H P Agrawal: Embedded software is not taxable
The issue for consideration is where any equipment is supplied by a non-resident along with the software embedded therein, whether the amount charged towards software can be taxed in India as “royalty".
Reference in this regard may be made to the decision of Hon’ble Delhi High Court in the case of DIT v Ericsson 343 ITR 470. The main business of the assessee is supply of hardware and software which is used in the business of rendering telecommunication services, and for this purpose, it undertakes projects which involve supply of hardware and software, installation and commissioning and after sales service, on turnkey basis. The software so supplied by the assessee was embedded in the hardware and such softwares did not have any independent existence.
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The issue for consideration was whether the supply of software can be taxed in India as royalty?
The Hon’ble Delhi High Court held that “…what was sold by the assessee to the Indian customers was a GSM which consisted both of the hardware as well as the software, therefore, the Tribunal is right in holding that it was not permissible for the Revenue to assess 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 functioning of the equipment and is an integral part thereof...."
On the basis of aforesaid observation, the hon’ble high court held that software would not be taxable as royalty. In other words, the hon’ble court has clearly taken a view that where any software is embedded in hardware and such software has no existence without such hardware or cannot be used, then the software so supplied will not be taxable as royalty.
The aforesaid decision has further been followed by the Hon’ble Delhi High Court in a recent case of DIT v Nokia Networks OY, in ITA No 512 of 2007 dated September 7, 2012. The facts of the case in Nokia were similar to facts of Ericsson(supra). The hon’ble high court followed its own decision and held that software supplied alongwith hardware shall not be treated as royalty in India.
Similar view was also been taken by the Mumbai Tribunal in a recent decision dated May 18, 2012, in the case of ADIT v M/S SIEMENS AKTIENGESELLSCHAFT in ITA No 4502/ Mum/ 2009.
A perusal of the aforesaid various decisions make it amply clear that if the software is supplied alongwith the hardware and the software is embedded in the hardware and cannot be used without such hardware, then the software so supplied cannot be taxed as royalty in India.
It is important to note here that section 9(1)(vi) of the Income-Tax Act has been amended by the Finance Act 2012 with retrospective effect from June 1, 1976. Explanation 4 has been inserted to provide that transfer of all or any rights in respect of any right, property or information includes and has always included transfer of all or any right for use or right to use computer software. In other words, it has been clarified by way of an explanation that transfer of computer software shall be treated as royalty.
Prior to the aforesaid amendment, there are several cases wherein it has been held that the transfer of standalone software will not amount to royalty and accordingly, will not be liable for tax in India. Reference in this regard may be made to the decision of Dassault Systems KK 322 ITR 125, also DDIT v M/s Solid Works Corporation, (in ITA No 3219/Mum/2010 dated February 8, 2012. But it appears that post amendment by the Finance Act 2012, the taxability may be different in case of standalone software and the same may be taxed as royalty.
However, the decision in the case of Nokia (supra) has been rendered after the aforesaid amendment. The high court has taken note of the amendment in para 23 of the order. Therefore, it is clear that even after the aforesaid amendment, if the software is supplied along with the hardware and the software so supplied cannot be used without such hardware or has no existence without such hardware, then such software would not be hit by the amended section 9(1)(vi) and accordingly, would not be treated as royalty.