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.