Google Ireland licenses Google AdWords technology to its subsidiary in India and several other countries across the world.
The Tax Tribunal in India found that despite the duty of Google India to withhold tax at the time of payment to Google Ireland, no tax was withheld. This was considered tax evasion, and Google was ordered to pay USD 224 million.
The case was appealed by Google to the High Court, where the case was remanded to the Income Tax Appellate Authority for re-examination.
Judgement of the ITAT
After re-examining the matter on the orders of the Karnataka High Court, the Income Tax Appellate Authority concluded that the payments made by the Google India to Google Ireland between 2007-08 and 2012-13 was not royalties and therefore not subject to withholding tax.
“30. On a consideration of all the above agreements and the facts on record, we find that none of the rights as per section 14(a)/(b) and section 30 of the Copyright Act, 1957 have been transferred by Google Ireland to the assessee in the present case. As held by the Hon’ble Apex Court in the case of Engineering Analysis Centre of Excellence Private Limited v. CIT & Anr. (supra), mere use of or right to use a computer program without any transfer of underlying copyright in it as per section 14(a)/(b) or section 30 of the Copyright Act, 1957 will not be satisfying the definition of Royalty under the Act / DTAA. Similarly, use of confidential information, software technology, training documents and others are all ‘literary work’ with copyrights in it owned by the foreign entity and there was no transfer or license of copyrights in favour of the assessee company. Hence, the impugned payments cannot be characterised as ‘Royalty’ under the DTAA.
31. The lower authorities have held that the assessee has been granted the use of or right to use trademarks, other brand features and the process owned by Google Ireland for the purpose of distribution of Adwords program and consequently the sums payable to Google Ireland are royalty. As per Article 12 of India – Ireland DTAA, consideration for the use of or right to use any patent, trade mark, design or model, plan, secret formula or process is regarded as royalty. In the present case, as per the distribution agreement, “Google Brand Features” means the Google trade names, trademarks, service marks, logos, domain names, and other distinctive brand features, with some but not all examples at “http://www.google.com/permissions/trademarks.html” (or such other URL that Google may provide from time to time), and such other trade names, trademarks, service marks, logos, domain names, or other distinctive brand features that Google may provide to Distributor for use solely under this Agreement. As per para 6 of the distribution agreement, each party shall own all right, title and interest, including without limitation all Intellectual Property Rights, relating to its Brand Features and Google Irland grants to the assessee / distributor nonexclusive and nonsublicensable licence during the Term to display Google Brand Features solely for the purpose of distributor’s marketing and distribution of AdWords Program under the terms and subject to the conditions set forth in this Agreement. It is thus evident that the trademark and other brand features are not used independently or de hors the distribution agreement but they are incidental or ancillary for the purpose of carrying out the marketing and distribution of Adword program. The Delhi High Court in DIT v Sheraton International Inc  313 ITR 267 held that when the use of trade mark, trade name etc are incidental to the main service of advertisement, publicity and sales promotion and further when there is no consideration payable for such use of trade mark, trade name etc, the consideration cannot be characterised as royalty. Applying the said principle, in the present case, use of Google Brand Features etc are de hors any consideration payable to Google Ireland and further they are incidental and ancillary for achieving the main purpose of marketing and distributing the Google Adwords Program. Hence, the lower authorities were not right in treating the payments as Royalty.
32. As regards the applicability of ‘use of or right to use industrial, commercial or scientific equipment” the CIT(A) held that the assessee cannot be said to have gained right to use any scientific equipment, since, Google Ireland has not parted with the copyright it holds in the Adwords program and hence it cannot be said that any kind of technical knowhow has been transferred to the assessee company. The CIT(A) was not in agreement with the AO on the above issue without prejudice to his view in holding that the remitted amount is royalty on different grounds. The revenue has not challenged the said finding of CIT(A). Hence, the impugned payments cannot be regarded as made for ‘use of or right to use industrial, commercial or scientific equipment’. The remaining portion of definition of ‘Royalty’ under the India – Ireland DT AA is consideration for information concerning industrial, commercial or scientific experience. The AO has not characterised the impugned payments as a consideration for the above. In any case, CIT(A) has given a finding that it cannot be said that any kind of technical knowhow has been transferred to the assessee company. This has not been challenged by the revenue.
33. Thus on an overall analysis of the entire facts on record, we hold that the impugned payments cannot be regarded as royalty under the India – Ireland DTAA. It is true that the Google Adword program was commercially and profitably exploited in a commercial sense and profitable manner in India to generate revenues from Indian customers or advertisers. This is the business or commercial aspect of the transaction. However, the stand of the lower authorities that the impugned payments are in the nature of Royalty cannot be upheld especially under Article 12 of the India – Ireland DTAA merely because the marketing, distribution and ITES activities are carried out in India and revenues are generated from India or from Indian Advertisers. As held by the Supreme Court in the case of UOI v Azadi Bachao Andolan  263 ITR 706, at page 763:”
“We are unable to agree with the submissions that an act which is otherwise valid in law can be treated as non est merely on the basis of some underlying motive supposedly resulting in some economic detriment or prejudice to the national interests, as perceived by the respondents.”
37. Therefore, in terms of the international guidance as stated herein, the position regarding taxability of receipts from sale of online advertisement space is clear. Unless the non-resident, who is engaged in sale of online advertisement space, has a PE in India, no portion of receipts earned by it from sale of online advertisement space in India can be brought to tax in India as Act read with the relevant DTAA.
38. The above view is also supported by insertion of provisions related to Equalisation Levy (EL) by Finance Act, 2016. The root for the emergence of the EL can be traced to the dynamic business models that have the ability to transcend the link between an income producing activity and a specific location since these business are carried in the cyber place. The PE definition presently is based upon the physical presence criteria. The new business models also created challenges in characterizing the nature of payment – whether the payment is for services or for any IPR and hence royalty or whether it represents pure business profits. Various ITAT decisions, as discussed above, have held that income from sale of advertisement space on a website is not taxable in India if there is no PE of the foreign enterprise in India. It was held that such income is not to be regarded as royalty or FTS. Such tax challenges is addressed by the introduction of EL. Section 165 of the Finance Act, 2016 provides for charge of EL at 6% on consideration for specified services. Section 164(i) of Finance Act, 2016 provides that “specified service” means online advertisement, any provision for digital advertising space or any other facility or service for the purpose of online advertisement and includes any other service as may be notified by the Central Government in this behalf. Thus, online advertisement is now covered under EL. If online advertisement was already covered under definition of royalty, then bringing it as part of EL scheme would not arise.
39. In view of the aforesaid discussion and the judicial pronouncements, cited supra, we hold that the impugned payment cannot be characterized as royalty under the India- Ireland DTAA. It is ordered accordingly.”