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DTAA A sigh of relief

for Royalty cases

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Explanation 4 to section 9(1)(vi) of the Income-tax Act

inserted retrospectively by the Finance Act 2012 was
considered to be one of the worrisome amendments for
many assessees. Especially, for those assessees dealing
with the taxability of consideration arising on use of a
computer software. Title to the memorandum explaining
the objective of amending the provisions read as
'Rationalization of International Taxation Provisions'.
Rationale behind insertion of the said Explanation was
provided to be that the judicial precedents had
interpreted the definition of royalty in a manner which
had raised doubts whether consideration for use of
computer software is royalty or not. Similarly, doubts had
been raised regarding meaning of the term 'process'. In
view of the conflicting decisions of various courts in
respect of income in the nature of royalty and to restate
the legislative intent, this amendment was brought into
being.
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Thus, the stated objective of introducing these amendments was to resolve the doubts raised on
interpretation of royalty subject to the conflicting judicial pronouncements prevailing at the
relevant time. But, it appears that over the period of time, this amendment has raised more
concerns on the interpretation of term "royalty", albeit to state that this has worked out to be
one more armor in the hands of tax department to contest that the consideration received for
the use of computer software is taxable as royalty.
In such cases, it would be interesting to note that the provisions of tax treaties entered into
between the countries come to rescue of the tax payer.
One such recent decision is of Mumbai Tribunal in the case of M/s Baan Global B V*, where the
above amendments have been dwelled upon for determining the taxability of royalty. Facts of
this case are briefly discussed as underAssessee, a non-resident company registered in Netherlands was engaged in the business of
development and sale of computer software. During the year under review, the assessee had
entered into an agreement with its Indian subsidiary for distribution of "off the shelf" software in
India.
Consideration received on the supply of software, more specifically its characterization was a
subject matter of dispute. The tax authorities alongwith other arguments and judicial
Customer
Care No. 91-11pronouncements
took support of the amendment to Explanation 4 to sectionwww.taxmann.com
9(1)(vi) of the Act

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Mumbai Tribunal decided this issue in favour of the assessee holding that,
The retrospective amendments brought into the statute cannot be read into the tax treaty
entered into between India and Netherlands
Treaty has not been correspondingly amended in line with new enlarged definition of royalty
The limitation clause cannot be read into the treaty for applying the provisions of domestic
law like in Article 7 in some of the treaties
A treaty which was entered between two sovereign nations, then one country cannot
unilaterally alter its provision
Other important observations in this decision were From the terms of agreement, it may be derived that the Indian customer / the subsidiary
except for the limited right to access the copyright software for its own business purpose did
not acquire any kind of right to exploit the copyright in the software
Computer software does not fit under most of the terms used in the Article 12 of tax treaty
entered into between India and Netherlands
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There was no 'use of process' as the customer does not have any access to the source code
No copyrights in the computer programme or software as envisaged under section 14 of the
Copyright Act, 1957 was given to the Indian customers
The consideration is for sale of copyrighted product and not for use of any copyright
In light of the above, it would be worthwhile to highlight that despite the attempts made by the
revenue to overcome adverse decisions to the department on the issue of royalty, so long as
the transactions are covered by the favourable tax treaties, it should not worry the assessee.

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