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2016 (5) TMI 169 - ITAT MUMBAI

2016 (5) TMI 169 - ITAT MUMBAI - TMI - Payment received from resellers in India for acquisition of computer software - whether are royalty in nature and hence chargeable to tax in India @ 15% as per Double Taxation Avoidance Agreement between India and USA ? - Held that:- Having noted that there is no material difference in the facts of the case for this year vis--vis the facts of the immediately preceding assessment year discussed above, respectfully following the views of the coordinate bench .....

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ishment. The Assessing Officer is, therefore, directed to delete the impugned addition - Decided in favour of assessee - I.T.A. No. 8721/Mum/2010 - Dated:- 31-3-2016 - Pramod Kumar AM and Pawan Singh JM For The Appellant : Ajit Kumar Jain, and Pranith Golecha For The Respondent : Jasbir Chauhan ORDER Per Pramod Kumar, AM: 1. By way of this appeal, the assessee appellant has challenged correctness of the order dated 18th October 2010 passed by the Assessing Officer in the matter of assessment und .....

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the facts and in the circumstances of the case and in law, the AO and the DRP erred in levying interest under section 234B of the Act, inspite of the fact that the appellant is a non-resident assessee. 3. Learned representatives fairly agree that the issue is covered, in favour of the assessee, by several orders of the co-ordinate benches in assessee s own case for the earlier assessment years, even as learned Departmental Representative vehemently relied upon the orders of the authorities belo .....

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assessment year- which also deals with the issues being raised now by the learned Departmental Representative, our distinguished colleagues have observed as follows: 3. The issue raised by the Revenue in this appeal is identical to the issue raised by it in AY 03-04 and 05-06 before the Tribunal in ITA No.3095/mum/07 and ITA No.5097/mum/08 respectively. This Tribunal on identical facts has already taken a view that that the sums received by the Assessee in both the aforesaid A.Y.s for supply of .....

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the Assessing Officer and is therefore entitled to the benefit of the Double Taxation Avoidance Agreement between India and USA (DTAA). The assessee develops and markets 3D mechanical design solution in various countries. The shrinkwrap application software developed and sold by assessee is called 'Solidworks 2003' which is used for 3D modeling. The software creates 3D models either from scratch or from existing 2D data. The designed data prepared by Solidworks 2003 software provides dat .....

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times (called multiple user license) which can be loaded on several computers. Solidwork owns and will retain all copyright, trade mark, trade secret and other proprietary rights. The end user is not permitted to make any modification or make works derivative of the software and user is not entitle to reverse engineer, decompile, disassemble or otherwise discover the source code of the software. 4.For the purposes of marketing the shrink wrap software, the assessee had entered into agreement wi .....

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ese facts, it was claimed by the assessee before the Assessing Officer that the software being sold by the assessee was a shrink wrap software being sold to customers for their personal use without transfer of any copyright, trade mark, or patent etc. In view of this payment received for supply of software was not royalty and was only business income. The assessee did not have a permanent establishment (PE) in India and therefore business income is not taxable as per Article-7 of the DTAA. 5.The .....

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e heard the rival submissions. The sample copy of the software distribution agreement filed before the lower authority shows that under section 6, thereof, the distributor has to obtain orders for the product and was free to fix price of the product. The assessee had a right to accept or reject the request of the distributor for supply. The distributor was not authorized directly or indirectly to entered into any written or oral contract on behalf of the assessee. More importantly, distributor c .....

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to modify or make works derived from the products. It also provides that license to use cannot be construed as a right to make copies of the product. When the ultimate consumer uses the product he has to subscribe the end user license agreement (EULA). This only provides facility to ultimate consumer to install software on his computer and use it personally without allowing any right to the consumer of disassemble, reverse engineer, decompile the software. Customer is also not entitled to sell, .....

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tor of the programme. But the moment copies are made and marketed, it becomes goods, which are susceptible to sale tax. Even intellectual property, once it is put on to a media, whether it be in the form of books or canvas (In case of painting) or computer discs or cassettes, and marketed would become 'good'. We see no different between a sale of a software programme on a CD/floppy disc from a sale of music on a cassette/CD or a sale of a film on a video cassette/CD. In all such cases, t .....

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goods within the meaning of the term as defined in the said Act." 8.Thus computer software when it is put on to a media and sold has become goods like any other audio cassette or painting on canvas or a book. It is ceases to be transfer of intellectual property right. In fact, Bangalore Bench of the Tribunal in the case of Lucent Technologies Hindustan Ltd. Vs. ITO, 92 ITD 366 (Bang) has also taken the view that in such a situation there is no acquisition of any right in software. Definitio .....

