Facts of the Case

Ericsson AB, a foreign company, supplied telecommunication equipment and related software to Indian customers under various contractual arrangements. The Revenue authorities contended that consideration received for software supplied along with telecom equipment represented royalty income taxable in India.

The controversy arose regarding whether the payment received for software embedded in equipment amounted to a transfer of copyright rights or merely constituted sale of a copyrighted article. Connected appeals before the Delhi High Court referred to the detailed judgment rendered in ITA No. 261/2014.

Issues Involved

  1. Whether consideration received for supply of software constituted royalty under Section 9(1)(vi) of the Income Tax Act, 1961.
  2. Whether software supplied as part of telecom equipment could be separately taxed as royalty.
  3. Whether payments were subject to tax deduction at source under Section 195.
  4. Whether the transactions created taxable income in India under domestic law and DTAA provisions.

Petitioner's Arguments (Revenue/Director of Income Tax-I)

The Revenue argued that:

  • The payments made towards software represented consideration for use or right to use intellectual property and therefore fell within the definition of royalty.
  • Software was an independent asset and could not merely be regarded as part of hardware supplied.
  • Since royalty income accrued in India, tax was deductible under Section 195.
  • The software transactions involved use of copyright rights and thus attracted taxation under the Income Tax Act.

Respondent's Arguments (Ericsson AB)

Ericsson AB contended that:

  • The software supplied formed an integral part of telecom equipment and was not separately exploitable.
  • There was no transfer of copyright rights; only a copyrighted product was supplied.
  • Customers were not granted rights to reproduce, modify or commercially exploit the software.
  • Payments represented business income from sale of goods and not royalty income.
  • Under the applicable DTAA provisions, such payments could not be taxed as royalty.

Court Findings / Order

The Delhi High Court referred to and followed the detailed findings rendered in ITA No. 261/2014 and decided the connected appeals accordingly.

The Court held that:

  • Mere supply of software embedded in telecom equipment does not automatically constitute royalty.
  • A distinction exists between transfer of copyright rights and sale of copyrighted articles.
  • Absence of rights to exploit or reproduce software indicates that the payment is not royalty.
  • Payments for integrated supply of telecom equipment and embedded software cannot be artificially bifurcated for tax purposes.
  • The Revenue's appeals were disposed of in terms of the detailed judgment.

Sections Involved

  • Section 9(1)(vi) – Income by way of Royalty
  • Section 195 – Deduction of Tax at Source (TDS)
  • Section 90 – Double Taxation Avoidance Agreement (DTAA)
  • Section 4 – Charge of Income Tax
  • Section 5 – Scope of Total Income
  • Relevant provisions of India-Sweden DTAA

Important Clarification

The Court emphasized the distinction between:

Transfer of Copyright
vs.
Transfer of Copyrighted Article

Where only a copyrighted product is supplied without granting exploitation rights, the payment ordinarily does not qualify as royalty.

The ruling also reinforced that embedded software supplied as part of equipment cannot automatically be separated and subjected to independent royalty taxation.

Link to download the order -https://delhihighcourt.nic.in/app/case_number_pdf/2015:DHC:4441-DB/RKG18052015ITA2632014.pdf

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