or model, plan, secret formula or 9 Agfa Healthcare N.V. process, or for information concerning industrial, commercial or scientific experience.‖
11. A reading of the aforesaid provision makes it clear that the payment received for use of or right to use of any copyright of literary artistic or scientific work including cinematograph films, patent, trademark, design or model, plan, secret formula or process or information concerning industrial, commercial or scientific experience is to be treated as royalty. As could be seen, the aforesaid definition does not refer to transfer of any right for use or right to use a computer software. As per section 9 of the Act certain categories of would be deemed to accrue or arise in India. One such income as per section 9(1)(6) is "royalty". In case of a non resident if the royalty is payable in respect of any right, property or information used or services utilised for the purpose of a business or profession carried out in India or for the purpose of making or earning any income from any source in India, it will be taxable. Explanation-2 to section 9(1)(vi) of the Act defines royalty 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;10
Agfa Healthcare N.V.
(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;
(iv) the imparting of any information concerning technical, industrial, commercial or scientific knowledge, experience or skill ; [(iva) the use or right to use any industrial, commercial or scientific equipment but not including the amounts referred to in section 44BB;]
(v) the transfer of all or any rights (including the granting of a licence) in respect of any copyright, literary, artistic or scientific work including films or video tapes for use in connection with television or tapes for use in connection with radio broadcasting, but not including consideration for the sale, distribution or exhibition of cinematographic films; or
(vi) the rendering of any services in connection with the activities referred to in sub-clauses (i) to 25[(iv), (iva) and](v).‖
12. A reading of the definition of royalty in Explanation-2 to section 9(1)(vi) makes it clear that, though, the definition of royalty is wider than the definition provided under Article 12(3)(a) of the DTAA, however, it does not specifically refer to computer software. However, subsequently, by finance Act, 2012, Explanation-4 was introduced to section 9(1)(vi) with retrospective effect from 1st June 1976 which reads as under:-
―Explanation 4.--For the removal of doubts, it is hereby clarified that the transfer of all or any rights in respect of any right, property or information includes and has always included transfer of all or any right for use or right to use a computer software (including granting of a licence) irrespective of the medium through which such right is transferred.‖ 11 Agfa Healthcare N.V.
13. Thus, by virtue of above Explanation, the scope and ambit of the term royalty was further expanded to also include transfer of all or any right for use or right to use computer software irrespective of the medium through which such right is transferred. It is relevant to observe, by referring to Explanation-4 of section 9(1)(vi) of the Act the Assessing Officer has concluded that the amount received by the assessee from ICS is in the nature of royalty, since, such services are in relation to computer software and / or for the use of process or for rendering services in relation to those items. Notably, the aforesaid Explanation-4, though, was introduced to section 9(1)(vi) of the Act with retrospective effect from 1st June 1976, however, there is no such corresponding amendment made to the definition of royalty in India- Belgium DTAA through introduction of a similar Explanation like Explanation-4 to section 9(1)(vi) of the Act. Therefore, assessee's contention that in the absence of a provision similar to Explanation-4 to section 9(1)(vi) of the Act in the India-Belgium DTAA, payment made for use or right to use of computer software cannot be treated as royalty under the tax treaty, requires to be considered objectively and with all seriousness as it has a crucial bearing on the ultimate taxability of the amount received towards ICS. Though, the aforesaid contention was raised by the assessee before the Departmental Authorities, however, they have completely ignored such contentions 12 Agfa Healthcare N.V. made by the assessee. Decisions relied upon by assessee and their applicability to the disputed issue has not been considered. This, in our view, is improper and against the principles of natural justice. Further, on a careful scrutiny of the order of the DRP we find its finding on the issue of royalty vis-a-vis Article-13(1)(a) of India-Belgium DTAA to be contradictory. While dealing with the taxability of amount received towards ICS, though, the DRP has observed that the nature of payment is royalty even under Article-12(3)(a) of the Tax Treaty, however, while dealing with the issue relating to taxability of amount received towards sale of software along with equipment, the DRP in Para-5.10 of the order has observed that the definition of royalty under the India-Belgium DTAA will not be applicable and the definition of royalty under the Act, after the amendment brought through Finance Act, 2012, would be applicable. Thus, as per the DRP's own finding, there is a distinction between the definition of royalty under the Act and the India-Belgium DTAA. In such circumstances, assessee's contention that the expanded definition of royalty after introduction of Explanation-4 to section 9(1)(vi) would not apply to assessee's case in absence of corresponding amendment in Article- 12(3)(a) should have been considered by the Assessing Officer and the DRP keeping in view the relevant case laws on the issue. However, neither the Assessing Officer nor the DRP have done such exercise. In 13 Agfa Healthcare N.V. view of the aforesaid, we restore the issue to the file of the Assessing Officer for denovo adjudication after due opportunity of being heard to the assessee keeping in view our observations herein above. This ground is allowed for statistical purposes.
