Tax Deduction at source not required u/s 195, if payment to Non-Resident is not chargeable to Tax in India. Application to AO u/s 195(2) require, if there is part of payment chargeable to tax in India.

GE India Technology Cen. (P.) Ltd vs.Commissioner of Income-tax(SC)

QUESTION

The short question which arises for determination in this batch of cases is - whether the High Court was right in holding that the moment there is remittance the obligation to deduct Tax At Source (TAS) arises? Whether merely on account of such remittance to the non-resident abroad by an Indian company per se, could it be said that income chargeable to tax under the Income-tax Act, 1961 (for short “Income-tax Act”) arises in India?

FACTS

Appellant(s) are the distributors of imported prepackaged shrink wrapped standardized software from Microsoft and other Suppliers outside India. During the relevant assessment year(s) appellant(s) made payments to the said software Suppliers which according to the appellant(s) represented the purchase price of the abovementioned software. The ITO(TDS) held that since the sale of software included a license to use the same, payments made by the appellant(s) to the foreign Suppliers constituted royalty, which was deemed to accrue or arise in India. Therefore, TAS was liable to be deducted under section 195 of the Income-tax Act. The said finding of the ITO(TDS) was upheld by the Commissioner (Appeals). In second appeal, the ITAT, however, held that the amount paid by appellant(s) to the foreign software Suppliers was not “royalty” and the same did not give rise to any Income-taxable in India, and therefore, the appellant(s) was not liable to deduct TAS.

The Department appealed to the Karnataka High Court. Before the High Court, the Department for the first time raised the contention that unless the payer makes an application to the ITO(TDS) under section 195(2) and has obtained a permission for non-deduction of the TAS, it was not permissible for the payer to contend that the payment made to the non-resident did not give rise to “income” taxable in India and that, therefore, there was no need to deduct any TAS. This argument of the Department was accepted by the High Court vide the impugned judgment. For reaching this conclusion, the High Court placed strong reliance on the judgment of this Court in Transmission Corpn. of A.P. Ltd. v. CIT  [1999] 239 ITR 587 Aggrieved by the said decision, the appellant(s) has come to this Court by way of civil appeal(s).

 HELD

Applicability of the judgment in the case of Transmission Corporation (supra)

In Transmission Corpn. of A.P. Ltd.’s case (supra) ‘a non-resident had entered into a composite contract with the resident party making the payments. The said composite contract not only comprised supply of plant, machinery and equipment in India, but also comprised the installation and commissioning of the same in India. It was admitted that the erection and commissioning of plant and machinery in India gave rise to income-taxable in India. It was, therefore, clear even to the payer that payments required to be made by him to the non-resident included an element of income which was exigible to tax in India. The only issue raised in that case was whether TDS was applicable only to pure income payments and not to composite payments which had an element of income embedded or incorporated in them. The controversy before us in this batch of cases is, therefore, quite different. In Transmission Corpn. of A.P. Ltd.’s case (supra) it was held that TAS was liable to be deducted by the payer on the gross amount if such payment included in it an amount which was exigible to tax in India. It was held that if the payer wanted to deduct TAS not on the gross amount but on the lesser amount, on the footing that only a portion of the payment made represented “income chargeable to tax in India”, then it was necessary for him to make an application under section 195(2) of the Act to the ITO(TDS) and obtain his permission for deducting TAS at lesser amount. Thus, it was held by this Court that if the payer had a doubt as to the amount to be deducted as TAS he could approach the ITO(TDS) to compute the amount which was liable to be deducted at source. In our view, section 195(2) is based on the “principle of proportionality”. The said sub-section gets attracted only in cases where the payment made is a composite payment in which a certain proportion of payment has an element of “income” chargeable to tax in India. It is in this context that the Supreme Court stated, “If no such application is filed, income-tax on such sum is to be deducted and it is the statutory obligation of the person responsible for paying such ‘sum’ to deduct tax thereon before making payment. He has to discharge the obligation to TDS”. If one reads the observation of the Supreme Court, the words “such sum” clearly indicate that the observation refers to a case of composite payment where the payer has a doubt regarding the inclusion of an amount in such payment which is exigible to tax in India. In our view, the above observations of this Court in Transmission Corpn. of A.P. Ltd.’s case (supra) which is put in italics has been completely, with respect, misunderstood by the Karnataka High Court to mean that it is not open for the payer to contend that if the amount paid by him to the non-resident is not at all “chargeable to tax in India”, then no TAS is required to be deducted from such payment. This interpretation of the High Court completely loses sight of the plain words of section 195(1) which in clear terms lays down that tax at source is deductible only from “sums chargeable” under the provisions of the Income-tax Act, i.e., chargeable under sections 4, 5 and 9 of the Income-tax Act.

Before concluding we may clarify that in the present case on facts the ITO(TDS) had taken the view that since the sale of the concerned software, included a licence to use the same, the payment made by appellant(s) to foreign Suppliers constituted “royalty” which was deemed to accrue or arise in India and, therefore, TAS was liable to be deducted under section 195(1) of the Act. The said finding of the ITO(TDS) was upheld by the CIT(A). However, in second appeal, the ITAT held that such sum paid by the appellant(s) to the foreign software Supplier was not a “royalty” and that the same did not give rise to any “income” taxable in India and, therefore, the appellant(s) was not liable to deduct TAS. However, the High Court did not go into the merits of the case and it went straight to conclude that the moment there is remittance an obligation to deduct TAS arises, which view stands hereby overruled.

Since the High Court did not go into the merits of the case on the question of payment of royalty, we hereby set aside the impugned judgments of the High Court and remit these cases to the High Court for de novo consideration of the cases on merits. The question which the High Court will answer is whether on facts and circumstances of the case the ITAT was justified in holding that the amount(s) paid by the appellant(s) to the foreign software Suppliers was not “royalty” and that the same did not give rise to any “income” taxable in India and, therefore, the appellant(s) was not liable to deduct any tax at source?

Subject to what is stated hereinabove, we set aside the impugned judgment(s) and remit these cases to the High Court to answer the question framed hereinabove. Accordingly, the appeal(s) filed by the appellant(s) stands allowed with no order as to costs.

Editor