No TDS on payment for software purchase from non-resident u/s 195

No TDS on purchase of software

Long debated and thinkable issues have arisen during a long period which has been judged by the bench of the Supreme court. In this judgment as there have been a lot of ambiguities arisen when payment is made by resident to non-resident entity for granting the use of the software to resident Indian businessmen who use this software for the internal purposes of the business.

Hon’ble Supreme Court addressed the issue in the matter of ENGINEERING ANALYSIS CENTRE OF EXCELLENCE PRIVATE LIMITED Versus THE COMMISSIONER OF INCOME  TAX & ANR. vide CIVIL APPEAL NOS. 8733-8734 OF 2018 wherein a detailed discussion has been carried out around possible scenarios of purchase of software and consequential liability of TDS under section 195 of Income Tax Act, 1961.

In this article, we have given a brief about facts of the case and judgement given by Hon’ble Supreme Court. 

1.Brief facts of the case

  1. M/s Engineering Analysis Centre of Excellence Pvt. Ltd. (“The Applicant”) is a resident Indian.
  2. The applicant is an end-user of shrink-wrapped computer software which is directly imported from the USA. 
  3. After applying DTAA between India and USA and section 9(i)(vi) of Income Tax Act, Assessing officer held that the USA company has transferred copyright to the applicant for which payment of royalty is made. 
  4. Therefore, the applicant was required to deduct TDS on such payment under Section 195 of Income Tax Act, 1961.
  5. ITAT decided the matter in favour of the applicant relying on its judgment passed in matter of Samsung Electronics Co. Ltd. v. Income Tax Officer, ITA Nos. 264-266/Bang/2002.
  6. An appeal was made against the order of ITAT with the High Court of Karnataka by the Revenue wherein Karnataka High Court held that resident Indian importers are liable to deduct TDS.

2. Question answered by Hon’ble Supreme Court

After considering the entire matter, Hon’ble Supreme court grouped the appeal in following 4 categories

  1. First category– Computer software is purchased directly by an end-user who is a resident in India from a foreign non-resident supplier or manufacturer.
  2. Second category- Indian resident companies, acting in capacity of distributor or reseller, purchasing computer software from foreign non-resident suppliers or manufacturers and then reselling the same to resident Indian end-users.
  3. Third category- Foreign distributors, who are non-resident vendors, purchases software from a foreign,non-resident seller, and then in turn resells the same to resident Indian distributors or end-users.
  4. Fourth category- In included cases wherein computer software is affixed onto hardware and is sold as an integrated unit/equipment by foreign, non-resident suppliers to resident Indian distributors or end-users.

3. Interpretation and judgement by Hon’ble Supreme Court

Hon’ble Supreme Court carried out the below interpretation in the given case.

  1. As per Section 195 of Income Tax Act, TDS is deductible on any income paid to non-resident which is taxable under Income Tax Act, 1961.
  2. Therefore, TDS should be deducted only if such income is taxable in India.
  3. As per Article 12(3) of DTAA, Royalty means payment of any kind made for “the use of, or the right to use, any copyright” of a literary work, which includes a computer programme or software”.
  4. As per terms of distribution agreement, in case of distributor, only a non- exclusive and non- transferable licence is given to the distributor to resell computer software either to a further distributor or to the end user. 
  5. Further, the end user only has the right to use the software and no other right such as reverse-engineer, modify, reproduce in any other manner is transferred to the end-user. 
  6. In cases where software is directly sold to the end user, the end user only has the right to install such software in the hardware owned by the end user. The end user do not have any right to reproduce the same for further sale.
  7. Therefore, in the given case, no right or interest is transfered to the end user or distributor. 
  8. Hon’ble Supreme court has also mentioned following example of transfer of licence:
    1. An English publisher sells 2000 copies of a particular book to an Indian Distributor. Such distributors resell such books at a profit. 
    2. No copyright is transferred to the Indian distributor either by way of licence or otherwise as they only have right to resell such book and they have no right to produce the copy of same and sale it.
    3. However, English publisher sell book to Indian Publisher with permission of reproduce the copy of such books alongwith permission of author. 
    4. In this case, it can be said that copyright in the books has been transferred and Indian publisher is making the payment for right to reproduce the books. Such payment can be Characterised as payment of Royalty.
  9. Therefore, in the given case, Distribution agreements do not create any interest or right of the end user or distributor. Therefore, this agreement will not tantamount to use of or right to use any copyright.
  10. Therefore, as per definition of royalties given in Article 12 of the DTAAs, position is clear that persons mentioned in section 195 of the Income Tax Act is not required to deduct TDS.
  11. Further, provisions given under Section 9(1)(vi), along with explanation 2 and 4 thereon deals with royalty. However, such provisions have no application in this case.
  12. Payment made by Indian residents to either foreign non-resident distributor or manufacturer/supplier for further sale or use of such software through distribution agreements is not a royalty for use of copyright in the computer software. Accordingly, it does not give rise to any income taxable in India, 
  13. Therefore, persons referred to in section 195 of the Income Tax Act are not liable to deduct any TDS under section 195 of the Income Tax Act.
CasesTDS deductible
Computer software is purchased directly by an end-user who is a resident in India from a foreign non-resident supplier or manufacturerNo liability to deduct TDS under section 195
Indian resident companies, acting in capacity of distributor or reseller, purchasing computer software from foreign non-resident suppliers or manufacturers and then reselling the same to resident Indian end-usersNo liability to deduct TDS under section 195
Foreign distributors, who are non-resident vendors, purchases software from a foreign,non-resident seller, and then in turn resells the same to resident Indian distributors or end-usersNo liability to deduct TDS under section 195
Computer software is affixed onto hardware and is sold as an integrated unit/equipment by foreign, non-resident suppliers to resident Indian distributors or end-usersNo liability to deduct TDS under section 195

DISCLAIMER: The views expressed are strictly of the author and VJM & Associates LLP. The contents of this article are solely for informational purpose. It does not constitute professional advice or recommendation of firm. Neither the author nor firm and its affiliates accepts any liabilities for any loss or damage of any kind arising out of any information in this article nor for any actions taken in reliance thereon.

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