TMI Blog2012 (9) TMI 335X X X X Extracts X X X X X X X X Extracts X X X X ..... in the areas of Finance, Accounts, Taxation, Legal, Administration, HRD, education, Training, Research etc. - Held that:- the expenses on account of deputation charges as well as other expenses are not covered under the aforesaid agreement. The other reasons given by the AO for making the impugned disallowance cannot also be sustained - in favour of assessee. Non deduction of TDS while making payment towards purchase of software - Disallowance u/s 40(a)(ia) - the payment in question is in the nature of Royalty as per AO - Held that:- Following the view expressed by the Hon'ble Dellhi High Court in the case of DIT v. Ericsson AB (2011 (12) TMI 91 - DELHI HIGH COURT) that consideration paid merely for right to use cannot be held to be royalty which is favourable to the Assessee to hold that the consideration received by the Assessee for software was not royalty. Admittedly the Assessee who is a non resident does not have a permanent establishment and therefore business income of the Assessee cannot be taxed in India in the absence of a permanent establishment - as the assessee was asked to explain whether the facts involved in assessee's own case (payments to non residents) wh ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n the appellant's business and the same is admissible and may pleas be allowed 3. The assessee is a company engaged in the business of purchase and sale of software. The assessee while computing its income from business had claimed expenditure of ₹ 14,98,56,338/- on account of service charges paid to M/s. Sonata Software Ltd. (SSL), holding company. The expenditure was claimed to be in accordance with the agreement dated 28.09.2000 entered into by the assessee with M/s. Sonata Software Ltd., which has been revised on 01.07.2002 and 01.07.2004 and 01.07.2006. As per the said agreement, the assessee was to pay service charges to M/s. Sonata Software Ltd. for rendering the following services: (a) Advise and assistance to SITL relating to compliance of various laws, Orders, Regulations and legal requirements of the Central, State and other governmental and local authorities concerning the conduct of the business and affairs of SITL. (b) Training employees of SITL in the above areas. (c) Assist and liaise with various government departments as and when required by SITL. (d) Overseeing the compliance requirements in regard to Companies Act, includin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ces as stated above and in consideration of the services actually rendered, the assessee incurred an amount of ₹ 14,98,56,338/-. The Assessee pointed out that expenditure incurred for obtaining services/assistance for the running of the business is an allowable commercial expenditure. The Assessee submitted that the expenditure of ₹ 14,98,56,338/- was incurred out of commercial expediency. Assessee relied judicial decisions to highlight that commercial expediency means anything that serves to promote and includes every means suitable to that end and expenditure which a prudent man may incur for the purpose of business. The decisions rendered in the following cases were referred to for the above proposition viz., Indian Steel Wire Products Ltd. v. CIT [1968] 69 ITR 379 Calcutta Landing Shipping Co. Ltd. v. CIT [1967] 65 ITR 1, Calcutta. It was argued that it was the prerogative of the businessman how to run the business and it is not upon the Revenue to prescribe what expenditure an assessee should incur and in what circumstances it should incur. It was reiterated that every businessman knows his interest best - CIT v. Dhanrajgirji Raja Narasinghirji [1 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Y. 200 1-02. Further it was also brought to the notice of the AO that the issue of allowability of service charges was also decided in assessee's favour in its own case by the Hon'ble ITAT in A.Y. 2002-03, A.Y. 2003-04, A.Y. 2004-05 and A.Y. 2005-06 has also deleted the disallowance in respect of service charges paid by the assessee to SSL. In view of the above the Assessee submitted that the entire amount of ₹ 14,98,56,338/- should be allowed as business expenditure. 7. The AO however was of the view that (i) Payment of service charges by the Assessee to SSL is mere diversion of income without services rendered by SSL. Mens rea for this claim is to reduce taxable profit and claim more 10-A profit in SSL. (ii) The receipts on account of Service Charges in the hands of SSL have not been credited separately as the income of its non-10A activity. However, these receipts have been reduced from the expenditure claimed of 10A activity of SSL. The net implication of this is that the profits of the 10A activity of SSL have increased and on which no tax has been paid. Whereas in fact, these receipts are clearly pertaining to the non 10A activity of SSL and therefore such ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... pted by the department and appeal has been filed before the high court in all the concerned years, the final decision of which is still awaited. Accordingly, the assessee's claim of payment of services charges of ₹ 14,98,56,338/- to M/s. Sonata Software Ltd. was disallowed and added back to the total income of the assessee. 