1st Study Circle Meeting held on 3rd August, 2006

Speaker: Mr. Phiroze Andhyarujina, Senior Advocate

Subject: Taxation of Intangible Assets

The First Study Circle Meeting for the year 2006-07 was held on 3rd August, 2006 at S.T.P. Association Library. The occasion began with recital of prayers to Goddess Saraswati by Shri Janak Rawal, Past President. Chief Guest, Hon'ble Shri G. D. Parekh President of the Mah. S.T. Tribunal lighted the lamps representing the elimination of darkness and spreading of the knowledge. The Chief Guest addressed the gathering and wished a great success to the Association in conducting such meetings.

In the very beginning the learned speaker noted with happiness that the people in India still believe in the rule of law and are honestly paying the taxes levied. Only the methodology and the approach require to be different which will improve the relations of the tax-payers vis-à-vis the tax administrators.

Interpretation of law

Citing the examples of the terms that "he" includes "she", and is interpreted as "or" "a" is treated as "any" and "may" as ‘shall" Shri Andhyarujina said that what is important is the interpretation of the terms used in the law. Referring to a judgment given by the Supreme Court, regarding whether betel leaves (paan) can be said to be vegetables, the learned speaker said that the Apex Court held that the words used in the statute should be interpreted as understood by the common man and not, which could give absurd meaning. Thus it was held that betel leaves are not vegetable as it is not so understood by the commonman.

Taxation of intangibles

In the case of Escotel, a question arose before the Kerala High Court that whether the sale of Sim Card is exigible to Sales Tax. The Court held in 126 STC 475 that in the case of sale of Sim Card, there is also an activity of activisation of Sim Card which falls within the purview of sales within the meaning of Kerala Sales Tax Act. The Court went further to say that the activity of activisation of Sim card is a matter of service and therefore Service Tax would also be attracted. In the year 2003, a similar question arose in the case of State of Uttar Pradesh vs. Union of India involving Department of Telecommunication. The Supreme Court in 2003 1 SCC 239 concluded that when telecommunication services are provided, rendering of handsets etc. would fall within the ambit of service and it will also be goods within the meaning of UP Sales Tax Act. Thus rendering of telecommunication services will be liable to sales tax.

BSNL’s case

The learned speaker informed about Article 32 of the Constitution under which a Writ Petition lies directly with the Supreme Court without going to the High Court on certain matters involving national importance or some controversies. The BSNL’s case is one of such classic decisions which lays down the controversies. It was decided by three member bench of the Supreme Court along with other petitions as well. In this case, the following questions arose before the Supreme Court.

• What are goods in the realm of telecommunication?

• Is there a transfer? Is right to use, right of information a transfer?

• Whether there can be a composite contract involving both sale and service? And whether composite contracts are liable to tax?

• If exigible to tax, whether the States have a right to levy a tax?

• Whether inter-state sale tax can be levied?

• Whether States can levy sales tax on matters where the central Govt. already levies Service Tax?

The Supreme Court laid down the following propositions:

• Electromagnetic waves are not goods. Goods can be tangible and intangible, but electromagnetic and radio frequencies are not goods. Regarding Sim Cards the SC left the issue to the Assessing Officers to decide but provided certain guidelines to be followed. There are:

– If sold as accessories and parts of the whole then they are not exigible to sales tax

– If they are made only of identification and credit limits and other details which are incidental to sale, sales tax is not payable

– If it is a pure and simple sale, sales tax is attracted

– Thus one has to look into the intention of the parties at the time of sale to ascertain the nature of transaction. The guidelines were issued in the light of Article 366(A)(d) dealing with telecommuni-cation services.

• Regarding the question on Transfer, the SC held that providing of right to use, right to information and provision of handsets would involve transfer.

• There is a possibility of taxability of a composite sale.
   

• States have a right to tax only if there is a discernible sale, otherwise they cannot tax the transaction
   

• On inter-state sale the SC reserved its right not to reply
   

• On the question of Composite contract, the SC approached the problem with "Aspect Theory" The Aspect Theory was laid down as under "If there is a sale of service which is included in the sale of goods and at the same time, the price of goods is included in the price of service, then in that instance, both Service Tax and Sales Tax cannot be levied.

