taxability of it software related services - dr sanjiv agarwal

Volume VII Part 6 June 25, 2014 12 Business Advisor

Taxability of IT software related services

Dr Sanjiv Agarwal

Under clause (d) of section 66E, of Finance Act, 1994,

declared services which are taxable include

development, design, programming, customisation,

adaptation, upgradation, enhancement and

implementation of Information Technology Software

(ITS).

The term ‗information technology software‘ has been

defined in section 65B(28) of the Act as ‗any

representation of instructions, data, sound or image,

including source code and object code, recorded in a machine readable

form, and capable of being manipulated or providing interactivity to a user,

by means of a computer or an automatic data processing machine or any

other device or equipment.‘

Scope of information technology software (ITS)

IT software services will include —

Design — plan, scheme;

Programming — process of writing a computer programme;

Customisation — modifying to meet a specific requirement;

Adaptation — change to suit, adopt;

Upgradation — raising standard, improving quality/version/features;

Enhancement — in value, content, quality;

Implementation — execution.

The literal meanings of various terms used in the scope of this service are as

follows:

Design

According to Oxford Dictionary, design refers to purpose or planning that

exists behind an action, fact, or object. According to Wikipedia, design refers

to a plan or convention for the construction of an object or a system. Design

involves problem-solving and creativity.


Design may also be a mere plan that does not include a production or

engineering process, although a working knowledge of such processes is

usually expected of designers.

According to Advanced Law Lexicon, design means only the feature of

shape, configuration, pattern or ornament applied to any article by any

industrial process or means, whether manual, mechanical or chemical,

separate or combined, which in the financial article appeal to and are

judged solely by the eye; but does not include any mode or principal of

constructions or anything which is in substance a mere mechanical and

does not include any trademarks defined in Clause (v) of sub-section (1) of

section 2 of the Trade and Merchandise Marks Act, 1958.

Design can also be referred as purpose or intention, combined with plan in

mind; aim; purpose; object and in the view, scheme, intention to be carried

in to effect the word premeditate and design both import the forethought,

careful reflection, deliberately arranged purpose.

Programming

According to Oxford Dictionary, programming is the process of writing

computer programs. According to Wikipedia, computer programming (often

shortened to programming or coding) is the process of designing, writing,

testing, debugging, and maintaining the source code of computer programs.

This source code is written in one or more programming languages.

The purpose of programming is to create a set of instructions that

computers use to perform specific operations or to exhibit desired behaviors.

The process of writing source code often requires expertise in many different

subjects, including knowledge of the application domain, specialised

algorithms and formal logic.

A programming language is an artificial language designed to communicate

instructions to a machine, particularly a computer.

Programming languages can be used to create programs that control the

behavior of a machine and/or to express algorithms precisely.

According to Advanced Law Lexicon, program means a system of coding

used for writing instruction for controlling the operation of a computer.

Customisation

According to Oxford Dictionary, customisation refers to modify (something)

to suit a particular individual or task.


Adaptation

According to Oxford Dictionary, adaptation refers to the action or process of

adapting or being adapted.

Murray’s Dictionary: Adaptation refers to process a thing so as to suit new

condition. The expression must mean the alteration of the phraseology of an

enactment in order to bring enactment into accord with the change

constitutional position.

Upgradation

According to Oxford Dictionary, upgradation refers to —

1) Raise (something) to a higher standard, in particular improve (equipment

or machinery) by adding or replacing components.

2) An improved or more modern version of something, especially a piece of

computing equipment.

According to Wikipedia, the term upgrade refers to the replacement of a

product with a newer version of the same product. It is most often used in

computing and consumer electronics, generally meaning a replacement of

hardware, software or firmware with a newer or better version, in order to

bring the system up to date or to improve its characteristics.

Enhancement

According to Oxford Dictionary, enhancement refers to an increase or

improvement in quality, value, or extent.

Implementation

According to Oxford Dictionary, implementation refers to the process of

putting a decision or plan into effect; execution.