9. On appeal by the assessee the CIT(A) confirmed the addition made by the AO differing from his predecessors and the Tribunal orders in the earlier assessment years. 10. As stated above this issue has come up in consideration in assessee's own case in assessment year 2001-02 in ITA No. 3702/Mum/2004 and this Tribunal on identical issue held as follows: 7. The next issue arising from the appeal of assessee relates to the disallowance of ₹ 6,55,88,590/- on account of service charges paid to Sonata Software Ltd. (SSL). Brief facts giving rise to this appeal are these: The assessee is 100% subsidiary of SSL. It came into existence in the year under consideration with the object to carry out one of the activities of SSL which was not eligible for exemption u/s. 10A. Prior to the year under consideration, SSL was carrying out two ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Legal and Professional and Recruitment and Training for the A.Yrs. 1998-99 to 2000-01 increased in proportion to the turnover from ₹ 18.25 lakhs to ₹ 49.09 lakhs (Rs. 39.5 lakhs + ₹ 9.5 lakhs). However, in comparison to this, the expenditure on account of Service charges (which encompasses the expenditures claimed under the said two heads) in the assessee company for A.Yrs. 2001-02 and 2002-03 has been claimed at an abnormally high amount of ₹ 655.88 lakhs and ₹ 910.27 lakhs respectively, disproportionate to the turnover of the assessee. (ii) It has been stated in the said agreement of SSL with the assessee company that all out of pocket expenses including travel, conveyance etc. are to be billed separately by SSL and shall be reimbursed bit the assessee. However, rather than separately billing for these out of pocket expenses, SSL is raising periodic lump sum credit notes by apportioning the expenditure incurred by SSL on account of insurance, salaries and allowances, directors remuneration, electricity and water charges, printing and stationery, professional charges, repairs and maintenance, rent for offices and also depreciation. The ass ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... profits of SSL In Para 4.4 of his order, the Assessing Officer also observed that entire exercise was a colourable device to reduce its tax liability and to increase non-taxable profits of SL . 9. The matter was carried in appeal before the CIT AO before whom it was submitted that: Before me in the appeal proceedings, it was explained on behalf of the assessee that Assessing Officer has misled himself in presuming that the agreement for services covers only the legal and professional charges and recruitment and training expenses. ft was explained that the area of services covered under the agreement is very broad and that the expenditure has been claimed on the basis of actual expenditure incurred on the basis of debit notes received from SSL and that f the expenditure in question was not incurred the assessee would not have been able to carry on its business. ft was further submitted that the debit notes issued by SSL and the details given to the Assessing Officer in support of the expenditure included in the debit notes show that not only legal and other specified services were the subject in the agreement but also other services which are not specifically state ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... accepted the case of assessee that allocation of support services expenses on the basis of turnover was justified. The Tribunal, vide Para 34 of its order dated 17.03.2003 in ITA No. 495/496/M/02, held as under: We have considered the submissions and we have perused the various records placed in the Paper book. In the Paper book at page 27 to 34, the assessee has placed each and every head of expenditure and this Expenditure has been bifurcated under the three heads-STP unit entitled to deduction under section 10A, non STP not entitled to deduction u/s. 10A and support services. Further, it is found that the basis of allocation amongst the three heads is actual expenses, number of employees and ratio of fixed assets, floor area and turnover ratio. Thus, on the basis of above five criteria, expenditure has been allocated to the three heads. Further, it is noticed that the total expenditure allocated under third head i.e. support services; has been again allocated under two heads - (1) STP units entitled to deduction u/s. 10A and non-STP which is not entitled for deduction u/s. 10A on the basis of turnover ratio. In our considered opinion the allocation of expenditure contained ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tained by him. 11. The above order of the Tribunal has been followed in assessee's own case for AY 2002-03 in ITA No. 3027/M/06, AY 2003-04 in ITA No. 3758/M/06, AY 2004-05 AY 2005-06 in ITA Nos. 3158 3161/M/08. 