2023 (1) TMI 365 - AT - Income Tax

Addition on account of income from domain registration services - Royalty receipt - whether the income earned by the assessee who is a Registrar from domain name registration will be taxable as royalty under the provisions of the Act or DTAA? -AO has treated the amount received from domain name registration taxable in India as royalty on the basis that the domain name is an intangible asset in the nature of trademark - HELD THAT - Domain name is an internet network address that is readable in human language. Domain names are formed by the rules and procedures of the Domain Name System ( DNS ). Any name registered in the DNS is a domain name. In general a domain name represents an Internet Protocol ( IP ) resource. Computers or any other internet resources communicate by using numbers called IP addresses to contact each other. Domain names serve to identify such internet resources with a text base label that is easier to memorise than the numerical addresses used in the Internet Protocols. Domain names are also used as simple identification labels to indicate ownership or control of a resource. We are of the considered opinion that since the assessee had no right in the domain name the income received by the assessee from domain name registration does not fall in the category of royalty as defined under Article 12(3) of the India UAE DTAA. Further once the taxability fails in terms of the treaty provisions there is no occasion to refer to the provisions of the Act as in terms of section 90(2) the provisions of the Act or the DTAA whichever is more beneficial to the assessee shall be applicable. Decision of Godaddy.com 2018 (4) TMI 390 - ITAT DELHI relied upon by the AO is factually distinguishable as in that case the taxpayer did not claim any benefit under the tax treaty. Hence the AO is directed to delete the addition on account of income from domain registration services. Accordingly ground No. I raised in assessee s appeal is allowed. Addition on account of income from web hosting services - independent right to use the server space - HELD THAT - As per the assessee the consideration paid is for use of the server space and the customers neither have an independent right to use the server space nor have physical access to it. Further there is no right to use the technology platform nor there is any grant of license to use the platform. We find that the term royalty is not as widely defined in the India UAE DTAA as the same has been defined under the provisions of the Act. After the insertion of Explanation 5 to section 9(1)(vi) of the Act by Finance Act 2012 the possession or control or location of the right property or information is not relevant under the provisions of the Act. However we find that similar amendment has not been carried out in the provisions of India UAE DTAA. In DIT vs New Skies Satellite BV 2016 (2) TMI 415 - DELHI HIGH COURT held that unless the DTAA is amended jointly by both parties Finance Act 2012 which inserted Explanations 4 5 and 6 to section 9(1)(vi) by itself would not affect the meaning of term royalty as mentioned in the DTAA. Therefore in absence of a grant of any control over the equipment belonging to the assessee to its customers the findings of the AO that the amount so received will constitute royalty is not acceptable in view of the provisions of Article 12(3) the India UAE DTAA No basis in linking the taxability of income from web hosting services with income from domain registration services by the AO as both are independent and mutually exclusive. Hence the AO is directed to delete the addition on account of income from web hosting services. Accordingly ground No. II raised in assessee s appeal is allowed. Addition on account of sponsorship income - Directions issued by the DRP to the AO to pass a speaking order - HELD THAT - As under section 144C(8) of the Act the DRP may confirm reduce or enhance the variation proposed in the draft assessment order however it cannot set aside any proposed variation or issue any direction for further enquiry and passing of the assessment order. Thus we find that the directions issued by the DRP to the AO to pass a speaking order in respect of the existence of permanent establishment is completely contrary to the provisions of section 144C(8) of the Act. Earning sponsorship income from the sponsors was consequential to the advertising event in the 2 days conference. In the present case there cannot be any dispute that organising such an event is not the core business activity of the assessee - under Article 5 of India UAE DTAA the term permanent establishment means of a fixed place of business through which the business of an enterprise is wholly or partly carried on. In the present case firstly mere conducting of a conference only for 2 days in India cannot be said to be a fixed place of business and secondly as noted above conducting a conference is not the core business activity of the assessee. Even if at all it can only be considered to be in the nature of the preparatory or auxiliary activity which has been specifically excluded from the definition of permanent establishment under Article 5(3) of the India UAE DTAA. In absence of the permanent establishment of assessee in India the sponsorship income cannot be taxed in India as business income. Accordingly in view of aforesaid findings the AO is directed to delete the addition on account of sponsorship income. As a result ground No. III raised in assessee s appeal is allowed.

Summary

The core legal questions considered in the appeals relate to the taxability of certain income streams earned by a UAE-based assessee under the Income Tax Act, 1961 and the India-UAE Double Taxation Avoidance Agreement (DTAA) for the assessment years 2017-18 and 2018-19. The issues are:

1. Whether income from domain name registration services constitutes 'royalty' under Section 9(1)(vi) of the Income Tax Act, 1961 and Article 12 of the India-UAE DTAA, thereby taxable in India.

2. Whether income from web hosting services qualifies as 'royalty' under the same provisions and is taxable in India.

3. Whether sponsorship income earned by the assessee from a conference held in India is taxable as business income in India, specifically considering the existence or absence of a permanent establishment (PE) under Article 5 and Article 7 of the India-UAE DTAA.

Issue 1: Taxability of Income from Domain Name Registration Services as Royalty

The legal framework involves Section 9(1)(vi) of the Income Tax Act, 1961, which defines 'royalty' to include payments for the use of, or right to use, trademarks or similar intangible assets. Article 12(3) of the India-UAE DTAA similarly defines 'royalties' as payments received as consideration for the use of or the right to use copyrights, trademarks, patents, designs, or other intellectual property.

