A division bench (DB) of the Delhi High Court held that income accruing from the transfer of IP by a foreign based entity cannot be subject to income tax in India. DB resolved an 8-year old dispute and finally settled that the situs of intangible capital assets, such as IP, is deemed to be the same as the situs of its owner. This judgment is available here, and the impugned order passed by the Authority on Advance Rulings (AAR) is available here.
The main function of the AAR is to resolve income tax liability issues in the case of non-resident (and certain specified residents). Its decisions are binding on the applicant was well as on the income tax department. A scheme of such rulings was incorporated under Chapter XIX-B of the Income Tax Act, 1961 with the objective of saving the applicant from entering into expensive and time consuming litigation on any question of law or fact which might arise from normal income-tax assessment proceedings.
Factual Matrix
In 1997, Foster’s Australia (presently, CUB) entered the Indian market through its Indian subsidiary Foster’s India Limited (FIL) inter alia for the sale of beer under its brand FOSTER’S. For this purpose, CUB executed a Brand Licensing Agreement (BLA) with FIL; granting an exclusive license to FIL for using four FOSTER’S trademarks in India. These marks were subsequently registered in India as well.
In 2006, SABMiller acquired CUB’s Indian assets through a Sales Purchase Agreement executed in Australia, which included inter alia the four trademarks which CUB had initially licensed to Foster’s India. However, CUB was required to terminate the BLA with Foster’s India before it could seal the deal with SABMiller. Accordingly on 12th September 2006, CUB simultaneously terminated the BLA and executed a deed of assignment for its trademarks in favor of Skol Breweries (SAB’s nominee). CUB received a total of USD 120 million for the entire acquisition. When CUB applied for an advanced ruling under Section 245Q of the IT Act, the AAR determined in 2008 that this amount was lawfully owed to Indian coffers under Section 9 of the Income Tax Act, 1961. Let’s look at the relevant portion of this provision:
Section 9(1):
(i) all income accruing or arising, whether directly or indirectly, through or from any business connection in India, or through or from any property in India, or through or from any asset or source of income in India 4 or through the transfer of a capital asset situate in India.
Section 9 has two main requirements for an income to be taxed by Indian authorities: (a) the income has to accrue in India and (b) the capital asset in question must be situated in India. Failure to satisfy either will deem such income taxable by taxation authorities of the jurisdiction (country) where the capital assets are deemed to be situated. In this case, the question was whether the capital assets, i.e. the goodwill in the four trademarks, were situated in India or in Australia.
Arguments
The Petitioner made a two-fold submission before the Delhi HC. Since Indian parliamentarians made no specific provision for dealing with intangible capital assets; the Delhi HC must seek solace from the edicts of common law. That said, the Delhi HC must apply the common law principle of ‘mobilia sequuntur personam’, whereby a fiction is created to the effect that the situs of an intangible asset would be the situs of the owner of that asset. Therefore, the Petitioner argued that the situs of the capital assets in question was Australia.
The Revenue’s arguments were largely congruent with the AAR ruling. The Revenue argued that that CUB’s trademarks had been registered in India and had gained immense goodwill in the Indian market. This goodwill had been nurtured in India by reason of coordinated efforts by CUB and Foster’s India till they were eventually assigned to SAB. Similarly, it also pointed out that the brand had no value at the time of its entry in India, but SABMiller received substantial proceedings from its transfer thereafter. This suggests that the trademarks gained value in India.
The Revenue also relied upon the AAR’s finding that that CUB’s intangible property had established ‘a tangible presence’ in India; and that the situs of these trademarks was shifted from Australia to India following the BLA in 1997. Pertinently, the AAR had also stated that “The applicant’s contention that the intangible assets transferred by the applicant have no particular geographical location and that they have no situs apart from the domicile of the owner does not merit acceptance. We find no legal principle to support such a broad proposition.”