12. The learned CIT(A) made out a case that the issue is one of facts and assessee has not furnished the complete details of services provided. Therefore, he differed from the orders of his predecessors in earlier years and also mentioned arguments which he has raised as DR before the ITAT in earlier years to justify differing from the findings from the earlier years. In order to examine the issue, we have called for the annual reports of M/s. Sonata Software Ltd, the holding company and assessee's accounts in the consolidated annual report for assessment year 2007-08. The learned CIT (A) identified some of the expenditure on electricity, rent advertisements etc., so as to state that most of the expenditure was allocated to increase the profits in the case of SSL which was claiming deduction under section 10A. In our view the examination by the CIT(A) on few items is selective and not appropriate according to the facts. Assessee has given detailed st ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... not see any reason to doubt the allocation of training expenses. The requirement of training is an on-going exercise in the changed scenario of technological up-gradation in the software industry. AO cannot dictate terms to assessee how to run the business. He can only examine the genuineness of expenditure for the purpose of business. He can only examine whether the expenditure is laid out wholly and exclusively for the purpose of business. This elaborate discussion was made because the learned CIT(A) differed from his predecessors' orders allowing the said expenditure, which was upheld by the ITAT. This issue is similar on facts to earlier years and there is no need to differ from the orders in earlier years. Respectfully following the precedent on the issue, we direct AO to allow the expenditure. 13. Ground Nos. 2 3 raised by the revenue read as follows: 2. On the facts and circumstances of the case and in law, the learned CIT(A) erred in confirming the order of the learned AO in disallowing an amount of ₹ 10,02,95,870/- being deputation charges in respect of personnel deputed by SSL for the purposes of the business of the appellant. 3. On the facts an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Agreement between the Assessee and SSL by which SSL agreed to render some common services in the areas of Finance, Accounts, Taxation, Legal, Administration, HRD, education, Training, Research etc. Clause-3 of the said agreement which have been referred to in the earlier part of this order clearly shows that the expenses covered by that agreement cannot and do not relate to expenditure incurred on deputing employees to work on specific projects of the Assessee. Therefore the expenses on account of deputation charges as well as other expenses are not covered under the aforesaid agreement. The other reasons given by the AO for making the impugned disallowance cannot also be sustained. The order of the Tribunal referred while deciding Gr. No. 1 will equally apply to Gr. No. 2 and 3 also as the other reasons given for making the impugned disallowance are similar to the one given while making the disallowance of expenses which is subject matter of Gr. No. 1. We are therefore of the view that there is merit in Gr. No. 2 and 3 raised by assessee. Consequently Gr. No. 2 and 3 are allowed. 17. Ground No. 4 raised by the revenue reads as follows: Ground No. 4. On the facts and cir ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o have deducted tax at source and since the Assessee had not so deducted tax at source, the sum in question was not allowed as deduction in computing income under the head business income and an addition was made accordingly to the business income of the Assessee. The AO also relied on the decision of the Hon'ble Karnataka High Court in the case of CIT (Intl. Taxation) v. Samsung Electronics Co. Ltd. ITA No. 2808 of 2005 dated 24.9.2009 wherein the issue was decided in favour of the Revenue. The stand of the Assessee was that it was in the business of purchase and sale of software and that it did not have a right to use the software and that it was akin to purchase and sale of goods and therefore the payment in question was not in the nature of royalty and there was no obligation to deduct at source on the part of the Assessee for such payment and therefore no disallowance of expenses can be made under section 40(a)(ia) of the Act. The AO however made disallowance under the provisions of Section 40(a)(ia) of the Act. 19. On appeal the CIT(A) confirmed the addition made by AO following the decision of the Hon'ble Karnataka High Court wherein it was held that payment ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 333 (Bom) wherein the Hon'ble Court took the view that if due to bonafide belief a person does not deduct tax at source while making payment, then there can be no disallowance under section 40(a)(ia) of the Act. In this regard it was also submitted that the recipient had duly paid taxes on the income embedded in such receipts and therefore there is no loss to the revenue. It was further submitted that the provisions of Section 40(a)(ia) of the Act are meant to ensure that taxes are duly paid and the revenue is not put to loss and this purpose is fulfilled in the present case. 23. The next submission is that since this payment is made to the Indian Residents and not to Non-Residents and those recipients paid taxes relying on the principles laid down by the Hon'ble Supreme Court in the case of Hindustan Coca Cola Beverage (P) Ltd. v. CIT [2007] 293 ITR 226 (SC). It was a submission that no deduction is required under section 194J and therefore, no disallowance is called for under section 40(a)(ia). He also placed on record the decision of the ITAT in the case of Solid Works Corporation in ITA No.3219/Mum/2010 dated 8/02/12 wherein following the decision of the Hon ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Act, 2012 w.e.f. 01.06.1976. Therefore, the payments made for computer software is to be considered as royalty. 