The Assessing Officer (AO) held that the income from domain name registration services is taxable as royalty, reasoning that the domain name is an intangible asset akin to a trademark, and that the assessee imparts the right to use the domain name to clients for a fixed period. The AO relied on the Supreme Court decision in Satyam Infoway Ltd. v. Siffynet Solutions (P) Ltd., which recognized that a domain name may have trademark characteristics.

The assessee contested this characterization, asserting that it is a Registrar accredited by ICANN and acts merely as a facilitator in the domain name registration process. It argued that it does not own the domain names nor grants any rights therein; the rights vest solely with the registrant (customer) who registers the domain name. The domain name registration is on a first-come-first-served basis for a limited period, and the Registrar's role is limited to verifying availability and facilitating registration without transferring any intellectual property rights.

The Court examined the domain name registration ecosystem, involving ICANN (regulator), Registry (database maintainer), Registrar (the assessee), and Reseller (third-party intermediaries). It noted that the Registrar does not own or control the domain names and does not have rights akin to trademark ownership. The Court distinguished the Supreme Court decision cited by the AO, emphasizing that the trademark-like protection arises from continuous efforts and goodwill by a particular entity, which does not apply to the Registrar's role.

The Court further considered the definition of 'royalty' under Article 12(3) of the India-UAE DTAA and found that since the assessee does not have any right in the domain names, the payments received do not constitute royalty under the treaty. It also noted that under Section 90(2) of the Act, the provisions more beneficial to the assessee (i.e., the DTAA) prevail.

Consequently, the addition treating domain name registration income as royalty was deleted.

Issue 2: Taxability of Income from Web Hosting Services as Royalty

The AO treated income from web hosting services as royalty, reasoning that the service involves imparting the right to access and use server space, which is valuable and akin to royalty under domestic law and the India-UAE DTAA.

The assessee submitted that the consideration was solely for the use of server space, without granting any independent right, physical access, or license to use the technology platform. The customers do not have control or possession of the servers; the service is a lease of space on servers owned or leased by the assessee.

The Court noted that the India-UAE DTAA's definition of 'royalty' is narrower than the domestic law. It observed that the Finance Act, 2012 amendments expanding the definition of royalty under the Income Tax Act, including Explanation 5 to Section 9(1)(vi), do not apply to the DTAA unless jointly amended by both contracting states. The Court relied on the Delhi High Court decision in DIT v. New Skies Satellite BV, which held that domestic amendments do not affect treaty definitions.

In the absence of any grant of control or independent rights over the equipment to the customers, the Court found no basis to treat web hosting income as royalty under the treaty. It also rejected the AO's linkage of web hosting income to domain registration income, holding that these are independent and mutually exclusive services.

The addition treating web hosting income as royalty was thus deleted.

Issue 3: Taxability of Sponsorship Income as Business Income and Existence of Permanent Establishment

The assessee received sponsorship income from a two-day conference held in India, which it contended was for advertising and educating potential customers, not core business activity or sales generation. The AO added this income as taxable business income, holding that the assessee had a permanent establishment (PE) in India.

The Dispute Resolution Panel (DRP) directed the AO to pass a speaking order on the existence of PE, which the AO did, confirming the PE and taxing the sponsorship income accordingly.

The assessee argued that the conference was a preparatory or auxiliary activity, not constituting a fixed place of business or PE under Article 5 of the India-UAE DTAA. It contended that the sponsorship income, earned from a short-term event, cannot be taxed in India without a PE.

The Court observed that the DRP's direction to the AO to pass a speaking order on PE was beyond its powers under Section 144C(8) of the Act, which allows the DRP only to confirm, reduce, or enhance variations, but not to set aside or remand for further inquiry.

On merits, the Court held that a two-day conference cannot constitute a fixed place of business or PE. Further, organizing such a conference is not the assessee's core business activity but rather a preparatory or auxiliary activity, which Article 5(3) of the DTAA specifically excludes from PE definition.

Therefore, in the absence of a PE in India, the sponsorship income could not be taxed in India as business income, and the addition was deleted.

Significant Holdings and Core Principles Established

On the domain name registration income, the Court held: "Apart from acting as an intermediary in the entire process of domain name registration, the Registrar has no other role to play. Thus, it cannot be held that the assessee functioning as a domain name Registrar had any right in the domain name registered in the name of the customer/registrant, least intellectual property right/intangible asset in the nature of 'trademark'." The Court emphasized that the domain name rights vest solely with the registrant, and the Registrar's role is facilitative, not proprietary.

Regarding web hosting services, the Court clarified: "In absence of a grant of any control over the equipment belonging to the assessee to its customers, the findings of the AO that the amount so received will constitute royalty is not acceptable in view of the provisions of Article 12(3) the India UAE DTAA." It distinguished the broader domestic definition of royalty from the narrower treaty definition and upheld the principle that treaty provisions prevail over domestic law where beneficial.

Concerning sponsorship income and PE, the Court stated: "Mere conducting of a conference only for 2 days in India cannot be said to be a fixed place of business, and ... conducting a conference is not the core business activity of the assessee. Even if, at all, it can only be considered to be in the nature of the preparatory or auxiliary activity, which has been specifically excluded from the definition of permanent establishment under Article 5(3) of the India UAE DTAA." This reaffirmed the principle that short-term or preparatory activities do not create PE and thus do not attract business income tax in India under the treaty.

Finally, the Court applied these principles consistently to both assessment years, allowing the appeals and directing deletion of the impugned additions.