Licensing of "know-how" U/Clause 2 of agreement is reduced from service tax, HC

Facts in Brief:

1. The appellant-Indian Fanners Fertiliser Co-operative Ltd. (IFFCO), was registered under Section 69 of the said Act under registration dated July 2, 2004 for availing the services of consulting engineer from countries other than India.

2. The Revenue received an information that the appellant was availing services of foreign consulting engineers Haldor Topsoe of Denmark on which service tax was payable by the recipient in India as per Rule 2(1)(d)(iv) of the Service Tax Rules, 1994, substituted with effect from August 16, 2002, by Notification No. 12 of 2002 dated August 1, 2003. The appellant was, therefore, called upon to produce copies of the agreements in respect of such services.

3. The authorised representative of the appellant in his statement recorded under Section 14 of the Central Excise Act, 1944 on August 18, 2004 disclosed that the appellant had paid Rs. 4,22,64,128 to Haldor Topsoe on account of taxable services availed by the appellant under the category of consulting engineer and that, they had also paid a sum of Rs. 19,54,899 as the Research and Development Cess under the Research and Development Cess Act, 1986, since the appellant wanted to avail the exemption of service tax to the extent of the cess paid by them as applicable under Notification No. 18 of 2002 dated December 16, 2002 issued by the Board, wherein it was clarified in relation to consulting engineer service, that service tax payable upon services rendered in relation to transfer of technology was exempted to the extent of the amount of cess paid on such transfer of technology under the provisions of Section 3 of the Research and Development Cess Act, 1986.

4. The said authorised representative of the appellant, who was Manager (Accounts), had also stated that the appellant would not be paying any further amount of R & D cess. After deducting R&D cess by the appellant of Rs. 19,54,899 from the said tax liability of Rs. 33,81,130 in respect of the said amount of Rs. 4,22,64,128 paid by the appellant to the foreign concern, the service tax liability of the appellant came to Rs. 14,26,231, which the appellant refused to pay on the ground that the services availed by the appellant were towards right to use the licence and supply of engineering design package from outside India, and that the procurement of services did not fall under the category of "consulting engineer service".

5. Therefore, a show cause notice dated September 10, 2004 came to be issued on the appellant, for the said demand of service tax with interest and proposing penalties under Sections 76, 77 and 78 of the said Act.

6. The defence of the appellant in their reply to the show cause notice was that they had entered into four agreements on October 29, 2003 and December 4, 2003 with Haldor Topsoe of Denmark to obtain the licence for use and practice of their technology, as required for redesigning, modification and operation of their Aonla units I & II for Energy Saving Project Phases I & II.

7. According to them, the real nature of the transaction was of transfer of "know-how" and some technical information, and not consultancy. It was contended that the appellant had entered into a transaction dealing with intellectual property and not for any service because, "know-how" was property like any other property which could be sold or given on hire. Haldor Topsoe had licenced the "know-how" property to the appellant for commercial exploitation during the period of the contract. The transfer of "know-how" was undertaken by way of supplying technical information and technical assistance to the appellant.

8. It was contended that Haldor Topsoe possessed the "know-how" as property before the transaction was entered into. It was submitted that there was no comprehensive definition of "know-how" which was described as ambience that provided a highly specialised production. It could be imparted to others without necessarily losing its value to the source organisation. "Know-how" consisted of the technical and commercial information, documented in the form of detailed manufacturing data including specifications and drawings. It was also contended that the engineering package was prepared in Denmark and brought into India and that the consideration paid for supply of the engineering design package amounted to sale of goods and not rendering of any service. Moreover, the activities relating to development of "know-how" took place outside India. Hence, the amount realised on transfer of "know-how" cannot come under the purview of service tax imposed under the said Act. According to the appellant, the payment made to Haldor Topsoe was not on account of any taxable service under the category of "consulting engineer" defined in Section 65(31) of the said Act.

9. On the basis of the material on record, the adjudicating authority held that consulting engineer services included advice, consultancy or technical assistance, feasibility study, pre-design services, basic design engineering, detailed engineering design, procurement, construction supervision and project management, supervision on commissioning and initial operation and power planning and training, post operation and management, trouble shooting and technical services, etc. For this, the adjudicating authority relied on the circular dated July 2,1997 and the clarification dated December 18, 2002 issued by the Board.

10. It was noted that the appellant had, in paragraph 10.1 of their reply, disclosed that under the agreement, Haldor Topsoe had granted right to use technical data, information and know-how, for all purposes related to construction, maintenance, debottlenecking and operation of Aonla I Energy Saving Project Phases I and II. From the wordings of the agreements analysed by the adjudicating authority it was concluded that the appellant had clearly received engineering services including technical assistance in connection with its energy saving project for their units from Haldor Topsoe Denmark through transfer of technology and that cannot be termed as "know-how" only.