14. In ground no.2, the assessee has challenged addition of ` 11,28,51,401, received from sale of software as royalty.
15. Brief facts are, in the course of assessment proceedings,the Assessing Officer noticed that the assessee has earned receipts from sale of software licenses provided along with the equipment / hardware sold in India. However, such receipts from sale of software licenses were not offered as income. Therefore, the Assessing Officer called upon the assessee to explain why such receipt from sale of software should not be treated as royalty and brought to tax. In response, it was submitted that the assessee has sold imaging equipment (MRI machines) which require specific software to activate / run the equipment which is required to be installed on the systems of the ultimate customers (end users). It was submitted that the software licenses are always sold along with the sale of equipment / hardware. When the equipment is installed at the customer's premises, the software is activated by using the code provided along with the equipment. Thus, the licensing of software follows the 14 Agfa Healthcare N.V. purchase of equipment, meaning thereby, sale of software is inextricably linked to the sale of equipment. The equipment and software put together constitute one single product sold by the assessee. It was submitted that without the relevant software the hardware component cannot function and is redundant. Similarly, the software does not have any independent use and merely facilitates the functioning of the equipment / hardware. Thus, it was submitted that the sale of software licenses cannot be considered as standalone transaction de-hors the sale of equipment. Thus, it was submitted that the sale of software cannot be treated as royalty either under section 9(1)(vi) of the Act or under Article-12(3)(a) of India-Belgium DTAA. Further, it was submitted, the software being embedded to hardware, it has to be considered as part of the hardware, hence, cannot be treated as royalty both under the Act as well as DTAA. In support of such contention, assessee relied upon a number of decisions.
16. The Assessing Officer, however, did not find merit in any of the submissions made by the assessee. The Assessing Officer observed that the assessee owns the right, title and interest over the software and the assessee has received consideration for transfer of all or any right for use or right to use of the computer software. Therefore, the consideration has to be treated as royalty. In support of such conclusion, the Assessing Officer referred to Explanation-4 and 15 Agfa Healthcare N.V. Explanation-2(iii) to section 9(1)(vi) of the Act. Thus, he held that the receipt from sale of software is to be treated as royalty as per the provision of section 9(1)(vii) of the Act. Further, referring to Article- 12(3)(a) of India-Belgium DTAA the Assessing Officer held that the amount received by the assessee is to be treated as royalty under the DTAA, since, the expression literary or scientific work include software which is protected under a copyright. Accordingly, he brought to tax the amount of ` 11,28,51,401. Though, the assessee objected to the aforesaid addition before the DRP while bringing to notice of the DRP that in case of the payer the Tribunal has held the payment as not in the nature of royalty, however, the DRP did not consider the submissions of the assessee favorably. The DRP observed, the Assessing Officer has found that in the invoices raised by the assessee sale of software was separately charged. The DRP observed, though the software is pre-loaded with the hardware, however, it is not accessible to the purchaser unless he expressly makes the purchase of software which leads to making available of an activation key for using the software. Therefore, the software cannot be held to be an integral component of the equipment sold. Further, the DRP observed that other than the operating system of the equipment the purchaser has a flexibility to either opt for the software or not. If the purchaser opts for the software he pays the price for the same. Finally, the DRP observed 16 Agfa Healthcare N.V. that the assessee has not provided the details of third party owners of the software, therefore, the definition of royalty under India-Belgium DTAA will not apply. Thus, on the basis of the aforesaid reasoning, the DRP upheld the addition made by the Assessing Officer.
