The Supreme Court finally answered to the chequered history on the obligation to deduct tax on software payments from their reading of OECD commentary. Holding a view that there is no obligation on the persons mentioned in section 195 of the Income Tax Act to deduct tax at source on payments to non-resident computer software manufacturers/suppliers in the absence of anything in the agreement creating any interest or right in the distributors/end-users of software, which would amount to the use of or right to use any copyright. It held that the words/expression “in respect of” in explanation 2(v) cannot be given a wide meaning and shall be understood as equivalent to “in” or “attributable to” so that in the context of payment for computer software it must necessarily bear reference to payment for copyright, literary, artistic or scientific work per se. Since explanation 2(v) speaks of “all or any rights…in respect of copyright” it is found to be certainly more expansive than the DTAA provision, which speaks of the “use of, or the right to use” any copyright. However, the Court found that the words ‘in respect of’ would control the expression “all or any rights” to the extent that the expression“including the granting of a license” in clause (v) of explanation 2 to section 9(1)(vi) of the Income Tax Act, would necessarily mean a license in which transfer is made of interest in rights“in respect of” copyright, namely, that there is a parting with an interest in any of the rights mentioned in section 14(b) read with section 14(a) of the Copyright Act. So much so that the Supreme Court held that there is, therefore, no difference between the position under the DTAA and explanation 2 to section 9(1)(vi) of the Income Tax Act.
The Supreme Court further held that OECD Commentary is significant as the Contracting States to which the persons deducting tax/assessees belong, can conclude business transactions on the basis that they are to be taxed either on income by way of royalties for parting with copyright, or income derived from license agreements which are then taxed as business profits depending on the existence of a PE in the Contracting State.
The Supreme Court once again reiterated that the DTAAs that have been entered into by India with the other Contracting States have to be interpreted liberally with a view to implementing the true intention of the parties and importantly made reference to the following three landmark decisions for drawing their reference/reliance upon the OECD commentary:
- Union of India v. Azadi Bachao Andolan, (2004) 10 SCC 1 at pages 42-43;
- Formula One World Championship Ltd. v. CIT, (2017) 15 SCC 602 at pages 629-630; and
iii. CIT v. E-Funds IT Solution Inc., (2018) 13 SCC 294 at pages 322-323.