Judgment
CUB promptly replied to the Revenue’s contention, and the Court seconded, that even if the situs was assumed to have shifted to India in 1997, it was shifted back to Australia after the BLA was terminated in 2006. The Court readily noted the fact that the legislature should have made a specific provision, as have been provided for shares[1], to determine the situs for such intangible capital assets. Since is no such provision now, the Court opined that:
“[Para 20] Thus, the legislature, where it wanted to specifically provide for a particular situation, as in the case of shares, where the share derives, directly or indirectly, its value substantially from assets located in India, it did so. There is no such provision with regard to intangible assets, such as trademarks, brands, logos, i.e., intellectual property rights.
Therefore, the well accepted principle of ‘mobilia sequuntur personam’ would have to be followed. The situs of the owner of an intangible asset would be the closest approximation of the situs of an intangible asset. This is an internationally accepted rule, unless it is altered by local legislation.”
Comment
While arriving at its decision, the AAR metaphorically remarked that “the intellectual property belonging to the applicant had its “tangible presence” in India at the crucial point of time. As a result of transfer, the intangible property that was being used by Foster’s India till the date of transfer will now be used and enjoyed by SKOL Breweries. The location had never shifted.” This, I believe, is the correct legal perspective while looking at the transaction in hand.
The SC had previously held in TCS v. State of AP that even intangible property such as canned software squarely falls under the definition of ‘goods’ under Article 366(12) of the Indian Constitution. In particular, the SC held in Mangalore Ganesh Beedi Works v. CIT that intangible property such as trademarks, know-how etc., falls within the meaning of ‘plant’ under Section 43(3) of the Income Tax Act, 1961. The SC has held through various decisions that a transfer of right to use ‘goods’ will be deemed to be a sale within the meaning of Article 366(29A)(d) of the Indian Constitution. In Rashtriya Ispat Nigam Ltd. v. State of Andhra Pradesh, the SC said that such transfer of right to use must take away the effective control over the ‘goods’ and give it to the transferee. Subsequently in G. S. Lamba & Sons v. State of AP, the Andhra HC held that such a transfer must strictly be of an exclusive nature. In BSNL v. UOI, the SC further clarified this ‘exclusivity’ of the transfer to mean that the owner cannot transfer the same rights to other. These judgments suggest that even intangible property, including IP, are capable of having tangible presence in the taxable territory despite the fact that there is no clear statutory provision governing the matter.
Most of these judgments have been decided under the laws of indirect taxation. They are not directly applicable to the adjudication of the present case because here the Delhi HC was dealing with issues arising out of the law of direct taxation. Nevertheless, I have relied upon these judgments to suggest that intangible property can most certainly have a tangible presence even when the statue is silent on the issue.
Now, it is clear from the present set of fact that CUB granted an exclusive license in its trademarks to Foster’s India Ltd. in 1997. This is all the more evident from the fact that CUB was required by SABMiller to terminate the BLA (with Foster’s India) as a condition precedent to the transfer of Indian assets to SABMiller. The subject matter of this transfer is not in the ownership of the foreign based TMs; but is instead in the ‘right to use’ these TMs in the Indian market. The ‘right to use’ the four trademarks in India are clearly identifiable as an independent unit and have a distinct value in the Indian taxable territory as compared to, say the ‘right to use’ the same four trademarks in the taxable territory of Australia. Then in such a case, even if there is no specific statutory provision to that effect, the situs of the 4 trademarks in question should have been India.
CUB argued in the present case that the situs of its IP (i.e. the right to use TM in India) was shifted to Australia on termination of the BLA. However, SABMiller also acquired the same goodwill and IP right to use CUB’s trademarks in the Indian market. Accordingly, SABMiller will continue to capitalize on assets which were created, developed and enhanced in India. Therefore, this argument should not be accepted. The IP may have originated in Australia, but the value in its independent counterpart has been conceived in India and to the income from its exploitation has been accrued to CUB in India. For these reasons, I believe that the Delhi HC has incorrectly applied the principle of ‘mobilia sequuntur personam’ while effectively holding that the ‘right to use in TMs in India’ and the trademarks themselves are one and the same. Moreover, the Delhi HC has deemed this principle to have international acceptance only on the basis of a few select decisions from American jurisprudence. It should have probably explored the applicability of this principle across other jurisdictions as well. I also believe that this principle should ideally be applied as a last resort.
