The 46th amendment to India’s constitution, in 1982, inserted article 366(29A), which defined purchase/sales of goods and extended the scope for levy of value-added tax (VAT)/central sales tax (CST) to the “transfer of right to use goods”. An immediate issue was whether intellectual property (IP) is goods, and exploitation/transfer of IP as a transaction attracts VAT. Much later, the levy of service tax was extended to include transactions involving “temporary transfers”, and “permitting the use or enjoyment” of IP.
The issue of what levy would be applicable has arisen owing to the failure of enactments to clarify what constitutes “transfer of right to use”, and further, due to the divergence in the philosophy adopted by the legislature as against that of the judiciary in interpreting the statutory provisions.
In situations involving licensing of IP (but not an assignment) the issue is determining the levy applicable and the test to be applied for this purpose. VAT being a state levy and service tax being a central levy adds to the complexity.
Exclusive v temporary
Judicially, for sales tax law a key parameter has been exclusivity in the transfer of right to use, whereas in matters of service tax the judiciary has seen the transaction through the lens of statutory provisions and applied the tests of timing (temporariness).
• In the Supreme Court case of BSNL it was observed that for a transaction to attract VAT all rights and legal consequences including licences for use should transfer. The transfer must be to the exclusion of the transferor and not merely a licence to use and consequently, post-transfer, the transferor cannot transfer the same right to others. This decision fortified the test of exclusivity.
• In Eicher Good Earth, the tribunal ruled that the non-exclusive transfer of the right to use a trademark, on a permanent basis, was liable to service tax, as the licensor continued to hold the property in the trademark.
• In Nutrine Confectionery, Andhra Pradesh High Court ruled that the grant of IP rights attracts VAT, irrespective of whether such grant is to the exclusion of the transferor, absent an express requirement of exclusivity in the applicable VAT law.
• In Malabar Gold, Kerala High Court, relying on BSNL, held that a grant of a non-exclusive licence to IP would not attract VAT as control over the IP remained with the franchisor.
• In AGS Entertainment, Madras High Court held that temporary transfer of copyright attracts service tax, whereas a permanent assignment of copyright, being in the nature of an outright sale, attracts VAT, fortifying the test of timing. It was held that temporary transfer/permitting the use or enjoyment of copyright is not an area for state legislation, despite noting that transfers of the right to use goods were introduced in the constitution to deal with commercial arrangements involving exploitation of copyright (IP), which were sought to be charged to sales tax.
These decisions were rendered under the positive list regime of taxation of services, and for the purpose of service tax (with the exclusion of Nutrine) the test of timing (temporariness) has been applied.
Negative list regime
Through the negative list regime (effective 1 July 2012), the legislature has sought to simplify the law relating to service tax and has supplied a statutory definition of the term “service”, which expressly excludes activities which constitute “merely a transfer of title in goods”. All transactions involving a transfer of title in goods (attracting VAT) are therefore outside the service tax net.
Instead of fortifying the test of exclusivity within the statute, consistent with the judicially evolved position, to settle the controversy over whether to levy service tax or VAT, the legislature has created an inherent dichotomy within the statute, by including “temporary transfer or permitting the use or enjoyment of any IP right” as a declared service (under section 66E of the Finance Act).
Transactions involving the assignment of IP are clearly a species of sale, attracting VAT and not service tax. Transactions involving the temporary transfer/permitting the use or enjoyment of copyright, not a licence, on an exclusive basis, were believed to be liable to VAT, given the ratio laid down in the BSNL case, and so were considered not liable to service tax. Section 66E, read with the judgement in AGS leads to the conclusion that temporary transfers are liable to service tax and not VAT.
Absent express statutory clarity on the taxation of such exclusive transfers, and in view of the various judgments in this context, the controversy persists though the Supreme Court in Imagic Creative has declared that the two levies are mutually exclusive.
Economic Laws Practice is a full-service law firm with headquarters in Mumbai and offices in New Delhi, Pune, Ahmedabad and Bangalore. Ranjeet Mahtani is a senior associate and Sweta Rajan is an associate at the firm.
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