17. The learned Authorised Representative submitted, sale of MRI machines along with embedded software was carried out by the assessee in India through AHIPL. He submitted, for this purpose the assessee has entered into a distribution agreement with AHIPL which is treated as local sales organization (LSO). In this context, he drew our attention to a copy of the said agreement at Page-46 of the paper book. Referring to Article-2 of the agreement, the learned Authorised Representative submitted that the assessee explicitly reserves the right to sell the products directly and to invoice those sales directly to the customers without intervention of the LSO and the LSO is eligible for an agency commission of 3% on the sales effected directly to third party customers in India. Referring to the restrictions and obligations of the parties under the agreement, the learned Authorised Representative submitted, while the assessee is required to supply the LSO with all necessary information for the sale and service of the product, technical back-up, training to employees, necessary sample and demo material, the LSO is required to purchase the product from the assessee only and shall not purchase any similar or closely related 17 Agfa Healthcare N.V. product from any other party without the prior written consent of the assessee during the tenure of the agreement. The LSO is also required to make sales forecast for the product. He submitted, under the terms of the agreement, LSO is required to bear the re-structuring cost relating to the business or the operations of the LSO. He submitted, the agreement between the parties was for indefinite period and the trade mark of the equipment lies with the assessee. The learned Authorised Representative submitted, along with the machine operating software is also provided which is embedded to the system. He submitted, the software provided with the equipment is customer specific and the key to operate the software is given to the end user. He submitted, neither the equipment can operate without software which is in-built nor the software has independent existence. The learned Authorised Representative submitted, charging of price separately in the invoice is purely for the purpose of custom duty and nothing else. He submitted, for that reason alone it cannot be said that the assessee has sold the software independently. The learned Authorised Representative submitted, in case of LSO i.e., AHIPL the Assessing Officer while examining the nature of payment made to the assessee for sale of software treated it as royalty and held that AHIPL was required to deduct tax at source. AHIPL having not deducted tax while making such payment to the assessee, the Assessing Officer 18 Agfa Healthcare N.V. passed orders under section 201(1) and 201(1A) of the Act for assessment years 2008-09 to 2012-13 holding that the payment made to the assessee being of the nature of royalty, AHIPL was required to deduct tax at source, under section 195 of the Act. The learned Authorised Representative submitted, when the disputed issue ultimately reached Tribunal, the Tribunal held that the payment made by AHIPL to the assessee is not in the nature of royalty, hence, there is no need to deduct tax at source. The aforesaid decision was again followed by the Tribunal in case of AHIPL (LSO) while deciding the issue in assessment year 2013-14 and 2014-15. He drew our attention to the relevant observations of the Tribunal on the issue. Thus, he submitted, that once it is held in case of the payer that the payment made for sale of software is not in the nature of royalty, it covers the issue in case of the assessee as well. Thus, he submitted, the payment received by the assessee cannot be treated as royalty and brought to tax.