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on paid by the distributor cannot be said to be a payment for right of use copyright or transfer of use of copyright. It has been uniformly held in several decisions of the ITAT that sale of shrink-wrap software does not involve receipt of consideration, which can be said to be royalty. Decisions in this regard are as follows :- • Samsung Electronics Co. Ltd. Vs. ITO, 93 TTJ 658 • Motorola Incorporation, 270 ITR (AT) 62 • Sonata Information Technologies Ltd., ITA No. 1561 to 1580/ .....

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A) was right in concluding that payment received by the assessee was not in the nature of royalty and cannot therefore be brought to tax. We uphold the order of learned CIT(A) on this issue and dismiss Ground No. 1&2 raised by the revenue. 4. Despite the aforesaid orders on identical facts, the learned D.R. however submitted that the decision rendered by the Tribunal in the earlier years requires reconsideration and made the following submissions. The Assessee distributes its software to the .....

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eing embedded in the software to ensure that the terms of the license are not violated. His submission was that the Assessee has complete control over the use of the software and therefore to say that the software is a copyrighted article and not use of software is not correct. His submission was that even the distributor gets only a license and therefore there can be no sale of a copyrighted article as has been held in the earlier assessment years. The submissions of the learned D.R. are princi .....

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ble Taxation Avoidance Agreement (DTAA), terms of use of shrink wrap software by the end user, distributor and sub-distributor, held as follows: "24. It is clear from the above said provisions of the Copyright Act that the right to copyright work would also constitute exclusive right of the copyright holder and any violation of the said right would amount to infringement under Section 51 of the Act. However, if such copying of computer program is done by a lawful possessor of a copy of such .....

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and to store It in the hard disk and to take a backup copy and right to make a copy Itself is a part of the copyright. Therefore, when licence to make use of the software by making copy of the same and to store it in the hard disk of the designated computer and to take back up copy of the software, it is clear that what is transferred is right to use the software, an exclusive right which the owner of the copyright i.e., the respondent - supplier owns and what is transferred is only right to use .....

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an be treated as royalty is not helpful to the respondents in the present cases as in the said case, Delhi High Court was considering the provisions of Sections 40(a)(1) of the Act and the order of the High Court reads as follows: - "What is found, as a matter of fact, is that the assessee has been purchasing the software from Microsoft and sold it further in Indian market. By no stretch of imagination, it would be termed as royalty." Therefore, the contention of the learned senior cou .....

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es, which work, but for the licence granted would have constituted infringement of copyright and licencee is in possession of the legal copy el the software under the licence. Therefore, the contention of the learned senior counsel appearing for the respondents that there is no transfer of any part of copy right or copyright and transaction only involves sale of copy of the copyright software cannot be accepted. It is also to be noted that what is supplied is the copy of the software of which th .....

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tware is not the price of the C.D, alone nor software alone nor the price of licence granted. This is a combination of all and in substance, unless licence is granted permitting the end user to copy and download the software, the dumb C D. containing the software would not in any way be helpful to the end user as software would become operative only if it is downloaded to the hardware of the designated computer as per the terms and conditions of the agreement and that makes the difference betwee .....

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f licence the same would amount to infringement of copyright, which is exclusively owned by non-resident suppliers, who would continue to be the proprietor of copyright. Therefore, there is no similarity between the transaction of purchase of the book or prerecorded music C.D. or the C.D. containing software and in view of the same the Legislature in its wisdom, has treated the literary work like books and other articles separately from computer software within the meaning of the 'Copyright& .....

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t including the right to make copy of software for Internal business, and payment made in that regard would constitute royalty for imparting of any information concerning technical, industrial, commercial or scientific knowledge, experience or skill as per clause (iv) of explanation 2 to Section 9(1)(vi) of the Act. In any view of the matter, in view of the provisions of Section 90 of the Act, agreements with foreign countries DTAA would override the provisions of the Act. Once it is held that p .....

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ng these appeals to this Court. Accordingly. we answer the substantial, question of law in favour of the revenue and against the assessee by holding that on facts and circumstances of the case, the ITAT was not justified in holding that the amount(s) paid by the respondent(s) to the foreign software Suppliers was not 'royalty' and that the same did not give rise to any 'income' taxable in India and wherefore, the respondent(s) were not liable to deduct any tax at source and pass .....

