UT STARCOM INC.,GURGAON vs. ACIT, GURGAON

This bunch of three appeals arise out of two separate orders

of learned Commissioner of Income Tax (Appeals). Cross appeals

for the assessment year 2004-05 have been filed by the assessee

and the Revenue. The appeal for assessment year 2005-06 has

been filed by the assessee alone.

ITA No.998/Del/2009 (Assessee’s Appeal) AY: 2004-05

made on certain receipts from Reliance Infocomm Ltd. as royalty,

both under the domestic law as well as India – United States of

America (USA) Double Taxation Avoidance Agreement (DTAA).

non-resident corporate entity and a tax resident of USA. As

stated, the assessee is engaged, inter alia, in the business of

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developing and marketing of telecommunication equipments and

related software. In the relevant assessment year, the assessee

had a branch office in India. For the assessment year under

dispute, the assessee filed its return of income on 31.10.2004

declaring income of Rs.1,19,62,800/-. Subsequently, the assessee

filed a revised return of income on 03.01.2006 claiming credit of

excess Tax Deducted at Source (TDS). Be that as it may, in course

of assessment proceeding, the Assessing Officer noticed that,

though, the assessee had receipts of Rs.7,34,95,361/- from

certain Indian companies, however, the assessee had not offered

such receipts to tax. When the Assessing Officer called upon the

assessee to explain, why such receipts should not be treated as

royalty income, as, it was for transfer of right to use the copyright

in the software, the assessee submitted that it had sold the

software along with hardware (equipments) on outright sale. The

assessee submitted that the software sold by the assessee is

embedded in the hardware and only for the purpose of operating

hardware. Therefore, it cannot be treated as royalty. The

Assessing Officer, however, was not convinced. Referring to

agreements entered with various Indian telecommunication

companies, such as, Bharti Telenet Ltd., Tata Teleservices Ltd., 3 | P a g e

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and Reliance Infocomm Ltd., the Assessing Officer concluded that

the receipts from transfer of right to use the software are in the

nature of royalty. Further, he held that since the assessee had a

branch office in India and the agreements with the Indian

telecommunication companies have been signed in India by an

employee of the branch office, the royalty income is connected to

the branch office, which constitutes Permanent Establishment

(PE) of the assessee in India. Thus, he held that the receipts

would be taxable in India, as royalty income, both under section

9(1)(vi) read with section 115A/44D of the Act as well as under

the India- USA DTAA, since, the assessee had a PE in India in

terms of Article 5 of the treaty. He further observed, even

assuming assessee’s claim that the receipts are not in the nature

of royalty income is correct, still they will be taxable as business

profits under Article 7(1) of the treaty, as, the assessee has a PE

in India. He held, since the assessee had already claimed all

expenses in the return of income attributable to the PE, no

further expenses can be deducted from the receipts. Thus, he

held that the entire amount of Rs. 7,34,95,361/- is taxable in

India.

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ITA Nos.998 & 1858/Del/2009 & 187/Del/2014 &

preferred an appeal before learned first appellate authority. After

considering the submissions of the assessee in the context of

facts and materials on record, learned Commissioner (Appeals)

held that, insofar as receipts from Bharti Telenet Ltd. and Tata

Teleservices Ltd. are concerned, since the assessee has

transferred limited, non-transferable, non-exclusive right to use

the software solely in the operation of telecommunication

equipments purchased by them, such receipts cannot be treated

as royalty income. However, he observed, since, the agreement

with Reliance Infocomm Ltd. is differently worded, in the sense,

that a perpetual, irrevocable, exclusive, unrestricted licence has

been granted, the receipts from Reliance Infocomm Ltd. would be

taxable as royalty income.

of the receipts from supply of software as business profit, learned

Commissioner (Appeals) held that the receipts from Bharti Telenet

Ltd. and Tata Teleservices Ltd. are taxable as business profit

under Article 7 of India – USA DTAA as the assessee had a PE in

India and such receipts are integrally connected to the PE. Insofar

as deductibility of expenses from the profit attributed to the PE, 5 | P a g e

ITA Nos.998 & 1858/Del/2009 & 187/Del/2014 &

learned Commissioner (Appeals) directed the Assessing Officer to

compute the income of the PE in accordance with judgment of the

Tribunal in case of Motorola Inc. Vs. DCIT [2005] 95 ITD 269

(Delhi ITAT) (SB), i.e., on the basis of percentage of net profit on

global service applied to Indian sales. Being aggrieved with the

order passed by learned first appellate authority, both the

assessee and the Revenue are in appeal.