18. The learned Departmental Representative relied upon the observations of the DRP and the Assessing Officer.
19. We have considered rival submissions and perused materials on record. Undisputedly, the amount of ` 11,28,51,401, brought to tax as royalty was received by the assessee from AHIPL towards sale of 19 Agfa Healthcare N.V. software embedded with the imaging equipment / MRI machines for operating them. It is evident, the Departmental Authorities have treated the amount received from sale of software as royalty primarily for the reason that the amount for sale of software has been charged separately in the invoices raised. Notably, while examining the nature of the aforesaid payment in case of AHIPL, the distributor of the assessee, in assessment year 2008-09 to 2012-13, the Assessing Officer was of the view that the payment made is in the nature of royalty, hence, required deduction of tax at source under section 195 of the Act. The assessee having not deducted tax at source the Assessing Officer passed orders under section 201 of the Act raising demand against AHIPL. The reasoning on which the Assessing Officer concluded that the payment made by AHIPL to the assessee is in the nature of royalty are identical to the reasoning on which the Assessing Officer and the DRP held the payment made as royalty in case of the present assessee. When the dispute ultimately came up for consideration before the Tribunal in ITA no.216 to 218/Pun./2014, etc., the Tribunal, after taking into consideration all material facts and provisions of Act as well as the provisions of India-Belgium DTAA vide order dated 31st May 2017 ultimately concluded that the amount paid by the AHIPL to the assessee cannot be treated as royalty. The observations of the Tribunal, Pune Bench, in this regard are as under:- 20
Agfa Healthcare N.V. ―18. Now, the next question which arises for consideration is, Whether the part of payments made for purchase of equipment would also include payment for ‗Royalty' in respect of software received along with the equipment. In the instant case, the authorities below have fasten the tax liability on the assessee on the presumption that the payment towards the acquisition of software is in the nature of ‗Royalty'. Since, the assessee has failed to deduct tax at source on such payment the assessee has violated the provisions of section 195 of the Act.
The term ‗Royalty' has been defined in Explanation 2 to section 9(1)(vi) of the Act. The same is reproduced here-in-below :
―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 ;
(iv) the imparting of any information concerning technical, industrial, commercial or scientific knowledge, experience or skill ;
(v) the use or right to use any industrial, commercial or scientific equipment but not including the amounts referred to in section 44BB;
(vi) the transfer of all or any rights (including the granting of a licence) in respect of any copyright, literary, artistic or scientific work including films or video tapes for use in connection with television or tapes for use in connection with radio broadcasting, but not including consideration for the sale, distribution or exhibition of cinematographic films ; or
(vii) (vi) the rendering of any services in connection with the activities referred to in sub-clauses (i) to 76[(iv), (iva) and] (v).‖
19. The assessee during the period relevant to the assessment year under appeal had transaction with vendors of AGFA 21 Agfa Healthcare N.V. equipments from Australia, Canada and Belgium. The provisions of ‗Royalty' and fee for technical service in DTAA between India and above said countries is concerned is on same lines. The term ‗Royalty' has been defined in Article 12(3)(a) of DTAA between India and Belgium. The same is reproduced here-in-under :
―3. 1[(a) The term "royalties" as used in this article means payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work including cinematograph films, any patent, trade mark, design or model, plant, secret formula or process, or for information concerning industrial, commercial or scientific experience.]‖ A perusal of the definition of Royalty as defined under the Act is exhaustive as compared to the definition of ‗royalties' under Article 12(3)(a) of the DTAA. It is a well settled law that where the provisions of DTAA favour the assessee, the provisions of DTAA would override the provisions of the Act.
20. The case of the Revenue is that the assessee has made payment for acquiring the right to use software. The authorities below have also made observations in their respective orders about the source code of the software and have further stretched the softwares to equate it with secret formula or secret process, so as to bring the transaction with respect to purchase of software in the present case within the ambit of ‗royalty'.
We have already held that the software is embedded in the equipment and is inextricable linked to the working of imaging equipment, therefore, payment for software cannot be separated from consolidated payment of equipment. Nevertheless, to put this issue in clear prospective we would take to refer to the decision of Mumbai Bench of the Tribunal in the case of Galatea Ltd. Vs. Deputy Commissioner of Income Tax (supra) wherein similar issue was raised. The Tribunal after considering the facts of the case and catena of judgments held that where software is part of equipment there is no question for segregating the payment for software. And such payments do not fall within the ambit of Royalty. The relevant extract of the decision of Tribunal is reproduced here-in-under :
―16. The first part of the argument made by the Ld. Counsel for the assessee is that the impugned consideration was received on account of sale of machine along with requisite software which formed integral part of machines sold by it to the customers. The whole dispute arose merely because value of software was separately mentioned. But, there was no separate transaction of 22 Agfa Healthcare N.V. sale of software and, therefore, it was predominantly transaction of sale of machine and, therefore, it could not have been brought within the definition of ―Royalty‖ as envisaged in section 9(1)(vi) of the Act and, therefore, in the absence of there being any P.E. of the assessee in India, the income arising from sale of machine could not have been taxed in its hands in India.