[1] Explanation 5, Section 9(1)(i) of the Income Tax Act, 1961.
Hi Ritvik,
Interesting post. Just a quick clarification on your conclusion portion. You seem to suggest that this transaction should be treated under the same category as the right to use under Art. 366(29)(d). This will obviously borrow from the definition of goods as under 366(12) and therefore TCS v. AP, am I correct? I’m just wondering if it is indeed fair to conclude that TCS goes as far as saying that all intangible property is goods under 366(29). If you read the analysis in the judgement it seems to suggest that the ‘tangibility’ of canned software in that it is recorded on a medium, makes it goods under 366(29). I don’t know if a similar argument can be made about trademarks, therefore bringing them under the scope of 366(29). Is there better authority on why trademarks are considered to be goods under the 266 framework?
where you start with TCS v. AP. I’m assuming you’re using this
Please ignore that last bit from “where you” to “using this”, it was unintentional.
Hi Anon,
Thank you your comment.
My reliance upon TCS v AP is for the purpose of suggesting that intangible property, which in the present case I construe to be the ‘right to use’ the four trademarks in India ‘ can have a tangible presence even in the absence of any statutory clarity on the matter. To that extent I am only drawing inspiration from the analysis in TCS where similarly there was no clarity on treatment of canned software. That is not to say that these capital assets should be treated as goods within the meaning of Article 366(29)(d).
Let me draw an illustration to show my intention behind my urge to give a tangible form and presence to the above-mentioned capital assets:
In 2000, XYZ Pvt. Ltd. conceives and starts using the mark FLYHIGH on a travel agency in Australia. Business is booming for XYZ and it wants to expand abroad.
It grants 2 exclusive licenses:
One to ABC India Ltd. for using FLYHIGH in India for a consideration of USD 1 million and royalty at 5%.
Another to LMN Inc. for using FLYHIGH in the US for a consideration of USD 2 million and royalty at 7%.
The IPR in each license can be traced back to XYZ in Australia. Nonetheless, I think that these are separate assets . They have independent value and possess distinct identity among others, both licenses can be differentiated on the basis of their geographical area of operation. The royalty amount is income (and therefore value in these assets) which accrues to XYZ through ABC and LMN in India and the US respectively.
I therefore believe that the situs for each license (capital asset) should be India and the US respectively and that of the TM itself to be Australia.
Lastly, each license is clearly distinguishable from the complete ownership in FLYHIGH itself. The title in the latter will only pass on to another party through assignment . Therefore if the TM is assigned in its entirety, the principle of mobilia sequuntur personam should be applied to determine the situs of the TM as Australia.
This is of course only my interpretation and am open to comments on the same.
Hi Ritvik,
A couple of observations:
1. There appears to be some sort of confusion between the terms ‘tangibility’ and ‘value’. Tangibility (not legally defined, but used loosely here) is the ability of something to be expressed in physical form. In TCS v AP, it was the ability of the software to be stored on magnetic discs and packaged. Therefore, making it marketable as a physical item, inseparable from the medium that stores it. In fact the conventional common law tests for movability require an anlysis of marketability of the product. Value on the other hand and “tangible presence” as used in the AAR arguments, and as you have rightly pointed out in your comment above, is a function of where the asset derives its value from. As has been pointed out by the Court, in the instance of shares, despite the situs of the shares being elsewhere, if the VALUE of the shares are derived in India, then specific provisions of the Income Tax Act make that income taxable. There is a settled line of law on this. No such provision exists for intangible property like trademarks.
The reason such a provision must exist in the first place is because the charging under the IT Act occurs only on assets “situated in India”. Bear in mind also that S.9 is a deeming provision and therefore sets out specific scenarios in which income is “deemed to arise”. “Tangible presence” needs to be specifically legislated upon in case in connects to value but not with regards to situs. So the real question therefore is one of situs and not of value, in the absence of the express provision.
