Income From Standardized Software Licenses & Embedded Software Not 'Royalty' Under Article 12 India-Ireland DTAA, Citing SC's Engineering Analysis: ITAT Bangalore - 2025-06-23

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ITAT: Arista Networks ' Income from Software Licenses, Embedded Software Not Royalty; SC's Engineering Analysis Ruling Applied

Bengaluru, India - The Income Tax Appellate Tribunal (ITAT), Bangalore Bench, in a significant ruling, has held that income earned by Ireland -based Arista Networks Limited from the sale of software licenses, software embedded in hardware, and hardware replacement services is not taxable as 'royalty' under the Income Tax Act, 1961, or the India- Ireland Double Taxation Avoidance Agreement (DTAA). The bench, comprising Vice President Shri Prashant Maharishi and Judicial Member Shri Soundararajan K. , allowed the assessee's appeal for the assessment year 2021-22, setting aside the Assessing Officer's (AO) addition of Rs. 35.83 crore to its income.

The order, dated June 23, 2025, heavily relied on the landmark Supreme Court judgment in Engineering Analysis Centre of Excellence Private Limited v. CIT (2021) .

Case Background

Arista Networks Limited, an Irish resident company, is engaged in delivering software-driven cloud networking solutions. For the assessment year 2021-22, the company filed a revised return declaring an income of Rs. 3.65 crore. However, the Deputy Commissioner of Income Tax (International Taxation), Bangalore, assessed the total income at Rs. 39.48 crore, making an addition of Rs. 35,83,19,076. This addition pertained to three income streams: 1. Sale of software licenses (Rs. 9.40 crore) 2. Sale of software embedded in hardware (Rs. 3.30 crore) 3. Hardware replacement and support services (Rs. 22.53 crore, also considered software embedded in hardware)

The AO and subsequently the Dispute Resolution Panel (DRP) treated this income as 'royalty' and, alternatively, support services as 'Fees for Technical Services' (FTS), taxable in India. Arista Networks challenged this determination before the ITAT.

Key Contentions

Arista Networks (Appellant) argued: * The transactions were in the nature of 'sale' of a 'copyrighted article', not a 'copyright'. * The software provided was standardized and non-customizable, with no right granted to distributors or end-users to copy, modify, reverse engineer, or access the source code. * The income was business income, not taxable in India in the absence of a Permanent Establishment (PE) as per Article 7 of the India- Ireland DTAA. * The issue was squarely covered by the Supreme Court's decision in Engineering Analysis . * Hardware replacement services involved the sale of hardware with embedded software, not FTS.

Revenue (Respondent) contended: * The distributor agreement, particularly confidentiality clauses, provided an opportunity for distributors to access confidential information, including source code, for effective software use, thus constituting royalty. * The arrangement involved the supply of scientific, technical, industrial, or commercial knowledge/information/experience. * Support and maintenance services involved human intervention and were taxable as FTS, noting that the India- Ireland DTAA does not have a 'make available' clause for FTS.

ITAT's Analysis and Findings

The ITAT meticulously examined the nature of the income streams, the agreements involved (Distributor Agreement, End User License Agreement - EULA), and the applicability of the Engineering Analysis judgment.

On Software Licenses and Embedded Software: The Tribunal found that Arista granted distributors a limited, non-exclusive, non-transferable, revocable right to resell software in object code form only, subject to the EULA. Crucially, Clause 3.3 of the distributor agreement prohibited copying, duplicating, translating, reverse engineering, decompiling, or disassembling the software, or attempting to discover any source code.

The ITAT observed:

"Thus from the above, it is clear that it is only in the object code form licence to use the software is provided. Thus there is no evidence that assessee also provides source code to the end user or to the distributor. Thus, the observation of the ld. AO is devoid of any merit that assessee has or will part with the source code to the distributor or to end users."

Regarding the AO's reliance on the confidentiality clause, the ITAT clarified:

"On looking at this confidentiality clause, it neither speaks of giving any right to the distributor or to the other party, but it preserves and protects its own right... Confidentiality clause in fact protects the right of Copyright owner and does not give any further right to the user/ distributor."

The Tribunal extensively quoted the Supreme Court's decision in Engineering Analysis , which delineated the difference between the transfer of a 'copyright' (which can lead to royalty) and the sale of a 'copyrighted article' (which is typically business income). The SC had held that if a license imposes restrictions on the use of computer software without transferring any part of the copyright, the consideration is not royalty.

The ITAT concluded that both income from software licenses and software embedded in hardware fell within the principles laid down by the Supreme Court, as the assessee was providing a right to distribute/use the software (a copyrighted article) without parting with any rights in the copyright itself.

On Hardware Replacement and Support Services: The AO had treated income from these services as FTS. The ITAT, however, accepted Arista 's submission that these services involved replacing damaged/faulty hardware products with new ones, which also had embedded software.

"This is also evident from the invoices wherein it is mentioned as hardware replacement and corresponding quantities. Therefore, it is not fees for technical services, but it is sale of embedded software in the hardware product."

Reinforcement from Recent SC Judgments: The ITAT also noted recent Supreme Court decisions in Microsoft Regional Sales Pte Limited (2024) and MOL Corporation (2024) , which upheld the Engineering Analysis ruling even for assessment years post-amendment, further strengthening the assessee's case.

Decision and Implications

The ITAT allowed grounds 3 to 11 of Arista 's appeal, holding that the entire disputed income of Rs. 35,83,19,076 was not 'royalty' within the meaning of Article 12 of the India- Ireland DTAA.

The Tribunal pronounced:

"Thus, according to us, in view of the decision of honourable supreme court, even post amendment, we hold that income earned by the assessee of Rs 35,83,19,076/- comprising of Sale of Software products as Software license of Rs. 94031793/-, Sale of Software embedded in hardware of Rs 33058672/- and hardware replacement and support services also in the nature of software embedded in hardware of Rs. 22,53,36,904/- is not ‘royalty’ within the meaning of Article 12 of India Ireland DTAA."

This ruling reaffirms the distinction between a copyrighted article and copyright for software taxation. It underscores that unless specific rights enumerated under Section 14 of the Copyright Act, 1957, are transferred, consideration for software (whether standalone, embedded, or supplied via hardware replacement) is unlikely to be treated as royalty, particularly for standardized, non-customizable products sold through distribution channels without granting rights to modify or access source code. The decision provides further clarity for multinational technology companies on the taxation of software-related revenues in India.