26. We have considered the issue, rival contentions and examined various cases relied upon before us. First of all it has to be admitted that this issue is considered by the Coordinate Bench in AY 2007-08 in assessee's own case as under: 27. We have considered the rival submissions. On the question whether the payment in question would constitute Royalty, we find that the ITAT Mumbai in the case of Solid Works Corporation (supra) after considering the decision of the Hon'ble Karnataka High Court in the case of Samsung ( supra ) and the Hon'ble Delhi High Court in the case of Ericsson ( supra ) held as follows: 9. On the other submission of the learned D.R. that the decision rendered by the Hon'ble Delhi High Court was in respect of use of software embedded in an equipment supplied and therefore the same should not be applied to the case of shrink wrap software, we are of the view that the Hon'ble Delhi High Court after referring to the decision of the Hon'ble Supreme Court in the case of Tata Consultancy Services (supra) went on ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... al services' as defined in article 12 of India-Japan DTAA ? On the facts stated, the Authority ruled on the question whether the payment would amount to royalty as follows: (i) That the computer programme forming part of the software fell within the description of literary or scientific work. A copyright in or over the computer software produced by the applicant was in the nature of an intangible, incorporeal right belonging to the category of intellectual property rights. All intellectual property rights in the licensed programs exclusively belonged to the applicant or its licensor and they were retained by the applicant. (ii) That passing of a right to use and facilitating the use of a product for which the owner had a copyright was not the same thing as transferring or assigning rights in relation to the copyright. Where the purpose of the license or the transaction was only to establish access to the copyrighted product for internal business purpose, it was not legally correct to say that the copyright itself had been transferred to any extent. Merely authorizing or enabling a customer to have the benefit of data or instructions contained therein without any ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... le prerogative of the copyright holder). In other types of transactions, the rights acquired in relation to the copyright are limited to those necessary to enable the user to operate the programme, for example, where the transferee has limited rights to reproduce the programme. This would be the common situation in transactions for the acquisition of a programme copy. The rights transferred in these cases are specific to the nature of computer programmes. They allow the user to copy the programme, for example onto the user's computer hard drive or for archival purposes. In this context, it is important to note that the protection afforded in relation to computer programmes under copyright law may differ from country to country. In some countries the act of copying the programme onto the hard drive or random access memory of a computer would, without a license, constitute a breach of copyright. However, the copy right laws of many countries automatically grant this right to the owner of software which incorporates a computer programme. Regardless of whether this right is granted under law or under a license agreement with the copyright holder, copying the programme ont ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cause it is only integral to the use of copyrighted product. Apart from such incidental facility, the customer has no right to deal with the product just as the owner would be in a position to do. In so far as the licensed material reproduced or stored is confined to the four corners of its business establishment, that too on a non-exclusive basis, the right referred to in sub-clause (i) of section 14(a) would be wholly out of place. Otherwise, in respect of even off-the-shelf software available in the market, it can be very well said that the right of reproduction which is a facet of copyright vested with the owner is passed on to the customer. Such an inference leads to unintended and irrational results. We may in this context refer to section 52(aa) of the Copyright Act (extracted supra) which makes it clear that the making of copies or adaptation of a computer programme by the lawful possessor of a copy of such programme, from such copy (i) in order to utilize the computer program, for the purpose for which it was supplied or (ii) to make back up copies purely as a temporary protection against loss, destruction, or damage in order to utilize the computer programme for the pur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... when shrink wrap software is sold. 14. Following the view expressed by the Hon'ble Dellhi High Court in the case of DIT v. Ericsson AB, New Delhi (Supra), which is favourable to the Assessee, we hold that the consideration received by the Assessee for software was not royalty. The receipts would constitute business receipts in the hands of the Assessee. Admittedly the Assessee who is a non resident does not have a permanent establishment and therefore business income of the Assessee cannot be taxed in India in the absence of a permanent establishment. 