Software Import Payments: Court Allows Appeal, Awaits Supreme Court Decision

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Case Name:

Commissioner of Income Tax Vs Rational Software Corpn. India (P) Ltd (High Court of Karnataka)

Income Tax Appeal No.648 of 2008

Date: 5th January 2015

Key Takeaways:

1. The High Court allowed the revenue's appeal, overturning the Tribunal's decision.

2. The court's decision is contingent on the outcome of a pending Supreme Court case.

3. The court emphasized the importance of considering international tax agreements (DTAA) in such cases.

4. The case highlights the complex interplay between domestic tax laws and international agreements.

Issue

The central legal question is whether remittances towards the cost of imported software products constitute royalty, thereby attracting tax deduction under Section 195 (of Income Tax Act, 1961), and consequently, the provisions of Section 40(a)(i) (of Income Tax Act, 1961).

Facts

1. The Tribunal initially ruled that payments for imported software products were not royalties, thus not subject to tax deduction under Section 195 (of Income Tax Act, 1961).

2. The revenue department appealed this decision to the High Court .

3. The High Court had previously set aside a similar Tribunal order in the assessee's case (ITA No.261/2006).

4. The assessee has appealed the High Court's previous decision to the Supreme Court, which is pending as Special Leave Petition (Civil) No. 19092/2012.

Arguments

Assessee's Arguments:

1. If the assessee succeeds in the Supreme Court, Section 40(a)(i) (of Income Tax Act, 1961) would not apply.

2. Even if unsuccessful in the Supreme Court, Article 24(4) of the DTAA between India and the Netherlands should be considered, as it doesn't provide for similar disallowance for payments to residents.

Revenue's Arguments:

1. The question of DTAA application was not raised before any of the lower authorities and is being introduced for the first time in the High Court.

Key Legal Precedents

1. COMMISSIONER OF INCOME TAX AND ANOTHER v. SAMSUNG ELECTRONICS PRIVATE LIMITED in ITA No. 2808/2005 and connected cases (D.D. 15.10.2011)

- This judgment was followed by the High Court in setting aside the Tribunal's earlier order in the assessee's case.

Judgement

1. The High Court allowed the appeal, answering the substantial question of law in favor of the revenue and against the assessee .

2. However, the court provided for two scenarios:

a. If the assessee succeeds in the Supreme Court, the current order will not come into effect.

b. If the assessee loses in the Supreme Court, the assessing authority must consider the application of Article 24(4) of the DTAA between India and the Netherlands before giving effect to this order.

3. The court directed the assessing authority to pass an order under Section 260(1A) (of Income Tax Act, 1961) based on the outcome of the assessee's appeal before the Supreme Court.

FAQs

Q1: What is the main issue in this case?

A1: The main issue is whether payments for imported software products constitute royalties subject to tax deduction under Indian tax laws.

Q2: Why did the High Court allow the appeal but also provide for alternative scenarios?

A2: The High Court allowed the appeal based on its previous judgment, but recognized that the final decision depends on a pending Supreme Court case and potential application of international tax agreements.

Q3: What is the significance of the DTAA between India and the Netherlands in this case?

A3: The DTAA could potentially provide benefits to the assessee if Section 40(a)(i) (of Income Tax Act, 1961) is found to apply, as it may not allow for similar disallowance for payments to residents.

Q4: What action did the court direct the assessing authority to take?

A4: The court directed the assessing authority to pass an order under Section 260(1A) (of Income Tax Act, 1961) based on the outcome of the assessee's appeal in the Supreme Court.

Q5: Why did the court allow consideration of the DTAA even though it wasn't raised in lower courts?

A5: The court viewed the DTAA as a beneficial piece of delegated legislation and the question of its application as purely a matter of law, thus allowing its consideration to ensure the assessee isn't denied any potential benefits.

1. The revenue has preferred this appeal against the order passed by the Tribunal holding that the remittances towards the cost of the software products imported from foreign suppliers is not royalty and hence there was no liability for deduction of tax under Section 195 (of Income Tax Act, 1961) (hereinafter referred to as ‘the Act’) and accordingly the provisions of Section 40(a)(i) (of Income Tax Act, 1961) are not attracted.

2. This Court had an occasion to consider the

assessee’s case itself and the order passed by the

Tribunal holding that the remittances towards costs of

the software products purchased/imported from foreign

suppliers is not royalty, was set aside by this Court in

ITA No.261/2006 following the judgment of this Court

in the case of COMMISSIONER OF INCOME TAX AND

ANOTHER v. SAMSUNG ELECTRONICS PRIVATE

LIMITED in ITA No. 2808/2005 and connected cases

(D.D. 15.10.2011).

3. It is submitted by the learned counsel for the

assessee that the assessee has preferred an appeal

against the said order in ITA No.261/2006 before the

Apex Court and it is pending consideration in Special

Leave Petition (Civil) No. 19092/2012. In the event, the

assessee succeeds before the Apex Court, then Section

40(a)(i) of the Act is not attracted and therefore, a

consequent order is to be passed. Even if the assessee

does not succeed before the Apex Court and Section

40(a)(i) of the Act is attracted, still its claim in terms of

Article 24(4) of DTAA between India and the Netherlands

that a similar disallowance was not provided under the

Act under Section 40(a)(ia) (of Income Tax Act, 1961) if the payment was made to a

resident, is to be considered and a proper order is to be

passed.

4. Per contra, learned counsel for the revenue

submits that the said question was not raised before

any of the authorities and for the first time it is being

raised before this Court.

5. In view of the judgment of this Court in

‘Samsung Electronics Private Limited’ case, as

already the earlier order of the Tribunal is set aside by

this Court, the impugned order passed, which is

running counter to the said judgment, requires to be set

aside and therefore, the appeal is allowed and the

substantial question of law is answered in favour of the

revenue and against the assessee.

6. However, in the event, the assessee succeeds

before the Apex Court, it is clear that this order also

cannot come into effect. The assessing authority shall

therefore pass an order under Section 260(1A) (of Income Tax Act, 1961) of the

Act, based on the outcome of the assessee’s appeal

before the Apex Court. If the assessee loses his battle

before the Apex Court, then before giving effect to this

order, the assessing authority shall consider the

application of Article 24(4) of the DTAA between India

and the Netherlands. Though the said question is not

raised by the assessee before the authorities, the same

being purely a question of law and the said DTAA being

a beneficial piece of delegated legislation, if the assessee

is entitled to the benefit of the same, that cannot be

denied to it. Accordingly, the appeal is allowed with the

aforesaid observations.

Ordered accordingly.

Sd/-

JUDGE

Sd/-

JUDGE