2. I think where your analysis slightly confuses me is where you talk about the ‘right to use’ in India. Bear in mind that the AAR ruling was sought not on the license to Fosters India but on the assignment (transfer of ownership) to SABMiller in Australia and the income that arose out of the transaction. I fail to see therefore how this is merely a ‘right to use’ and isn’t a transfer of ownership. I may be wrong here as I am no expert in IP law but assignment to me is distinct from license and the right to use, as commonly understood. The relevant portion of the judgement is here:
“7. As a result of the ISPA, SABMiller (A & A2) became the owner of FBG Mauritius and thereby the owner of Foster’s India Limited. Furthermore, 16 trademarks, which were owned by the petitioner (which included the said four licensed trademarks), were sold/assigned to SABMiller (A & A2) and/or its nominee. Clause 5.3 of the ISPA is relevant as it relates to pre-completion transactions. To the extent relevant, the said Clause 5.3 is reproduced herein below:-
“5.3 Pre — Completion transactions
(a) On or before Completion, each of FGL, Dismin and, where applicable, Foster’s Australia, must procure (at its own cost and expense) each of the following to occur:
(i) xxxx xxxx xxxx xxxx
(ii) xxxx xxxx xxxx xxxx
(iii) the termination of each of the:
(A) Brand Licence Agreement; and
(B) Technical Licence and Services Agreement;
xxxx xxxx xxxx xxxx”
It is, therefore, clear that under the ISPA, prior to the completion of the sale and purchase of the sale shares, the trademarks, the Foster’s Brand Intellectual Property and the licence of the Foster’s Brewing Intellectual Property in accordance with clauses 6 and 7, the BLA was required to be terminated. It will be remembered that the BLA had been entered into between the petitioner and Foster’s India Private Limited, whereby the former had licensed four trademarks to the latter for use in India.
8. On 12.09.2006, a deed of termination of the BLA was executed in Australia. On the very same day, that is, on 12.09.2006, a deed of assignment was executed in Australia, whereby the petitioner assigned the said 16 trademarks to Skol Breweries Limited [nominee of SABMiller (A & A2)].
9. On 22.09.2006, the petitioner moved an application before the AAR under Section 245-Q of the Income Tax Act, 1961, seeking an advance ruling on, inter alia, the question extracted earlier in this judgment. By the impugned order dated 09.05.2008, the AAR held the income arising from the transaction of the transfer of the 16 trademarks to be deemed income accruing in India on the basis of its finding that the said intellectual property rights were capital assets situate in India. Being aggrieved by the said ruling, the petitioner had initially filed a Special Leave Petition, being SLP (Civil) No. 21519/2008 before the Supreme Court of India. But, on 08.09.2008, the same was withdrawn by the petitioner with liberty to move the High Court. And, that is how the present petition has been filed challenging the ruling given by the AAR.”
Notice how the transaction is not one of the right to use and rather is outright transfer. Considering this, I think you somewhat weaken your analysis when you say in you comment, “Lastly, each license is clearly distinguishable from the complete ownership in FLYHIGH itself. The title in the latter will only pass on to another party through assignment . Therefore if the TM is assigned in its entirety, the principle of mobilia sequuntur personam should be applied to determine the situs of the TM as Australia.” Further, a 366(29)(d) analysis is also irrelevant here as it is again, not a transfer of the right to use.
3. The only question that seems to remain therefore is what the situs of this movable property that was transferred is. Here, is where our opinions somewhat converge. I’m not sure if the court was being lazy in its analysis by properly fleshing out the maxim and analysing specific rules of Private International Law regarding Trademarks and their situs, because there appear to be competing judgments across the world on the situs of trademarks (from a very preliminary reading), specifically in assignment transactions ranging all the way from the market of the transfer, to the location of the register and yes, the location of the owner. The larger point which the judgement sorely missed was the opportunity to analyse the nature of intangible property and to realise that the situs analysis is not as simple as the one with conventional movable property. The court had a significant opportunity to really flesh out the analysis for intangible property. I trust you understand the significance of this analysis because it has huge ramifications on the applications of other branches of PvIL as well in the context of IP. And the revenue has a valid concern here where they say that it is absolutely absurd to attach something that derives a fixed territorial value to something as transitory as the residence of the owner.
Oh well! Spilt milk I guess? But, thank you for taking the time out to analyse this case.