Payments to non-residents for international private leased circuit facilities providing internet services do not constitute royalty under Section 9(1)(vi); Explanations 4,5,6 not retrospective; no TDS under Section 195 absent permanent establishment.

ORDER :

The Appeal by Cognizant Technology Solution India Pvt. India., being aggrieved by the order dated 31.12.2007 passed by the Income Tax Appellate Tribunal, Chennai Bench ‘A’ in I.T.A.No.1159/MDS/2007.

2. The assessee, engaged in the business of software development and export, claimed exemption under Section 10B of Income Tax Act. A sum of Rs.149.47 crores from out of the total income, for the assessment year 2002-2003.

3. The Assessing Officer reduced the exemption in respect of expenditure incurred in foreign currency and part of telecommunication charges, which was attributable to the delivery of software outside India. Particularly, the assessee had made a remittance of Rs.5,42,18,347/- for hiring ‘International Private Leased Circuits’, (IPLC) on which tax was not deducted at source under Section 195. The deduction sought for the revenue expenditure was disallowed, terming it as ‘Royalty’ and citing Section 40(a)(ii) of the Income Tax Act.

4. The impugned order passed by the Commissioner of Income Tax under Section 263 of Income Tax Act was challenged by the appellant but was unsuccessful before the Appellate Authority and before ITAT.

5. This Court admitted the appeal to decide the following substantial questions of law:

"1.Whether on the facts and in the circumstances of the case the Income Tax Appellate Tribunal is right in law in rejecting the Appellant's contention that the provisions of Section 263 of the Income Tax Act are not applicable to the assessment made under Section 143(3) of the Income Tax Act in respect of Assessment Year 2002-2003?

2.Whether on the facts and in the circumstances of the case the Income Tax appellate Tribunal is right in law in not holding that when the foreign currency expenditure is excluded from the "export turnover" based on the principle of parity, the same should also be excluded from "total turnover" for the purpose of computing exemption/deduction under Section l0A/l0B?

3.Whether on the facts and in the circumstances of the case the Income Tax appellate Tribunal is right in law in making observations on the merits of the issue pertaining to disallowance under Section 40(a)(ia) of the Income Tax Act relying on Case Law that is distinguishable on facts and in law, particularly since the issue has only been remitted to the file of the Assessing Authority for consideration by the Commissioner of Income Tax?

4.Whether on the facts and in the circumstances of the case the Income Tax appellate Tribunal is right in law in holding that tax has to be deducted under Section 195 in respect of payments made to entitles having business/Permanent establishment outside India irrespective of the fact whether such recipient is subject to tax in India or not?

6. The Learned Counsel appearing for the appellant submitted that, insofar as the substantial questions of law 2 & 3 are concerned, the assessment has been re-computed, therefore those two questions of law are not pressed. Insofar as the 4^th substantial question of law, the issue is covered by the judgment of this Court in the appellant’s own case in Tax Case Appeal Nos.277 to 280 of 2016, by order dated 25.11.2025, in respect of the assessment years 2003-2004 and 2004-2005. It was further submitted that a sum of Rs.5,45,21,468/- is the payment made to the M/s.Sprint Communications, USA, as revenue expenditure. The payment in respect of facilities that had been extended by M/s.Sprint Communications, USA, in the absence of a Permanent Establishment (‘PE’) of M/s.Sprint Communications, USA in India, the amount was not taxable in India. Accordingly, no tax had been deducted at source (TDS) under Section 195. The said expenditure does not fall within the definition of ‘Royalty’, as contended by the Department.

7. The Division Bench of this Court, while considering an identical issue, had read in Explanation 6 to Section 9(1) of the Act and Section 40(a)(i) and held that the expenditure in respect of payment to non-resident company for providing internet