11. It was, therefore, held to be taxable under the category of consulting engineer services in view of the aforesaid Government circulars. The liability to pay service tax of Rs. 14,26,231 was worked out on the basis of the admission made on behalf of the appellant that an amount of Rs. 4,22,64,128 was paid to Haldor Topsoe by the appellant and that an amount of Rs. 19,54,899 was paid as R & D cess under the R & D Cess Act, 1986 on account of transfer of technology and exemption was claimed by the assessee in respect of that amount from service tax under the notification dated December 1, 2002 (No. 18 of 2002-ST). Besides ordering recovery of Rs. 14,26,231, a penalty of the like amount was imposed under Section 76 of the Act and a penalty of Rs. 1,000 was imposed under Section 77 for failure to furnish the returns. The appellant was also directed to pay interest, under Section 75 of the Act.

12. The Appellate Commissioner, on consideration of the terms of the agreement, held that the relevant parts of the preamble, Clauses 2, 3, 4.2 and 6.2 focused on the technical services being provided including deployment of manpower by Haldor Topsoe in the plants of the appellant for the technical advisory services under the agreements. It was noted that technical services were in addition to the right given to IFFCO, i.e., the appellant, to use all technical data information and "know-how". It was further held that the terms of the agreement made it clear that apart from allowing the use of technical "know-how", technical services in various forms including deployment of technical manpower from Topsoe at the IFFCO Aonla plant had been rendered. It was noted that there was no ambiguity in the clauses of the agreement and the phrases "engineering service", "technical service", etc. had been used intermittently.

13. The Commissioner (Appeals) held that merely because there was a non-exclusive right given to the appellant to use their "know-how", it did not take away the activity undertaken in this case out of the purview of consulting engineering services. As regards the contention that no period had been invoked in the show cause notice, the Appellate Commissioner held that, as per Rule 7 of the Service Tax Rules, 1994, every assessee was required to submit a half-yearly return for the months covered in the half-yearly return. Such returns were to be submitted by the 26th of the following month. It was held that, in the present case, if the dates of agreements dated October 29, 2003 and December 4, 2003 were taken as the crucial dates, then the last date on which a show cause could have been issued, would be sometime in the current year, and since show cause notice was issued on September 11, 2004, it was well within the time prescribed by the law.

14. The Commissioner (Appeals) held that in the present case contents of various clauses indicated that the agreement was not one of transfer of "know-how" as intellectual property, but it also was for rendering engineering service and technical assistance as well as deployment of technical manpower, and all these activities were within the ambit of the definition of "consulting engineer". It was observed that the definition did not bar the transfer of "know-how" also, along with such technical assistance at the relevant time. The appeal was, therefore, dismissed.

On appeal HC held as under,

15. In the present case, agreement is a composite one and speaks of both licensing rights in respect of the "know-how" which was to be kept confidential and technical assistance which was to be rendered in context thereof. Obviously, all the consideration that was relatable to technical assistance, particularly of 50 man-days technical assistance, was liable to be taxed under the said Act as a taxable service.

16. This exercise of apportioning and finding out the consideration that was relatable to the technical assistance which was rendered in the context of licensing rights has not been attempted by the Commissioner (Appeals), though he appears to have been appropriately conscious of the fact that, "apart from allowing the use of the technical 'know-how', technical services in various forms including deployment of technical manpower from Topsoe at IFFCO Aonla has been rendered".

17. All the payments except those which are specifically relatable to licence as covered by Clause 2 and which did not relate to any form of technical assistance included thereunder, will have to be separated, since no tax could be chargeable in respect of such licensing fees attributable to the rights covered by Clause 2 of the agreement, and the service tax will be chargeable only in respect of the technical assistance which was contemplated under the agreement for being rendered at the plant of the appellant in India and which was so rendered.

18. Final order:

19. The impugned order is, therefore, modified by directing that the amount of consideration under the agreements in question, which related to the licensing of "know-how" as contemplated under Clause 2 of the agreement is reduced from the service tax demanded. Rest of the amount of consideration thereunder and under the other relevant clauses which is relatable to the services provided as consulting engineer by way of advice, consultancy or technical assistance in respect of the plants of the appellant in India are taxable under the said Act and to that extent the orders of the authorities below stand confirmed.

20. The appeal is accordingly partly allowed and matter remanded for quantification of the liability with a direction to the Commissioner (Appeals) to work out the difference and reduce the confirmed demand by the part of the consideration amount that related to mere licensing rights, in the light of this judgment. 

Case Reference - Indian Farmers Fertilizer ... vs Commissioner Of Central Excise.