According to Wikipedia, implementation is a realisation of a technical

specification or algorithm as a program, software component and other

computer through programming and deployment.

Many implementations may exist for a given specification or standard. For

example, web browsers contain implementations of World Wide Web

Consortium- recommended specification, and software development tools

contain implementations of programming languages.

Onsite development of software is covered under development of information

technology software. Sale of pre-packaged or canned software is in nature of


sale of goods and is not covered under this category. It is a settled position

of law that pre-packaged or canned software which is put on a media is in

the nature of goods [Supreme Court judgment in case of Tata Consultancy

Services vs State of Andhra Pradesh [2002(178) ELT 22(SC) refers].

Sale of prepackaged or canned software is, therefore, in the nature of sale of

goods and is not covered in this entry. Also, services of providing advice,

consultancy or assistance on matter relating to information technology

software may not be covered.

However, such activities when carried out by person for another for

consideration would fall within the definition of service and hence

chargeable to service tax if other requirements of taxability are satisfied.

It may be noted that a software licence is a legal instrument (usually by way

of contract law, with or without printed material) governing the use or

redistribution of software. All software is copyright-protected, except

material in the public domain.

Contractual confidentiality is another way of protecting software. A typical

software licence grants an end-user permission to use one or more copies of

software in ways where such a use would otherwise potentially constitute

copyright infringement of the software owner‘s exclusive rights under

copyright law.

In addition to granting rights and imposing restrictions on the use of

software, software licences typically contain provisions which allocate

liability and responsibility between the parties entering into the licence

agreement.

Software licences can generally be fit into categories such as proprietary

licences and free and open source. The significant feature that distinguishes

them is that the end-users might further distribute or copy the software.

Some examples of taxable services or otherwise w.e.f. 1.7.2012 can be: sale

of pre-packaged or canned software is sale of goods; a mere license to use

such canned software, which is not transfer of ―right to use‖ is a provision of

service; on-site development of software is a service; internet download is a

service etc.

Examples of possible inclusion/ exclusion under information technology

software services

Development of software and sale on media - This is purely goods in

nature and liable to VAT, not to service tax.


Sale of licences - This is a deemed sale as it is right to use the software

for a particular period and as software is goods, therefore, it is liable

for VAT.

Customised software - Customised software sold to the customers as

per their customised needs may be liable to VAT as well as to service

tax.

Hiring professionally qualified persons with certain competencies and

billed on day’s basis - If service receiver will direct the professionals as

per his instructions, it will not include any transfer of property in

goods and thus VAT may not be applicable, but service tax will.

Implementation of software/ calibration of software/ going live - This is

a case of pure service in which one enables or disables the various

master controls to make the software run as required by the customer

and as such, liable to pay service tax.

Testing of software - It includes confirmation regarding functionality

or usage of the software programs, is pure service in nature and liable

for service tax.

Instant messaging, social networking - These may be considered as

service.

Music/ video/ games on mobile - in case the games/ video/ games are

transferred, it may be liable to VAT but if it is online access, it may be

liable to service tax.

Maintenance of software - This may be covered under works contract

or purely service and accordingly taxed.

Software as a service if on server/ cloud - This is a new methodology

where the control and possession of the data/ programs being

accessed remain with the service provider [ISP] which may be hosted

on the server of the vendor in or outside India. The contract allows the

customer to access the site and enjoy certain privileges. This would be

covered under service tax.

Updates and upgrades [patches] – This includes smaller programs and

therefore may be liable to VAT and service tax.

Disaster Management: This is a service which may be taken up as a

preventive measure or corrective after happening of the disaster.

Wherever goods [hardware/ ready software] are transferred or right to

use goods are provided, it would be liable to VAT. Where the service

provider provides the service of mirroring, alternative site with his

own equipment like servers, cloud etc., it would only be a service and

taxed accordingly.

(Dr Sanjiv Agarwal is Partner, Agarwal Sanjiv & Company, Jaipur)