What are the rules applicable for the deduction of tax on the import of Software. Read the judgement by the Supreme court to know more


Much awaited Judgement - TDS on Software

Case: Engineering Analysis Centre of Excellence Private Limited (Taxpayer) Vs. CIT & Anr. (Supreme Court of India)

Ruling: The Supreme Court held that the amounts paid to non-resident computer software manufacturers or suppliers as consideration for the resale/use of computer software through End User Licensing Agreement (EULAs) or distribution agreements by Indian Residents is not payment of royalty for the use of copyright in the computer software under various relevant tax treaties.

Conclusion: Therefore, the same is not liable for deduction of tax at source under Section 195 of the Income Tax Act, 1961.

Details of the Case

- The taxpayer who is an Indian Resident imported from the USA a shrink-wrapped computer software. The taxpayer made payments to the vendor in the AY 2001-2002 and 2002-2003 without deducting tax at source.

- The Assessing Officer held that the transfer in the transaction constituted 'copyright' which attracted the payment of royalty and was subject to deduction of tax at source by the Indian importer.

The contention of Supreme Court

  • The bench rejected the argument by Income Tax Department that 'the purchase of software is taxable as income arising in India'
  • The Court held that there was no obligation on the persons under the Section 195 of the Act to deduct tax at source as the transaction constitutes only a non-exclusive, non-transferable license to resell computer software and it is being expressly stipulated in the agreements/EULA that no copyright in the computer programme is transferred either to the distributor or end-user.
  • Section 201 of the Act will not apply to Indian companies for deducting the TDS from foreign software.
  • The license that is granted vide the EULA is not a license in terms of Section 30 of the Copyright Act, which transfers an interest in all or any of the rights contained in sections 14(a) and 14(b) of the Copyright Act, but is a "license" which imposes restrictions or conditions for the use of computer software.
  • The Court further held that the transaction is similar to the 'Sale of goods' as what is "licensed" by the non-resident vendor to the Indian user is in fact the sale of a physical object that contains an embedded computer program and is, therefore, a sale of goods.
  • It is to be noted further that the provisions of the Double Tax Avoidance Agreement (DTAA) will apply, and when they do the provisions of Income Tax will apply only to the extent it is beneficial to the assessee.
  • Hence the definition of the term 'Royalty' in Article 12 of the DTAA will apply and not the provisions contained in the Act (section 9(1)(vi) along with explanations 2 and 4 thereof) which deal with royalty since they are not being more beneficial in the case.
  • Hence the term definition of 'Royalty' held in Article 12 of DTAA makes it clear that there is no need for deduction of tax at source for persons falling under Section 195 of the Act.

The issue of taxability of payment for software as royalty has been subject to debate for the longest time. Given the nature of the commodity, the usage rights assigned to it, the rights to resell, and the right to reproduce the judgments have varied. In this case, the Supreme Court has given the above ruling.