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4/2007 dated 23.12.2007. The Hon'ble Delhi High Court was dealing with a question as to whether the Tribunal was justified in holding that the consideration for supply of software was not a payment by way of royalty, and hence was not assessable both u/s.9(1)(vi) of the Act and the relevant clause of DTAA with Sweden. The facts of the aforesaid case were that the assessee company was incorporated in Sweden and was one of the leading suppliers of telecommunication equipment comprising of both .....

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alone could be taxed in India as royalty. The Assessee argued before Tribunal that the payment made by the assessee for the use of software in the equipment does not amount to royalty. The Tribunal in the aforesaid context examined the issue as to whether the payment is for a copyright or for a copyrighted article. If it is for copyright, it should be classified as royalty both under the Income-tax Act and under the DTAA and it would be taxable in the hands of the assessee on that basis. If the .....

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High Court examined the issue which we have set out earlier. The Hon'ble Delhi High Court held that income did not accrue to the nonresident by virtue of a business connection in India and therefore the question of the Non resident having a permanent establishment in India did not arise for consideration at all. On the issue whether the payment to the non resident was of the nature of royalty which could be brought to tax in India, the Hon'ble Delhi High Court held as follows: "WHET .....

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in India, or through or from any asset or source of income in India, or through the transfer of a capita! asset situate in India" 51.The submission of Mr. Prasaran, learned ASG was that software part of the equipment supply would attract royalty as copy right of the said software programme still vests with the assessee. Therefore, payments made for the licence to use the software programme give rise to "royalty" for the purposes of both the Income-Tax Act as well as DTAA entered .....

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de by the cellular operator cannot be characterized as royalty either under the Income Tax Act or under the DTAA. (ii)The operator has not been given any of the seven rights under S.14 (a) (i) to (vii) of the Copyright Act, 1957 and, therefore what is transferred is not a copyright but actually a copyrighted article (iii)The cellular operator cannot commercially exploit the software and therefore a copyright is not transferred. (iv)Further, the parties to the agreement have not agreed upon a sep .....

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herefore no royalty can be said to be paid for it. 53.Mr. Prasaran, countered the aforesaid reasoning arguing that Clause 20 of the Supply Contract uses the term licence" and the same term is used in the context of software throughout the three Agreements, indicating that it is not an outright sale of goods, or a full transfer of rights from the assessee to the Indian company. He also submitted that the software is a computer programme, which is treated differently from a book, not only in .....

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Copyright Act, 1957. He also argued that the ITAT has misinterpreted the provisions of the DTAA, specifically Article 13, para 3 of the DTAA (Article 12, para 3 of the Model Convention) which defines royalties to mean "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". The ITAT, it was submitted, has not appreciated that the royalty is for the use or right to use any copyright. According to him, .....

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t provisions of DTAA. 54.It is difficult to accept the aforesaid submissions in the facts of the present case. We have already held above that the assessee did not have any business connection in India. We have also held that the supply of equipment in question was in the nature of supply of goods. Therefore, this issue is to be examined keeping in view these findings. Moreover, another finding of fact is recorded by the Tribunal that the Cellular Operator did not acquire any of the copyrights r .....

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ssess the same under two different articles. The software that was loaded on the hardware did not have any independent existence. The software supply is an integral part of the GSM mobile telephone system and is used by the cellular operator for providing the cellular services to its customers. There could not be any independent use of such software. The software is embodied in the system and the revenue accepts that it could not be used independently. This software merely facilitates the functi .....

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nd as defined under the said Act are very wide and include all types of movable properties, whether those properties be tangible or intangible. We are in complete agreement with the observations made by this Court in Associated Cement Companies Ltd. (supra). A software programme may consist of various commands which enable the computer to perform a designated task. The copyright in that programme may remain with the originator of the programme. But the moment copies are made and marketed, it bec .....

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es of transfer. Sale is not just of the media which by itself has very little value. The software and the media cannot be split up. What the buyer purchases and pays for is not the disc or the CD. As in the case of paintings or books or music or films the buyer is purchasing the intellectual property and not the media i.e. the paper or cassette or disc or CD. Thus a transaction sale of computer software is clearly a sale of "goods" within the meaning of the term as defined in the said .....

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quot;applied to transactions in goods". The goods therein were defined as "all things (including specially manufactured goods) which are moveable at the time of the identification for sale". It was held : "Computer programs are the product of an intellectual process, but once implanted in a medium are widely distributed to computer owners. An analogy can be drawn to a compact disc recording of an orchestral rendition. The music is produced by the artistry of musicians and in .....

