Facts of the Case

The present appeals were filed by the Revenue against the respondent-assessee, ZTE Corporation, before the Delhi High Court. The core issue arose from the tax treatment of payments received by the assessee for supply of software along with hardware.

The Revenue contended that such payments should be treated as “royalty” under Section 9(1)(vi) of the Income Tax Act, 1961, read with Article 12(3) of the Indo-China Double Taxation Avoidance Agreement (DTAA).

At the outset, the Revenue fairly conceded that the issues involved were already covered by the earlier judgment of the Delhi High Court in Commissioner of Income Tax, International Taxation v. ZTE Corporation (2017) 392 ITR 80 (Delhi).

Issues Involved

  1. Whether payments received for supply of software along with hardware constitute “royalty” under:
    • Section 9(1)(vi) of the Income Tax Act, 1961
    • Article 12(3) of the Indo-China DTAA
  2. Whether interest under Section 234B is applicable in such cases involving non-resident assessees.

Petitioner’s Arguments (Revenue)

  • The Revenue argued that payments for software should be characterized as royalty.
  • It relied on Explanations 5 & 6 to Section 9(1)(vi) to expand the definition of royalty.
  • It was also contended that interest under Section 234B was applicable.

Respondent’s Arguments (Assessee – ZTE Corporation)

  • The assessee contended that supply of software was incidental to hardware and constituted sale of goods, not royalty.
  • It argued that the transaction did not involve transfer of any copyright but only use of software embedded in hardware.
  • The assessee relied on earlier judicial precedents, including its own case (2017 decision) and similar rulings like Ericsson.

Court’s Findings / Order

The Delhi High Court dismissed the appeals filed by the Revenue, holding:

  • The issue was squarely covered by its earlier judgment in ZTE Corporation (2017).
  • Supply of software enabling the use of hardware does not amount to royalty.
  • Separate invoicing or nomenclature (license fee, etc.) does not determine the nature of the transaction.
  • The transaction was held to be sale of goods (software as part of hardware) and not royalty.

Further:

  • The Court rejected the argument that payments could be treated as consideration for use of equipment.
  • On the issue of Section 234B, the Court held that the matter is covered by GE Packaging and ruled in favour of the assessee.

 Accordingly, all appeals were dismissed in favour of the assessee and against the Revenue.

Important Clarifications

  • Software supplied along with hardware, essential for its functioning, is treated as goods, not royalty.
  • Mere labeling of payment as “license fee” does not change its legal nature.
  • DTAA provisions override domestic law where beneficial.
  • Interest under Section 234B is not applicable where tax is deductible at source on payments to non-residents.

Sections Involved

  • Section 9(1)(vi) of the Income Tax Act, 1961
  • Section 234B of the Income Tax Act, 1961
  • Article 12(3) of Indo-China DTAA
  • Explanations 5 & 6 to Section 9(1)(vi)

Link to download the order -https://delhihighcourt.nic.in/app/case_number_pdf/2019:DHC:7419-DB/VSA26082019ITA7632019_165604.pdf


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