17. We have carefully analyzed the facts of the case and arguments made by the Ld. Counsel for the assessee as well as counter arguments made by the Ld. Departmental Representative.
The undisputed facts before us are that none of the customers have purchased only machine or only software. There was no customer who purchased only software. Ld. Counsel for the assessee drew our attention on various pages of the paper book to establish that the machine sold by the assessee could not be made operational or functional in the absence of operating software along with the application software. These facts were not controverted by the Ld. Departmental Representative during the course of hearing in response to a specific query put to him by the Bench. It is noted that complete details have been given by the assessee in the paper book at Page-222 and 224. Our attention was also drawn on certificate from the assessee enclosed at Page-225 of the paper book certifying that software supplied by the assessee to end user was for integration with the machine supplied by the assessee and that this software had no other independent use as such, except to enable such machine to function. We have also gone through the End User License Agreement (EULA) entered into by the assessee with the customers wherein there are various clauses which indicate that the software supplied by the assessee was meant only and exclusively for the purpose of making the said machine functional. Clause 2.1 of the agreement provides that customer is granted non-exclusive, non-transferable limited license to use the software and related knowhow on the machine for the sole purpose of scanning the internal / external feature of rough diamond and creating a three dimensional image of these features of rough diamond. Clause 2.2 of the agreement puts certain restrictions upon the customers for any other use of the software in any other machine. This clause restrains the customer from duplicating the software or making any copies, modifications, isolating the software and making it available as a standalone data base or product, removing any product identification, copyright or other proprietary notice from the software or decompiling, disassembling, reverse engineering, or making any other attempt to reconstruct or discover the source code, etc. This clause clearly lays down that customer shall not reproduce the software or any of the documentation provided in connection with the software or related knowhow. It is further noted that clause 23 Agfa Healthcare N.V. 6.2 of the said agreement lays down that the assessee is and shall remain sole and exclusive owner of the right, title and interest in the software and related know. This software cannot be used by the customer except for the operation of the machine. It is further noted by us that the machine was equipped with requisite security controls and hardware locks to stop any type of misuse of software. Clause 10.2 of one of the agreement available at Page-49 is reproduced hereunder for the sake of ready reference:-
―10.2 SARIN INDIA acknowledges that GALATEA may use software and/or hardware locks or other protective mechanisms to regulate the use of software. SARIN INDIA shall not evade or override such software/hardware locks or protective devices and shall immediately inform GALATEA upon learning that any user has defeated such devices. SARIN INDIA agrees to cooperate fully with GALATEA in its efforts to protect Software from unlawful or unauthorized use.‖
18. From the aforesaid facts and features of the transactions analysed by us, it could be concluded that the customer was not interested in the hardware alone or in the software alone. He was interested in the system as a whole and functioning of the machine. Operating software enable the machine to run and the application of software made functioning of the machine possible.
It is an undisputed fact that the software which was loaded onto the hardware did not have any independent existence as such. The software supplied was ostensibly and undisputedly an integral part of the hardware. Now, since the hardware and software constituted one integrated system, part of the payment thereof cannot be earmarked towards sale of hardware and the other part towards ―Royalty‖ for use of software as such. Thus, in our considered view, the dominant character and essence of the transaction was sale of machine by the assessee. The software, independently, had no value for the customer. He was concerned with as only the functioning of the machine and benefits of use provided by machine.