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ed for specific purposes need not alter their status as "goods" because the Code definition includes "specially manufactured goods." 56.A fortiorari when the assessee supplies the software which is incorporated on a CD, it has supplied tangible property and the payment made by the cellular operator for acquiring such property cannot be regarded as a payment by way of royalty. 57.It is also to be borne in mind that the supply contract cannot be separated into two viz. hardware .....

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tion of the other. The services rendered by the experts and the payments made towards the same was part and parcel of the sale consideration and the same cannot be severed and treated as a business income of the non-resident company for the services rendered by them in erection of the machinery in Midhani unit at Hyderabad. Therefore, the contention of the Revenue that as the amounts reimbursed by Midhani under a separate contract for the technical services rendered by a nonresident company, it .....

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be accepted in the circumstances and nature of the terms of the contract of this case." 58.No doubt, in an annexure to the Supply Contract the lump sum price is bifurcated in two components, viz., the consideration for the supply of the equipment and for the supply of the software. However, it was argued by the learned counsel for the assessee that this separate specification of the hardware/software supply was necessary because of the differential customs duty payable. 59.Be as it may, in .....

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erator as royalty, it is to be established that the cellular operator, by making such payment, obtains all or any of the copyright rights of such literary work. In the presence case, this has not been established. It is not even the case of the Revenue that any right contemplated under Section 14 of the Copyright Act,1957 stood vested in this cellular operator as a consequence of Article 20 of the Supply Contract. Distinction has to be made between the acquisition of a "copyright right" .....

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s, it can never be regarded as royalty within the meaning of the said term in article 13, para 3 of the DTAA. This is so because the definition in the DTAA is narrower than the definition in the Act. Article 13(3) brings within the ambit of the definition of royalty a payment made for the use of or the right to use a copyright of a literary work. Therefore, what is contemplated is a payment that is dependent upon user of the copyright and not a lump sum payment as is the position in the present .....

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as the two decisions of the Hon'ble High court of Karnataka and Hon'ble High Court of Delhi were rendered after those decisions rendered by the Tribunal and these two decisions are the decisions of High Court available as of now on the issue. Both the decisions have taken note of the terms of the agreement subject to which software was to be used by the customer. 7.It was the submission of the learned counsel for the Assessee that where two views are available on an issue one favourable .....

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rnatively it was submitted by him that the concession that where two views are available on an issue one favourable to the Assessee and the one against the Assessee, the view which is favourable to the Assessee and does not support levy of tax on the Assessee should be preferred, should not be applied to non-resident assesses. 8.On the argument of the learned D.R. that where two views are available on an issue one favourable to the Assessee should be preferred, should not be applied to non-resid .....

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o residence, are or may be subjected. This provision shall, notwithstanding the provisions of article 1, also apply to persons who are not residents of one or both of the Contracting States. Therefore where two views are available on an issue one favourable to the Assessee and the one against the Assessee, the view which is favourable to the Assessee and does not support levy of tax on the Assessee should be preferred, should be applied to non-resident assesse in this case. 9.On the other submis .....

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becomes a tangible property and the payment made for acquiring the same is not a payment by way of royalty. In paraI. 60 of its judgment, the Hon'ble Delhi High Court has approved the ruling of the Authority for Advance Ruling (AAR) in the case of Dassault Systems KK 322 ITR 125 (AAR). The facts giving rise to the ruling of the AAR were that the applicant, a Japanese company, engaged in the business of providing "Products lifecycle management" software solutions, applications and .....

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o the VAR for a consideration based on the standard list price less discount ; and the VAR in turn would sell the product to the end-users at a price independently determined by the VAR. The end-user would enter into the end-user licence agreement with the applicant and the VAR for the product supplied. The reseller did not hold any inventory of the software in India. The VAR was free to negotiate the price with the customer but the VAR paid to the applicant the standard price in force less agre .....

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(hereinafter referred to as 'the applicant') from sale of software products to independent third party resellers will be taxable as business profits under article 7 of the India-Japan Double Taxation Avoidance Agreement ('India Japan DTAA' or 'Treaty') and will not constitute 'royalties and fee for technical 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 ro .....

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ht 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 licence 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 contai .....

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r to the applicant; and it was the applicant that accepted or rejected that offer. In the absence of an independent right to conclude the sale or offer for sale, section 14(b)(ii) of the Copyright Act, 1957, could not be invoked to bring the case within the fold of article 12(3) of the DTAA or section 9(1)(vi) of the Income-tax Act, 1961. 10. In Para 60 of its judgment the Hon'ble Delhi High Court has accepted the commentary on OECD Model Convention referred to in Dassault Systems KK (Supra) .....