materials on record. Undisputedly, the assessee had entered into

agreements with certain India telecommunication companies,

such as, Bharti Telenet Ltd., Tata Teleservices Ltd. and Reliance

Infocomm Ltd. for supply of basic telecom infrastructure

equipment software and assisting them to set up

telecommunication network. Basically, these telecom equipments

and software were put to use by Indian telecommunication

companies to provide basic telecommunication services, value

added services, and broad-band services. In sum and substance,

the equipments and software were provided to the Indian

telecommunication companies to set up mobile

telecommunication networks in India. On a perusal of the

agreements entered into by the assessee with Indian 6 | P a g e

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telecommunication companies, we do not find any perceptible

difference in them. The agreements clearly reveal that the

assessee has supplied telecommunication hardware with

software. The software provided are embedded in the hardware

and are required to operate the telecommunication network. It is

a fact on record that learned Commissioner (Appeals) after

appreciating the materials placed before him was convinced that

the software supplied by the assessee was embedded in the

hardware and were required for operating the

hardware/equipment. Insofar as agreement with Reliance

Infocomm Ltd. is concerned, learned Commissioner (Appeals) has

taken a different view by stating that the assessee has transferred

a perpetual, irrevocable, exclusive, unrestricted licence. After

perusing the agreement with Reliance Infocomm Ltd. as a whole,

we find the following features. • As per clause 15.1.1 of the Agreement, the assessee has

granted a perpetual, irrevocable, non-exclusive, unrestricted

(within the Broadband Access Reliance Network) unlimited,

royalty free license, to use the software.

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• Clause 15.1.3 of the Agreement says that software licenses

shall not be transferred, assigned, sublicensed by or used by

Reliance without the consent of the assessee. • Clause 15.1.4 of the Agreement says Reliance shall use such

software only for the operation of the Broadband Access

Reliance Network. Clause 15.1.4 puts a condition that the

Reliance will not sub-license such software, or modify,

decompile, reverse engineer or disassemble or in any other

manner decode software furnished as object code for any

other reason. It further provides that the Reliance shall not

copy the software including firmware except for the purposes

of making a limited number of archival copies. • Clause 15.1.6 of the Agreement says that the Reliance

should hold secret and not disclose the software to any

person, except to its employees, contractors, agent

representatives or Reliance affiliates that are involved in the

operation, maintenance of management of the Broadband

Access Reliance Network. Clause 15.1.6 provides that in

case software licenses are cancelled or finally terminated,

Reliance shall return all copies of such software to assessee.

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that the embedded software has been provided to Reliance only

for the purpose of operating the telecommunication equipments

supplied by the assessee for Broadband Access Reliance Network.

The software licence agreement puts various restrictions and

conditions on Reliance with reference to usage of this software.

The terms of the agreement make it clear that Reliance cannot

itself make copy or duplicate, or permit anyone else to do so with

regard to any part of the software, or create the source programs

or any part thereof from the object programs. Reliance cannot

make the software accessible to any person other than its

employees, contractors etc. only for the purpose of establishing

and operating the Broadband Access Network. Reliance cannot

directly or indirectly sell, transfer, offer, disclose, rent, lease (as

lessor), or license the software to any thirty party, except for right

to use the software. The agreement further makes it clear that the

assessee has not made any independent supply of software to the

Indian telecommunication companies. Rather, the assessee has

supplied Digital Loop Carrier System (DLC), which is the

hardware along with software to operate the hardware.

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which means all hardware and software components and

subsystems provided by the assessee. Therefore, it is evident that

the hardware and software were supplied together as an integral

and inseparable package and the hardware and software cannot

be operated without each other. Thus, from the aforesaid fats it is

very much clear that the assessee has not transferred use or right

to use, a copyright of a literary, artistic or scientific work so as to

fall within the definition of royalty under Article 12 of India – USA

DTAA. In any case of the matter, in our view, the issue is no more

res integra in view of the decision of Hon’ble Supreme Court in

case of Engineering Analysis Centre of Excellence Pvt. Ltd.

