Taxing times ahead for software makers, channel partners

Ministry says prices won't increase, as overall tax burden doesn't go up

With the Union finance ministry unwilling to roll back its proposed tax amendments with regard to sale of software, it is not only the big boys like Microsoft, Adobe or Oracle who will feel the heat. Indian companies importing the software also fear their burden may go up, even as tax authorities are confident the proposed changes will not push up software prices.

The Finance Bill 2012 proposes to categorise as ‘royalty’ the income accruing to a non-resident company from the sale of software. It would, thus, subject the transaction to withholding tax, currently levied at 20 per cent of the gross purchase amount. Authorities in India cannot tax business income of these foreign firms, as they do not have a presence in India. Instead, they can classify the payment as royalty and tax it in India.

 

According to industry associations and software firms, the amendments, to come into effect retrospectively from June 1976, will hit hard the consumers, channel partners, Indian software vendors and packaged software makers. Though the tax liability is on the foreign company selling the software, the Indian company importing the software is to deduct the tax at source while making the payment.

The industry fears tax officials might ask them to pay withholding tax on past purchases (up to past six years by the law), where the tax was not deducted at source.

Also, if the non-resident company doesn’t allow withholding the tax, the Indian company would have to pay the tax to the government from its own pocket.

Finance ministry officials, however, say the fears are baseless. For, they note that Indian companies already pay tax on their net income. This is contrary to the case with software companies in the US (from where most of the copyright software comes to India) that are eligible to get in their country the credit for tax paid in India by the Double Taxation Avoidance Agreement between New Delhi and Washington.

“Companies paying tax on their net income in India do not have to pay tax on income from the sale of software as royalty,” clarifies the official. The confusion over categorisation of software sale emerged in 2005 when Organisation for Economic Co-operation and Development, the group of developed nations, changed its commentary with regard to ‘use’ or ‘right to use’ of software.

According to Indian software association Nasscom, the definition of royalty is expanded, thus potent enough to trigger a cascading effect on the Indian players. “Earlier, royalty was paid only when the copyright of copyrighted articles were transferred,” it recalls. “Now, even if the transaction involves partial transfer of copyright; royalty would have to be paid.” For example, if a distributor or a retailer who do not own the copyright were reselling any software, they would be liable for royalty.

Sudarsan Ranganathan, vice-president of Infotech Software Dealers Association, says not many members may have procured software via the import route. “So, most members do not see any measurable impact of this proposed change as of now,” he notes. “However, Indian players such as TechnoBind, Inflow Technologies, High Value and others who import software would be affected by the change.” Also, the cost of software will become higher by almost 10 per cent to 20 per cent on software directly imported by the partners, he adds.

Ranganathan also says the software industry is pegged at Rs 18,000 crore, and a back of the envelope calculation would suggest the tax liability of all players put together could be around Rs 7,500 crore. Finance ministry officials agree revenue gains will be substantial.

Venkatraman N, chief financial officer, Sonata Software, says this will affect Indian players like his company. “The cost of transactions will go up. Since the amendments were made retrospectively, the penal provisions will add to the tax liabilities,” he notes.

“The companies had already made payments for their purchase. There was no way they could now go back and deduct taxes on their payments in the past. The liability for missed deduction was thus for the companies to bear,” he notes. Further, under service tax, a software product is treated as a ‘good’, whereas it is service now under income tax.

Suresh Senapaty, executive director and chief financial officer with Wipro, says the industry is taking up the issue because the law talks about lots of retrospective amendments that have far-reaching implications.

“So, from that point of view, definitely there are varieties of institutions and industry associations that are taking up the matter with the government,” he notes. “We expect that government to come out with some nice answers.”