Differential tax rates for imported software likely

NEW DELHI/BANGALORE: A differential tax treatment for imported customised and non-customised software is on the cards. The government is examining a proposal to grant a withholding tax exemption on imported non-customised software.

At the same time, the existing practice of imposing a withholding tax on customised software is likely to be continued. If cleared, the exemption on non-customised software, also known as shrink-wrap software, will bring relief to giants such as Microsoft.

This will be in line with the practice adopted in countries like Singapore, Korea and the US. This differential tax treatment proposal is being considered in the run up to the budget as any change in the existing treatment may require amendments to the income tax law, said official sources.

This issue of tax treatment of imported software became controversial, after tax demands were raised on several software importers last fiscal. Revenue authorities contended that imports of shrink wrap from foreign companies, mainly in the US, were to be held in the nature of royalty. And would, therefore, attract withholding tax. This was being contested by the industry.

Under the Income Tax Act and Double Taxation Treaties with other countries, Indian importers are required to withhold tax at source if a payment is characterised as royalty. The withholding tax rate under the I-T Act is 20%, but can be lower if a tax treaty is applicable.

The Finance Ministry had referred the issue to the taskforce on emerging issues in international taxation. Official sources said that the government was looking at practices in other countries on the tax treatment of imported software to take a final view.

In Singapore, for instance, the government has specifically granted exemption from withholding tax to importers of shrink-wrapped software. The US IRS holds that shrink-wrapped software is a copyrighted product and does not result in royalty.

Nasscom has contended that sale of software does not necessarily result in the buyer acquiring the right to use the ‘copyright embodied in the software’. Sale of software that does not bestow the buyer with software copyrights should be taxed as ordinary sale and not as royalty income.

Even as per the Copyright Act, the limited right to use a software by itself does not result in any transfer of copyright in the software.

The lobbying arm for the IT industry in India, has been representing that cross-border purchase of software should be exempt from withholding tax in India, unless the buyer gets the underlying copyright in the software or has access to the source codes that can be used for reaping commercial profits by replicating the software.