Vs. CIT (432 ITR 471), wherein, the Hon’ble Supreme court has

divided software transactions into following four categories:

“4. The appeals before us may be grouped into four categories: i. The first category deals with cases in which computer software is purchased directly by and end-user, resident in India, from a foreign, non-resident supplier or manufacturer. ii. The second category of cases deals with resident Indian companies that act as distributors or resellers, by purchasing computer software from foreign, non-resident suppliers or manufacturers and then reselling the same to resident Indian end-users. iii. The third category concerns cases wherein the distributor happens to be a foreign, non-resident vendor, who, after purchasing software from a foreign, non-resident seller, resells the same to resident Indian distributors or end-users. 10 | P a g e

ITA Nos.998 & 1858/Del/2009 & 187/Del/2014 &

iv. The fourth category includes cases wherein computer software is affixed onto hardware and is sold as an integral unit/equipment by foreign, non-resident suppliers to resident Indian distributors or end-users.”

falls within the fourth category. After analyzing the meaning of

royalty under the provisions of the Income Tax Act, Copyright Act,

and various DTAAs as well as number of judicial precedents, the

Hon’ble Supreme Court finally concluded as under:

“169. Our answer to the question posed before us, is that the amounts paid by resident Indian end-users/distributors to non- resident computer software manufacturers/suppliers, as consideration for the resale/use of the computer software through EULAs/distribution agreements, is not the payment of royalty for the use of copyright in the computer software, and that the same does not give rise to any income taxable in India, as a result of which the persons referred to in section 195 of the Income Tax Act were not liable to deduct any TDS under section 195 of the Income Tax Act. The answer to this question will apply to all four categories of cases enumerated by us in paragraph 4 of this judgment.”

Supreme Court, it has to be held that the receipts from Reliance

Infocomm Ltd. are not taxable as royalty income, either under the

domestic law or India – USA DTAA. More so, when the agreement

between the parties makes it clear that the ownership rights over

the software remains with the licensor. Thus, for the aforestated

reasons, we hold that the amount received by the assessee from

Reliance Infocomm Ltd. is not taxable as royalty income. 11 | P a g e

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the first appellate authority in holding that certain other receipts,

though, not in the nature of royalty, are business profits and are

attributable to the PE. As discussed earlier, while deciding the

issue whether the receipts from supply of software to Indian

telecommunication is in the nature of royalty, learned first

appellate authority has held that the receipts from Bharti Telenet

Ltd. and Tata Teleservices Ltd. are not royalty but in the nature of

business profits and taxable in India as such profits are

attributable to the PE. While coming to such conclusion, learned

Commissioner (Appeals) observed that the branch office is

involved in the following activities:

i. Identifying potential customers.

ii. Providing market related information to head office.

iii. Organizing trade shows and advertisement of new

products.

iv. Providing assistance to customer for importing the

telecom product from head office directly.

v. Post sales support services etc.

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that the branch office in India is engaged in development of

software, which is exported to the assessee and were utilized by

the head office in the equipments which are marketed in India.

Further, he observed, various other bills raised by the branch

office were towards marketing, supply, coordination and other

services rendered. Thus, according to the first appellate authority,

the branch office has been used in not only software development

but also in identification of potential customers, providing

assistance to them, post sales services etc. Thus, based on such

inferences, learned first appellate authority held that the receipts

are taxable in India as business profits attributable to the PE.

While coming to such conclusion, learned Commissioner

(Appeals) also negated assessee’s contention that when the

transaction between the assessee and branch office are accepted

to be at arm’s length, no further profit can be attributed to the

PE.

