Aspect Software Inc. vs DCIT, Circle 1(1)(1) – Dispute Over Taxation of Software Revenue as Royalty for AY 2016-17

Case Overview: Aspect Software Inc. vs DCIT, Circle 1(1)(1), Assessment Year 2016-17

This case involves Aspect Software Inc., a corporation based in Delaware, USA, which filed an appeal against the order of the Deputy Commissioner of Income Tax (DCIT), Circle 1(1)(1) International Taxation, New Delhi, for the assessment year 2016-17. The central issue in the appeal was the taxation of revenue earned by the appellant from the supply of software to Indian customers, which was classified as ‘royalty’ by the tax authorities under the India-US Double Taxation Avoidance Agreement (DTAA).

Background

Aspect Software Inc. is engaged in the business of providing hardware, software, and support services that enable call center companies to manage customer interactions via various channels, including voice, email, web, and fax. During the financial year 2015-16, the company earned revenue from the supply of software, hardware, and related services to customers in India.

The appellant filed its income tax return for the assessment year 2016-17, reporting a total income of Rs. 65,51,514. However, during the assessment proceedings, the Assessing Officer (AO) computed the total income at Rs. 12,48,05,161 by treating the revenue earned from the supply of software as ‘royalty’ under Article 12 of the India-US DTAA and Section 9(1)(vi) of the Income Tax Act, 1961.

Key Issues Raised

The appellant contested the AO’s decision, raising several grounds in its appeal, including:

• **Taxation of Software Revenue as Royalty**: The appellant argued that the revenue earned from the supply of software should not be classified as ‘royalty’ under the India-US DTAA. Instead, it should be treated as business income, as the software was sold as a copyrighted article, not as a transfer of copyright.
• **Non-application of Precedents**: The appellant highlighted that the AO and the Dispute Resolution Panel (DRP) failed to follow the precedents set by the Delhi High Court and the Income Tax Appellate Tribunal (ITAT) in the appellant’s own cases for earlier years, where similar transactions were not treated as royalty.
• **Beneficial Tax Rate**: The appellant also contended that even if the revenue was to be taxed as royalty, the beneficial tax rate of 10% under Section 115A of the Income Tax Act should have been applied, instead of the 15% rate used by the AO.

Proceedings and Arguments

During the hearing before the ITAT on 20th September 2021, the appellant’s counsel, Ms. Rashmi Chopra, emphasized that the issue of taxing software revenue as royalty had already been decided in favor of the appellant by the Delhi High Court in earlier years. The High Court had ruled that the revenue from the sale of software should be treated as business income and not as royalty, as the transaction involved the sale of a copyrighted article rather than a transfer of copyright.

The appellant further argued that the software provided to Indian customers did not grant them any rights to exploit the copyright but merely allowed them to use the software as per the terms of the license agreement. Therefore, the revenue from such transactions could not be classified as royalty under Article 12 of the India-US DTAA.

The counsel also pointed out that the AO’s reliance on the Karnataka High Court’s decision in the case of Samsung Electronics was misplaced, as the Delhi High Court had already disagreed with that interpretation in the appellant’s own case.

Tribunal’s Decision

After considering the arguments and reviewing the relevant case laws, the ITAT ruled in favor of Aspect Software Inc. The Tribunal relied heavily on the Delhi High Court’s decisions in the appellant’s earlier cases and other similar cases, such as Ericsson AB and Infrasoft Ltd., where it was held that payments for software supplied to end-users do not constitute royalty under the DTAA.

The ITAT also noted that the issue of whether the revenue from the sale of software should be taxed as royalty had already been settled in favor of the appellant by the Delhi High Court. The Tribunal found no reason to deviate from these binding precedents and allowed the appellant’s appeal.

As a result, the ITAT directed that the revenue from the supply of software should be treated as business income and not as royalty. The appeal was allowed, and the AO’s order was annulled.

Conclusion

This case underscores the importance of consistency in the application of legal precedents, particularly in complex matters like international taxation. The decision to classify software revenue as royalty or business income can significantly impact the tax liability of multinational corporations operating in India.

The ITAT’s ruling in favor of Aspect Software Inc. reaffirms the principle that payments for software supplied as a copyrighted article should not be treated as royalty, provided there is no transfer of rights to exploit the copyright itself. This decision is likely to have broader implications for other similar cases, providing clarity and guidance on the taxation of software revenue under international tax treaties.

In conclusion, the ITAT’s decision in this case is a victory for taxpayers seeking to avoid the undue classification of their business income as royalty, which often carries higher tax implications under DTAA provisions.

Aspect Software Inc. vs DCIT, Circle 1(1)(1) – Dispute Over Taxation of Software Revenue as Royalty for AY 2016-17