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e difficulty of determination is compounded by the ease of reproduction of computer software, and by the fact that acquisition of software frequently entails the making of a copy by the acquirer in order to make possible the operation of the software. Payments made for the acquisition of partial rights in the copyright (without the transferor fully alienating the copyright rights) will represent a royalty where the consideration is for granting of rights to use the programme in a manner that wou .....

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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 cont .....

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anted under law or under a licence agreement with the copyright holder, copying the programme onto the computer's hard drive or random access memory or making an archival copy is an essential step in utilizing the programme. Therefore, rights in relation to these acts of copying, where they do no more than enable the effective operation of the programme by the user, should be disregarded in analyzing the character of the transaction for tax purposes. Payments in these types of transactions w .....

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phasis) 11. After referring to the aforesaid OECD Commentary, the AAR in its decision rendered in the case of Dassault Systems KK (supra) observed as follows: "It has been contended on behalf of the Revenue that the right to reproduce the work in any material form including the storing of it in any medium by electronic means (vide section 14(a)(i) of the Copyright Act) must be deemed to have been conveyed to the end-user. It is pointed out that a CD without right of reproduction on the hard .....

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nd-user by permitting him to download the computer programme and storing it in the computer for his own use. The copying/ reproduction or storage is only incidental to the facility extended to the customer to make use of the copyrighted product for his internal business purpose. As admitted by the Revenue's representative, that process is necessary to make the programme functional and to have access to it and is qualitatively different from the right contemplated by the said provision becaus .....

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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 .....

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it was supplied. Once there is no infringement, it is not possible to hold that there is transfer or licensing of "copyright" as defined in the Copyright Act and as understood in common law. This is because, as pointed out earlier, copyright is a negative right in the sense that it is a right prohibiting someone else to do an act, without authorization of the same, by the owner. It seems to us that reproduction and adaptation envisaged by section 14(a)(i) and (vi) can contextually mean .....

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the law now stands, the owner need not necessarily grant licence for mere reproduction or adaptation of work for one's own use. Even without such licence, the buyer of product cannot be said to have infringed the owner's copyright. When the infringement is ruled out, it would be difficult to reach the conclusion that the buyer/licensee of product has acquired a copyright therein." (underlining by us for emphasis) 12.The above decision of the AAR in the case of Dassault (supra) was a .....

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ght to use cannot be held to be royalty. This ratio laid down by the Hon'ble Delhi High Court would also apply when shrink wrap software is sold. 14.Following the view expressed by the Hon'ble Delhi High Court in the case of DIT Vs. 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 wh .....

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der. As to what should be done in a situation in which there are conflicting views of Hon ble non jurisdictional High Courts and in which we do not have the benefit of guidance from Hon ble jurisdictional High Court, we can only add, with respectful concurrence, the views expressed below by the coordinate benches: ………..It will be wholly inappropriate for us to choose views of one of the High Courts based on our perceptions about reasonableness of the respective viewpoints, a .....

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1972) 88 ITR 192 (SC). Hon ble Supreme Court has laid down a principle that "if two reasonable constructions of a taxing provisions are possible, that construction which favours the assessee must be adopted". This principle has been consistently followed by the various authorities as also by the Hon ble Supreme Court itself. In another Supreme Court judgment, Petron Engg. Construction (P) Ltd. & Anr. vs. CBDT & Ors. (1988) 75 CTR (SC) 20 : (1989) 175 ITR 523 (SC), it has been r .....

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an vs. Barron 1952(2) AIR 393 and followed by apex Court in Mangalore Chemicals & Fertilizers Ltd. vs. Dy. Commr. of CT (1992) Suppl. (1) SCC 21 and Novopan India Ltd. vs. CCE & C 1994 (73) ELT 769 (SC), has been summed up in the words of Lord Lohen, "in case of ambiguity, a taxing statute should be construed in favour of a tax-payer does not apply to a provision giving tax-payer relief in certain cases from a section clearly imposing liability". This exception, in the present .....

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the case laws cited by the Revenue of the Hon ble Karnataka High Court in the matter of CIT vs. Samsung Electronics Company Ltd. (supra) and CIT vs. Synopsis International Old Ltd. (supra) though a view in favour of the Revenue has been taken, but, the Hon ble Delhi High Court in the case of DIT vs Infrasoft Ltd. (supra) which is a latter decision and has discussed the Samsung case also has taken the view in favour of the assessee. The Hon ble Delhi High court has taken the identical view favou .....

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