submitted that the primary condition required to be satisfied for

invoking Article 7 of the treaty is that both the foreign company

and the PE should be conducting same or similar activities in 13 | P a g e

ITA Nos.998 & 1858/Del/2009 & 187/Del/2014 &

India. In this context, he drew our attention to Article 7(1) of India

– USA DTAA. He submitted in the facts of assessee’s case, the

conditions of Article 7(1) are not fulfilled as the activities

undertaken by the head office in India are completely different to

the activities undertaken by the branch office. He submitted, the

branch office is merely engaged in providing marketing support

services to the head office and development of part of the patches

of software for head office. He submitted, the branch office was

not, at all, engaged in sale of software in India. Rather, the

software developed by the branch office was not saleable to any

customers as it is not complete and cannot be used to operate the

hardware. Whereas, the head office has sold software to Indian

customers, which can operate hardware. Thus, he submitted, the

conditions of Article 7(1) are not applicable. He submitted, except

development of software patches, all other activities relating to

sale of hardware and software have taken place outside India and

the sale of hardware and software to the Indian customers is in

the nature of offshore supply.

has been transferred outside the territory of India, such receipts

cannot be taxable in India. In this context, he relied upon a 14 | P a g e

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decision of the Hon’ble Supreme court in case of Ishikawajma-

Harima Heavy Industries Ltd. Vs DIT [2007] 288 ITR 408

(SC). Without prejudice, he submitted, even as per the provisions

of the Act, only such part of the income attributable to the

operation carried out in India can be taxed in India. Thus, he

submitted, the entire receipts, which includes, manufacturing

and supply of equipment software from outside India, wherein,

there is no involvement of the branch office, cannot be made

taxable in India. Proceeding further, he submitted, since the

branch office has been remunerated at arm’s length by the head

office with respect to the activities performed, which has been

accepted by the Transfer Pricing Officer (TPO), no further profit

can be attributed to the PE. For such proposition, he relied upon

a decision of Hon’ble Supreme Court in case of DIT

(International Taxation), Mumbai vs. M/s Morgan Stanley &

Co. Inc., (2007) 7 SCC 1. Thus, he submitted, the addition made

on account of attribution of profit to the PE should be deleted.

the observations of the Assessing Officer and learned

Commissioner (Appeals).

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ITA Nos.998 & 1858/Del/2009 & 187/Del/2014 &

materials on record. We have also applied our mind to the

decisions relied upon. Undisputedly, the assessee has sold

telecommunication equipments along with software to Indian

telecommunication companies. It is also a fact on record that the

telecommunication hardware and software were not supplied by

the assessee directly to the Indian customers from outside India.

Therefore, the issue arising for consideration is, whether the

receipts from such supply, though, may be in the nature of

business profits, can be attributed to the PE in India. Learned

first appellate authority has held that the PE in India is involved

not only in providing marketing and support services, but has

also sold part of software to the head office, which in turn, was

used by the head office in the final product.

record, it can be seen that the agreement for supply of

telecommunication equipment along with software was between

the head office and the Indian customers. It is also a fact that the

telecommunication equipments along with software were supplied

from outside India directly to the Indian customers. The payments

were also made directly to the assessee by the Indian customers. 16 | P a g e

ITA Nos.998 & 1858/Del/2009 & 187/Del/2014 &

Though, there is an allegation by the departmental authorities

that the branch office has played a role in respect of such

supplies, however, in what manner and to what extent the branch

office has played such role is not forthcoming from the

observations of the departmental authorities. It appears from

record that the branch office has developed a patch of the

software, which has been sold to the head office. It may be a fact

that the patch of the software developed by the branch office was

made part of the complete software, which in turn, got embedded

in the hardware supplied to the Indian customers by the head

office. However, in our view, such sale of patch of software by the

branch office to the head office cannot be linked to the supply of

telecommunication equipment and software by the assessee to

the Indian customers, as, the branch office has a very limited and

restricted role of supplying patch of the software.

concerned and for that matter all other transactions between the

branch office and head office have been accepted to be at arm’s

length, in such a scenario, no further profit attribution can be

made to the PE. It is borne out from record that the head office

has directly supplied the hardware and software from outside the 17 | P a g e

ITA Nos.998 & 1858/Del/2009 & 187/Del/2014 &

territory of India. Neither manufacturing nor any other activities

relating to the hardware and software supply has taken place in

India. In such a scenario, the profit/income from offshore supply

of equipments and software cannot be attributed to the PE, as,

only such part of income relating to operation carried out in India

can be attributed to the PE and taxed in India.

of equipments and software cannot be attributed to the PE. The

departmental authorities have not demonstrated in any financial

terms, what is the exact role of the PE in earning the receipts and

to what extent. Only that part of the receipts, which can be linked

to the activities of the branch office, can be brought to tax in India

by attributing to the PE. Instead of undertaking any such

exercises, the departmental authorities have attributed the entire

receipts to the PE, which in our view, is unsustainable.

