The recent liberalization of India’s technology transfer and collaboration regulations was carried out with the objective of making Indian industries competitive in the global market. It has been effective in attracting the latest technology from around the world.
According to the current liberalized policy, a foreign technical collaborator can freely provide technology and technical know-how to an Indian partner. As such, there is no cap on royalty under technical collaboration or transfer agreements and no approval is required for remitting royalty payments to foreign parties.
Although the new policy saves time and costs (as no governmental approval is required), there are still several issues with regard to the import of equipment, technical know-how, payment of royalties and withholding taxes.
Transactions for foreign technical collaborations are generally divided into two segments under two separate agreements. The first segment of the transaction refers to the technology, in the form of machinery and equipment, imported into India, for which customs duty is paid at prevailing rates. The second segment relates to the technical know-how (designs, use, manual to assemble) for installing, operating, maintaining and using the machinery and equipment imported.
The reason this is done is to reduce the customs duty payable and so make the transaction tax-efficient.
Higher duties if nexus exists
But a Supreme Court ruling passed on 17 August in CCE, New Delhi v M/s Living Media India Pvt Ltd may result in parties to a technical collaboration and transfer arrangement having to deviate from delineating the transaction into two segments.
In this case the court held that if a pre-recorded music cassette or a popular film or musical score is imported into India, duty must be charged on the value of the final product. According to the Customs Valuation (Determination of Value of Imported Goods) Rules, 2007, the transaction value is an aggregate of the price actually paid or payable, directly or indirectly, for the imported goods, including the royalties and the licence fees for it.
This follows on from a ruling in Union of India v Mahindra and Mahindra in which the Supreme Court held that for royalty to be considered for calculation of custom duty there has to be a nexus between the import of machinery and the royalty payable by the Indian company to the foreign collaborator.
As a result, it may be of little use to split a transaction for the import of machinery and equipment into two segments. If there is a nexus between the two there may be no way to reduce exposure to customs duty.
Parties have to be cautious while structuring technology transfer transactions, especially if they agree to enter into a revenue sharing arrangement.
In a typical revenue sharing arrangement the purchase consideration for the machinery and remittance of royalty for technical collaboration is linked to revenues and paid as revenue share. In addition, the revenue generated from the exploitation and sale of the products of the machinery and the technical know-how are shared between the Indian and the foreign parties.
For instance, when an owner of a 3D technology enters into a technical collaboration agreement in India, the Indian party may agree to remit the purchase consideration for the machinery from the revenues generated out of the sales and exploitation of the products engineered using it. However, the purchase consideration for the 3D technology machinery (not being as royalty) has to be paid within the timelines prescribed by the Reserve Bank of India.
All remittances made towards payment of royalty are subject to withholding taxes. However, the services for which royalty is paid must have some special feature or expertise as held by Madhya Pradesh High Court in Commissioner of Income Tax v Heg Limited. Payment made for mere exchange of business information may not be construed as royalty for tax purposes in India.
In a nutshell, the importer of technology should consider the value of (i) the technical services rendered by the licensor for the installation or maintenance of the machinery, plus (ii) the royalty paid by the licensee for the design and use of the technology, while computing its value. In addition, withholding taxes will be applicable where it is proved that the royalty is paid for some special feature or expertise.
Rishabh G Mastaram is a senior associate and deals with FEMA, corporate and commercial transactions. Dhanashree Deoskar is a senior associate and deals with IPR and media and entertainment laws. The firm was founded by Ameet Naik. It is a full-service law firm with specific focus on entertainment, real estate, retail and technology and has a pan-India presence.
116-B, Mittal Tower,
Mumbai – 400 021
3rd Floor, Office No. 4,
Woodrow, Veera Desai Road,
Mumbai – 400 053