15. For the reasons given above, we confirm the order of CIT(A) and dismiss the appeal of the Revenue. 31. The above ruling of the Tribunal though rendered in the context of Non-residents involving definition of Royalty under Double Taxation Avoidance Agreements (DTAA), the ratio laid down therein will equally applicable to definition of Royalty under the Act and both the Hon'ble Karnataka High Court as well as the Hon'ble Delhi High Court have considered the issue in the light of the definition of royalty under the Act also. We are therefore of the view that the order of the CIT(A) deleting the addition ma ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... amount disallowed (excl. of local taxes Paid before 31.03.2008 (excl. local taxes) Payable as on 31.03.2008 (excl. local taxes) 1 Oracle India Pvt. Ltd 1,114,471,630 768,167,218 346,304,412 2 BEA systems India Private 108,922,200 93,631,520 15,290,680 3 IBM India Private Limited 436,492,087 428,949,124 7,542,963 4 Ingram Micro India Pvt Ltd 176,188,548 149,500,880 26,687,668 5 Redington India Ltd 60,107,319 60,103,840 3,479 6 Hewelett Packard India 38,406,545 22,986,317 15,420,228 7 Others 63,323,265 47,018,483 16,304,782 Total ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 39;rent' shall have the same meaning as in clause (i) to the Explanation to section 194-I; (vi) 'royalty' shall have the same meaning as in Explanation 2 to clause (vi) of sub-section (1) of section 9; As can be seen from the above for the purpose of section 40(a)(ia), royalty shall have the same meaning as in Explanation-2 of clause vi of sub- section 1 of section 9. Explanation-4 which was introduced w.e.f. 1.6.1976 by the Finance Act, 2012 has no effect as that explanation was not referred to in section 40(a)(ia). Since the definition of royalty was specifically mentioned in section 40(a)(ia), the examination of the issue can only be made with reference to Explanation 2 alone. This is by the concept of legislation by incorporation. Argument of the learned DR that Explanation-4 increases the scope of royalty in section 9(1)(vi) may have validity for examining the issue of royalty under section 9(1)(vi) in its entirety, but not for the purpose of disallowance under section 40(a)(ia) wherein the scope of royalty was limited to Explanation -2 to clause vi of section 9(1). The explanation-4 can not be considered as the same was not incorporated in definition of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... under section 14A was worked out at ₹ 13,09,588/-. Since assessee had itself disallowed ₹ 2,43,360/- under section 14A in the computation of income, the balance amount of ₹ 10,66,228/- was added back to the total income of assessee both under the normal provisions of the Act as well as under section 115JB. 33.2 In the appellate proceedings, assessee had made the following submissions: At the outset we wish to submit that as per the policy consistently followed by the appellant, it had already added back in computation of income an amount equivalent to 5% of the dividend income. Accordingly an amount of ₹ 2,43,360/- was added back to the computation of income. Thus, no further disallowance is warranted under section 14A of the Act. Further, the appellant has made investments out of own funds and has not used any borrowed funds for the purpose of investing in Mutual funds In this regard the appellant has relied on the decision of the Hon'ble Punjab Haryana High Court in the case of CIT v. Hero Cycles Ltd (323 ITR 518). The relevant Para of the case is reproduced as under: The contention of the Revenue that directly or indirectly ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the previous year. C = the average of total assets as appearing in the balance sheet of assessee on the first day and the last day of the previous year; Not applicable. As assessee has not incurred any expenditure by way of interest directly related to the earning of dividend income. An amount equal to one-half per cent of the average of the value of investment, income from which does not or shall not form part of the total income, as appearing in the balance sheet of assessee, on the first day and the last day of the previous year: The working for the same is as follows: S. No Particulars Opening balance Closing Balance Average (Rs.) 1 Standard Chartered Mutual Fund 100,130,743 80,108,891 90,119,817 2 Birla Sun Life Liquid Fund - 100,137,558 50,068,779 Total Average value of in investments (Rs.) 140,188,596 ..... X X X X Extracts X X X X X X X X Extracts X X X X
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