Accordingly, we hold that the receipts from Bharti Telenet

Services Ltd. and Tata Teleservices Ltd., even though, may be in

the nature of business profits, but cannot be attributed to the PE.

disallowance of Rs.4,51,292/-, being employees contribution to

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Provident Fund (PF) and Employees State Insurance (ESI) paid

beyond the due date.

record. Before us, it is the specific contention of learned counsel

for the assessee that the amount in dispute was paid within the

grace period provided under the PF and ESI Act. In this context,

he relied upon a decision of Hon’ble Madras High Court in case of

CIT Vs. The Salem Cooperative Spinning Mills Ltd., TC (A) No. 90

of 2006, judgment dated 7th February, 2006.

the Assessing Officer to verify, whether the amount in dispute was

remitted to the Government account within the grace period

provided under the PF and ESI Act. If on such verification, the

Assessing Officer funds assessee’s claim to be correct, the

addition should be deleted.

additional ground, challenging the levy of interest under section

234B of the Act. Since, the additional ground can be decided

without fresh investigation in to the facts, we admit it for

adjudication.

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company, it has no liability to pay advance tax, as, the obligation

is on the payer to deduct tax at source. For such proposition,

learned counsel relied upon a catena of judicial precedents.

precedents cited before us, we accept assessee’s claim and hold

that no interest under section 234B of the Act can be charged as

the assessee, being a non-resident company was not liable to pay

advance tax, since, the payer is under an obligation to withhold

tax under section 195 of the Act while making payment to the

assessee. Accordingly, the Assessing Officer is directed to delete

the interest charged under section 234B of the Act.

ITA No. 1858/Del/2009 (Revenue’s Appeal) AY: 2004-05

1) On the facts and circumstances of the case and in law, the learned CIT(A) has erred in holding that payment received from M/s Bharti Telenet Limited and M/s Tata Teleservices Limited in not taxable as royalty u/s 9(1)(vi) of the Income-tax Act, 1961. 2) On the facts and circumstances of the case and in law, the Ld. CIT(A) has erred in holding that the payment received from

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ITA Nos.998 & 1858/Del/2009 & 187/Del/2014 &

M/s Bharti Telenet Limited and M/s Tata Teleservices Limited is taxable as business profit. 3) On the facts and circumstances of the case and in law, the Ld. CIT(A) has erred in holding that the business profit should be computed in accordance with the judgment of Hon'ble Delhi ITAT in the case of Motorola Inc. V/s DCIT 95 ITD 269 (SB) (Del) i.e. on the basis of percentage of net profit on global sales applied to Indian Sales.

overlapping issues already dealt with in assessee’s appeal in ITA

No. 998/Del/2009 (supra). While deciding assessee’s appeal, we

held that the receipts from Indian telecommunication companies

cannot be taxed, either as royalty or as business profits in India.

have become infructuous. Grounds are dismissed.

ITA No.187/Del/2014 (Assessee’s Appeal) AY: 2005-06

attribution of profit to the PE in India in respect of offshore

supplies of telecommunication equipments and software.

Whereas, in ground nos. 3 and 4 the assessee has raised the

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issue of taxability of receipts from software licenses as royalty

income.

assessee’s appeal, being ITA No.998/Del/2009 decided by us in

the earlier part of the order. While dealing with the very same

issues, we have held that the receipts from sale of software

licenses are not in the nature of royalty income. We have also

held that, though, such income may be in the nature of business

profit, however, no part of which can be attributed to the PE in

India. Thus, our decision in the said appeal will apply mutatis

mutandis to this appeal as well. Grounds are allowed.

Revenue’s appeal is dismissed.

Order pronounced in the open court on 30th June, 2023

Sd/- Sd/- (G.S. PANNU) (SAKTIJIT DEY) PRESIDENT VICE PRESIDENT Dated: 30th June, 2023. RK/- Copy forwarded to: 1. Appellant 2. Respondent 3. CIT 4. CIT(A) 5. DR Asst. Registrar, ITAT, New Delhi

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