Software Payments Cannot be Considered as Royalty Without Transferring Copyright:

Software Payments Cannot be Considered as Royalty Without Transferring Copyright Assume you buy software from a US company with just a basic license for internal use, no extras. Now, the question is, do you need to deduct tax at source (TDS)? Is this payment considered a "royalty" under Indian tax laws? Will the tax department later ask for tax? A similar situation led to a long litigation, which the Hon'ble Supreme Court finally settled in 2021. The ruling was in favour of taxpayers. However, the applicability of that decision is not automatic. It depends on whether you have followed the rules under the DTAA (Double Taxation Avoidance Agreement) carefully for it to apply.

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Engineering Analysis Centre Case

In the judgement of Engineering Analysis Centre of Excellence Pvt. Ltd. v. CIT (2021) 432 ITR 471 (SC), the Supreme Court ruled that payments made by Indian end users or distributors to foreign software suppliers are not treated as "royalty" and therefore they are not taxable in India, as long as there is no transfer of copyright in the software.

Important Observations of SC

• A license to use software without rights to copy, distribute, sublicense or modify is considered a sale of a copyrighted article. It is not considered a transfer of copyright.
• The court examined four categories for transactions, including direct sales, sales by distributors, bundling with hardware (OEM) and resale by Indian affiliates. The payment made in each category is not a royalty if there is no copyright transfer.
• The court's decision was based on the rules of the DTTA, especially Article 12 and not on Indian tax laws.

Domestic law vs DTTA

The Supreme Court's ruling does not cancel out Indian tax law. According to Section 9(1)(vi) of the Income-tax Act, 1961, payments for software can still be treated as "royalty" and taxable in India, even if the software is used only for internal business purposes.

How DTAA Cancels Domestic Tax Law

Aspect	Under the Income-tax Act	Under DTAA (e.g., India-US)
Meaning of "Royalty"	Wide: includes payments for software use/licenses	Narrow: only applies if there is a transfer of copyright
Tax Implications of Software Payments	Taxable in India	Not taxable if it's just a right to use (no copyright)
TDS Obligation (Section 195)	Yes, TDS must be deducted	It can be avoided if the DTAA benefit is claimed correctly

Therefore, the favourable tax treatment given by the Supreme Court comes from DTAA provisions and taxpayers must claim this benefit to get it. Section 90(4) of the Income-tax Act clearly states that a non-resident must provide a Tax Residency Certificate (TRC) from their country they live to claim DTAA relief. Also, Rule 21AB and CBDT Circulars mention specific compliance requirements for DTAA claims.

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Required Documents for Claiming Benefits Under DTTA

• Tax Residence Certificate
• Form 10F
• PAN of non-resident
• Declaration of No Permanent Establishment (PE) and beneficial ownership

If you do not submit the mentioned documents, you may not be able to avail yourself of the benefits.

Understanding TDS Applicability

The TDS is applicable in the following conditions:

• The software is licensed for internal use only.
• There are no rights given to change, distribute, or sublicense.
• TRC, Form 10F, PAN (or Rule 37BC declaration), and other required documents are submitted.
• The applicable DTAA excludes such payments from the definition of "royalty".

TDS is not applicable in any of the following conditions:

• The license includes rights in copyright.
• The software is custom-developed or part of a technology transfer.
• The non-resident does not provide TRC, Form 10F, or PAN.
• DTAA benefit is not properly claimed.

Conclusion

The Supreme Court’s ruling in the Engineering Analysis case gave helpful relief to Indian companies that pay for software from abroad. But this relief comes from the tax treaty (DTAA) and not from changes in domestic tax rules. So, if you only depend on the court decision without following the rules under Section 90(4) and Rule 21AB, you might still face unwarranted tax, interest, or penalties.