In a recent ruling, the Income Tax Appellate Tribunal (ITAT) of Delhi held that subscription fees from cloud services are not taxable as royalty in India under the India -Ireland Double Taxation Avoidance Agreement (DTAA)
The case involved an appeal filed by the assessee, GoTo Technologies Ireland Unlimited, a non-resident corporate entity incorporated under the laws of Ireland, against an order dated September 19, 2023, issued by the Assessing Officer (AO) under Section 143(3) read with Section 144C(13) of Income Tax Act, 1961 (ITA)
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The assessee operates a Software as a Service (SaaS) business model, allowing customers in various countries, including India, to access application software developed by the assessee via cloud computing technology.
The income in question pertains to the subscription fees received from these cloud services.
The assessee did not offer this income to tax in India, arguing that the subscription receipts should be classified as business receipts rather than royalty.
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Since the assessee did not have a Permanent Establishment (PE) in India, they contended that the income was not taxable under the India-Ireland DTAA.
However, the AO was not convinced by this argument. In the assessment, the AOtreated the subscription receipts as royalty income, both under the provisions of the Income Tax Legislature and the India-Ireland DTAA.
Consequently, the AO issued a draft assessment order reflecting this position. The assessee, disagreeing with this assessment, brought the matter before the Dispute Resolution Panel (DRP).
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The DRP, after considering the submissions, upheld the AO’s decision.
This resulted in the AO passing a final assessment order, wherein the total income of the assessee for the Assessment Year 2021-22 was determined to be ₹57,57,83,403, a significant increase from the ₹2,00,65,855 reported by the assessee in their return of income.
Additionally, the AO initiated penalty proceedings under Section 270A of the ITA for alleged under-reporting and misreporting of income.
Aggrieved, the assessee appealed before the ITAT
Before the tribunal, the assessee challenged this order.
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The assessee argued that the final order passed by the AO, based on the DRP’s directions, was erroneous and contrary to law. The assessee contended that the AO and DRP had incorrectly classified the subscription fees as royalty income.
It was asserted that the software provided under the SaaS model did not involve the transfer of any rights to use the copyright in the software; instead, it only provided a non-exclusive license for internal use by the customers, with all other rights and copyrights retained by the assessee.
Therefore, the assessee argued that the income from these subscriptions could not be considered royalty under Article 12(3) of the India-Ireland DTAA.
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The assessee further argued that the AO and DRP had failed to appreciate the ruling of the Supreme Court in the case of Engineering Analysis Centre of Excellence Private Limited.
In that case, the Supreme Court held that payments for software licenses do not constitute royalty. The assessee maintained that this precedent was directly applicable to their case, yet it had been overlooked. Additionally, the assessee pointed out that the AO had relied on case laws that were factually and contextually distinguishable, further undermining the validity of the final assessment order.
In the appeal presented before the Tribunal, both parties acknowledged that the issues involved were not new and had been addressed in previous rulings. Specifically, the Tribunal considered the assessee’s own cases for the Assessment Years 2019-20 and 2020-21, in which similar issues had been raised.
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After examining the facts of the case, the Tribunal referred to its order dated September 25, 2023, in ITA No. 1514/Del/2022 and ITA No. 793/Del/2023, where it had already addressed the matter of whether subscription receipts from cloud services should be taxed as royalty income.
In those earlier cases, the Tribunal had concluded that such receipts were not taxable as royalty income in India.
The Tribunal’s decision was influenced by a judgment from the Delhi High Court in the case of CIT vs. MOL Corporation, which upheld the Tribunal’s view that subscription receipts from cloud services do not qualify as royalty income.
Additionally, the Tribunal referred to its decision in Amazon Web Services, Inc. vs. ACIT, where it had similarly held that subscription receipts from cloud services could not be treated as royalty income.
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Given that there had been no changes in the factual or legal circumstances since those decisions, the bench of Mr BRR Kumar and Ms Madhumita Roy ruled in favor of the assessee.
The Tribunal directed the AO to delete the additions made to the assessee’s income . As a result, the appeal was allowed in its entirety.
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