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2025 (5) TMI 129 - HC - Income TaxIncome deemed to accrue or arise in India - bandwidth charges paid to overseas telecom service providers - FTS or royalty - Scope of clear definition of process in Explanation to introduced by the Finance Act 2012 - Whether the beneficial provision of the DTAA override retrospective amendments in domestic tax law particularly when such amendments are clarificatory in nature and aim to bring clearly to the taxation of process and equipment under section 9 (1) (vi) of the Income Tax Act 1961 ? HELD THAT - Undisputedly the questions raised are covered by the earlier decisions of this court in New Skies Satellite BV 2016 (2) TMI 415 - DELHI HIGH COURT and Telstra Singapore Pte. Ltd. 2024 (7) TMI 1340 - DELHI HIGH COURT Thus the charges paid for bandwidth to overseas telecom service providers cannot be construed as royalty in the meaning of Section 9(1)(vi) of the Act. Decided in favour of assessee.
1. ISSUES PRESENTED and CONSIDERED
The core legal questions considered by the Court in this appeal under Section 260A of the Income Tax Act, 1961, pertain to the tax treatment of payments made for bandwidth services to overseas telecom service providers. Specifically, the issues are: (a) Whether payments for bandwidth services qualify as "royalty" under Section 9(1)(vi) of the Income Tax Act, 1961, particularly in light of the definition of "process" introduced by the Explanation via the Finance Act, 2012. (b) Whether the beneficial provisions of the Double Taxation Avoidance Agreement (DTAA) override retrospective amendments in domestic tax law, especially when such amendments are clarificatory and aim to clarify the taxation of "process" and "equipment" under Section 9(1)(vi). (c) Whether the decision of the Income Tax Appellate Tribunal (ITAT) disregarded the principles laid down by the Madras High Court in Verzon Communication Singapore Pte Ltd. v. ITO, which held that payments for bandwidth services are taxable as royalty under Indian tax law. (d) Whether the ITAT ruling undermines the principle of substance over form by ignoring the actual use of processes and infrastructure that enable the provision of service to Indian customers, despite the equipment being located outside India. 2. ISSUE-WISE DETAILED ANALYSIS Issue (a): Whether payments for bandwidth services qualify as "royalty" under Section 9(1)(vi) of the Income Tax Act, 1961. The relevant legal framework includes Section 9(1)(vi) of the Income Tax Act, which defines "royalty" and includes payments for the use of or right to use any "process". The Explanation introduced by the Finance Act, 2012, clarifies the meaning of "process" to include any systematic series of actions or steps used in manufacture, production, or processing. Precedents pivotal to this issue include the decisions of this Court in New Skies Satellite BV and CIT v. Telstra Singapore Pte. Ltd. These rulings have held that bandwidth charges paid to overseas telecom service providers do not constitute royalty within the meaning of Section 9(1)(vi). The Court reasoned that bandwidth services are essentially transmission services and do not involve the use or right to use any "process" or "equipment" as contemplated under the statute. The Court examined the nature of the payments and the underlying service, finding that bandwidth charges represent payments for the provision of telecommunication services rather than payments for the use of intellectual property or technical processes. The Court applied the legal principle that the substance of the transaction governs its tax treatment rather than its form. Competing arguments advanced by the Revenue suggested that the payments for bandwidth services should be treated as royalty because the service involves the use of technical processes and infrastructure located abroad. However, the Court found these arguments unpersuasive, noting that the mere involvement of processes or equipment outside India does not automatically convert service payments into royalty. Accordingly, the Court concluded that payments for bandwidth services do not fall within the definition of royalty under Section 9(1)(vi) of the Act. Issue (b): Whether the beneficial provisions of the DTAA override retrospective amendments in domestic tax law. The legal framework involves the interplay between domestic tax provisions and international tax treaties (DTAA). The principle of treaty override and the doctrine of beneficial provisions were considered. The retrospective amendments introduced by the Finance Act, 2012, were clarificatory in nature, aiming to explicitly tax payments related to "process" and "equipment". The Court referred to established principles that when a DTAA provides beneficial provisions, these prevail over domestic law, especially if the amendments are retrospective and clarificatory. The Court emphasized that the DTAA provisions cannot be overridden by domestic amendments if the treaty is more beneficial to the taxpayer. The Court found that the DTAA provisions applicable to the case did not classify bandwidth payments as royalty, thereby overriding the retrospective amendments. The Court rejected the Revenue's contention that the amendments should apply despite the DTAA benefits. This interpretation aligns with the principle that tax treaties are intended to avoid double taxation and provide certainty to taxpayers, and thus their beneficial provisions must be respected. Issue (c): Whether the ITAT disregarded the principles laid down in Verzon Communication Singapore Pte Ltd. v. ITO. The Revenue relied on the Madras High Court decision in Verzon Communication, which held that payments for bandwidth services are taxable as royalty. However, the Court noted that subsequent authoritative decisions by this Court in New Skies Satellite BV and CIT v. Telstra Singapore Pte. Ltd. have taken a contrary view. The Court reasoned that the ITAT's decision was consistent with these later rulings and did not disregard the principles but rather followed the binding precedents of this jurisdiction. The Court observed that the Verzon Communication decision is not binding on this Court and that the weight of precedent supports the non-royalty characterization of bandwidth payments. Thus, the Court upheld the ITAT's approach and rejected the Revenue's submission that it ignored relevant legal principles. Issue (d): Whether the ITAT ruling undermines the substance over form principle by ignoring the actual use of processes and infrastructure. The Revenue argued that the ITAT ignored the substance of the transaction by focusing on the location of equipment rather than the actual use of processes and infrastructure that enable service provision to Indian customers. The Court reaffirmed the principle of substance over form, emphasizing that the true nature of the transaction must be examined. However, it found that the ITAT did apply this principle correctly by analyzing the nature of the payments and the services rendered rather than merely the physical location of equipment or processes. The Court held that the use of processes or equipment located abroad does not automatically convert service payments into royalty. The essence of the transaction was the provision of bandwidth as a service, not the transfer or use of any proprietary process or right. Therefore, the Court concluded that the ITAT did not undermine the substance over form principle but correctly applied it to the facts. 3. SIGNIFICANT HOLDINGS The Court held that payments made for bandwidth services to overseas telecom providers do not constitute "royalty" under Section 9(1)(vi) of the Income Tax Act, 1961. The Court stated: "The charges paid for bandwidth to overseas telecom service providers cannot be construed as royalty in the meaning of Section 9(1)(vi) of the Act." The Court further established that the beneficial provisions of the DTAA prevail over retrospective domestic amendments clarifying the scope of "process" and "equipment" for taxation purposes. It was affirmed that the ITAT's decision was consistent with binding precedents of this Court and did not disregard relevant legal principles or the substance over form doctrine. On the final determinations:
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