19. The only argument given by the Ld. Departmental Representative to counter the submissions of the Ld. Counsel for the assessee was that in this case, payment was made separately for the software at the time of sale of machine as well as subsequently and that software was provided by e-mail and, therefore, separate treatment should be given to the software. In our considered opinion, argument of the Ld. Departmental Representative would not be sustainable under the law. The dominant and fundamental character of the transaction shall not be altered because of these two features only. The break-up of 24 Agfa Healthcare N.V. invoice value of hardware and software may be as a result of some other legal requirement or as a matter of convenience or an agreement between buyer and seller. It has been submitted that separate values were given for the purpose of proper assessment of custom duty to be levied at the time of imports of the machines. Further, software has been supplied separately by e- mail for various security reasons and to enable the customer to have the benefits of updated technologies. Similarly, separate payments have been made at the time of sale and subsequently by customer as a matter of terms between both the parties keeping in view various factors such as financial and administrative convenience and commercial expediency. The dominant and essential character of the transaction was sale of machine by the assessee and purchase of the same by the customer, and it shall remain the same with or without these two features.‖
21. The Kolkata Bench of the Tribunal in the case of HITT Holland Institute of Traffic Technology B.V. Vs. Deputy Director of Income Tax (supra) while dealing with somewhat similar issue has held that where software is imbedded in equipment supplied for mere purpose of operating equipment, it is not a case giving independent right to use software, amount paid for supply of software is not taxable in India as ‗Royalty' u/s. 9(1)(vi) of the Act.
22. Thus, in view of the facts of the case, documents on record and the various decisions discussed above, we are of the considered view that the software is imbedded in the imaging equipment and inseparable part of hardware. The software without the equipment and the equipment without the software cannot put to use independently. The software and the machine is customer specific and is licensed to the end user. Under such circumstances there is no question of segregating any part of consideration paid for equipment and the software. Accordingly, the grounds raised by the assessee in appeals are allowed. Our view is further fortified by the decision of the Hon'ble Delhi High Court in the case of Commissioner of Income Tax Vs. ZTE Corporation (supra) has held :
―22. ..........The supplies made (of the software) enabled the use of the hardware sold. It was not disputed that without the software, hardware use was not possible. The mere fact that separate invoicing was done for purchase and other transactions did not imply that it was royalty payment. In such cases, the nomenclature (of license or some other fee) is indeterminate of the true nature. Nor is the circumstance that updates of the 25 Agfa Healthcare N.V. software are routinely given to the assessee's customers. These facts do not detract from the nature of the transaction, which was supply of software, in the nature of articles or goods. This court is also not persuaded with the submission that the payments, if not royalty, amounted to payments for the use of machinery or equipment. Such a submission was never advanced before any of the lower tax authorities; moreover, even in Ericson (supra), a similar provision existed in the DTAA between India and Sweden.‖
23. Thus, in view of the facts of the case and the case laws discussed above we hold that in the payment made for purchase of imaging equipment there is no element of payment of Royalty. Since, there was no payment of Royalty, there is no question of deducting withholding tax by the assessee under the provisions of section 195 of the Act. As a corollary to our above findings the proceedings u/s. 201(1) and (1A) are liable to be quashed.‖
20. Following the aforesaid decision, the Tribunal, while deciding the identical issue in case of payer AHIPL for assessment year 2013-14 and 2014-15 in ITA no.2465 & 2466/Pun./2016, held that the amount paid by AHIPL to the assessee for sale of software is not in the nature of royalty. Once it was held by the Tribunal in case of the payer that the payment made to the assessee towards sale of software is not in the nature of royalty, that too, for the very same assessment year, it cannot be treated as royalty in case of the assessee, as the payment relates to the very same transaction. Therefore, in our considered opinion, the decision of the Tribunal in case of AHIPL (supra) covers the issue in favour of the assessee. Respectfully following the aforesaid decision of the Tribunal, Pune Bench, we hold that the payment received by the assessee from AHIPL towards sale of software is not in the nature of royalty, hence, not taxable. This ground is allowed. 26
Agfa Healthcare N.V.
21. Grounds no.4 and 5 being consequential do not require adjudication.
22. In the result, assessee's appeal is partly allowed.
Order pronounced in the open Court on 31.08.2018
Sd/- Sd/-
N.K. PRADHAN SAKTIJIT DEY
ACCOUNTANT MEMBER JUDICIAL MEMBER
MUMBAI, DATED: 31.08.2018
Copy of the order forwarded to:
(1) The Assessee;
(2) The Revenue;
(3) The CIT(A);
(4) The CIT, Mumbai City concerned;
(5) The DR, ITAT, Mumbai;
(6) Guard file.
True Copy
By Order
Pradeep J. Chowdhury
Sr. Private Secretary
(Sr. Private Secretary)
ITAT, Mumbai