In delivering this decision the SC overruled the decision in Jidheesh vs. Union of India (144 STC 322) by placing reliance on Rainbow Colour Lab’s decision in 118 STC 59. In Rainbow’s case it was held by the SC that sale of photography would be a contract of service and that there is no need further to bifurcate it into that of service and of sale and tax the portion of sale.

Another observation laid down in BSNL’s case by the SC was that the States have a right to levy tax on sales. However such rights should not encroach upon the powers given to the Union specified in the Union list. There can’t be an encroachment. The Supreme Court said "That even in certain cases of a Composite transaction where it is deemed to be a totality of transaction of services and of sale the portion of sale cannot be bifurcated and taxed.

Summing up the conclusion in the BSNL’s case the learned speaker observed that the composite, splitting and bifurcation is not possible. The same proposition also finds place in the SC decision of Union of India vs. Larsen & Toubro 93 I SCC 488 where it was held that in a composite contract of supplying of engineering materials and services only one tax can be levied.

Concept of intangible goods

The learned speaker then said that the concept of goods has undergone a classical change from physical, tangible goods to intangible goods. In the case of TCS vs. State of Andhra Pradesh 2004 271 ITR 401 a question arose whether information in optical media like discs can be said to be goods. The SC laid down the following tests to determine whether an ‘item’ can be said to be goods. It is important to examine and test the assessibility, the adaptability and the use of the item and whether the same can be transmitted, transferred, processed, stored and used. If yes, then it is goods.

Elaborating further on the concept of Intangibles the learned speaker explained the following important judgments which laid the various concepts of Intangibles.

1. Madhya Pradesh Electricity Board
   vs. Commissioner of Sales Tax (25 STC 188)
   SC concluded that Electricity is goods liable to Sales Tax.
    

2. H. Anaraj vs. State of Tamil Nadu (61 STC 165)
   Participation in a lottery gives a chance to win. Thus there is a beneficial interest, a chance to win embedded in the lottery and therefore it is goods liable to sales tax. Special emphasis was placed by the speaker on the logic and the manner of interpretation in this case.
    

3. UOI vs. NTPC (127 STC 280)

Again a question arose whether electricity is goods liable to Sales Tax. Assuming that all the previous cases were not there, there is a specific provision that if there is theft of electricity the same is punishable under the law, a non bailable offence. Therefore it is a theft of goods. On that logic it was impressed that electricity is goods.

4. ACC vs. CC (124 TSC 59)

Issue of Intangible arose and also the question of Composite contracts. SC concluded on the Composite point that it cannot be liable to tax. Article 366(12) was interpreted which defines the word "goods"

On the ratio of the judgments in the case of BSNL, ACC and Sunrise the learned speaker was of the view that the bifurcation of Composites is by way of a fiction and not specific. Unless it is not specific it cannot be taxed artificially by bifurcating. Also citing the basic canon of taxation that the same thing cannot be taxed twice, the speaker was of the view that Service Tax and Sales Tax cannot be levied simultaneously.

Intangibles in taxation laws

The learned speaker further said that the concept of intangibles is new in the Taxation laws. The Income-tax Act now defines the word "intangibles" and also provides depreciation on the same. With the advent of further progress in the technological fields the speaker opined that Intangibles and IPRs (Intellectual Property Rights) will play a greater role in the economy. This is specially so in some industries like Information Technology, Pharmaceuticals, Bio Medicals etc. The speaker emphasized the need for the laws to evolve and march with the changing times.

Conclusion

While concluding the learned speaker said that the intangible, is the human mind, the ideas. A time will come when there will be depreciation on the human mind. A professional will be allowed to depreciate his intellectual property rights. The speaker touched upon the provisions of Sec. 50C of the Income-tax Act. 1961 along with the provisions of Sec. 54EC sec. 54EC allows exemption from Capital Gains on investing the sale consideration in specified securities. However, Sec. 50C deems the Stamp Duty Reckoner rate as deemed sale consideration. A situation may therefore arise where an assessee may be required to invest more than what he actually receives as sale consideration. Such provisions, the speaker said are unconstitutional. Sometimes honest assessees can get into problems. This requires a radical change.