The Federal Court has recently handed down its decision in
International Business Machines Corporation v Commission of
Taxation  FCA 335.
The issue considered by the Court was whether royalty withholding
tax was to be remitted on the full amount of payments made by an
Australian corporation to two non-residents under a Software
Licence Agreement (the 'Agreement').
The defendants contended that the Agreement was structured as a
distributorship agreement which granted rights, including
intellectual property licenses, as were necessary to use,
distribute, and market the software products. The defendants
submitted that payments under the Agreement could be divided
between payments for rights to intellectual property (which all
parties agreed were royalties and subject to withholding tax under
Article 12(4) of the Australia-US Double Tax Agreement) and
payments for the rights to distribute. The defendants argued that
payments for the rights to distribute were not royalties, and were
not subject to withholding tax.
On the other hand, the Commissioner submitted that the intent of
the Agreement was to provide the Australian corporation with all
the rights to intellectual property as was necessary to deal with
the programs. In the Commissioner's view, the subject matter of
the Agreement granted the rights to intellectual property as was
necessary to allow the Australian corporation to function as a
user, distributer, and marketer of the products.
The Federal Court found that there was no reference in the
Agreement to the payments being for the exercise of general
distributorship rights. The Court held that the subject matter of
the Agreement was the granting of rights to intellectual property
rather than distribution rights. The detail of the Agreement
considered the definition of intellectual property and rights
associated with such and there was no such detail with respect to
It was held that the Agreement did not grant two separate rights;
rather it provided rights relating to intellectual property as
required for distribution of the products. The rights granted under
the Agreement were considered to be the kind contemplated in
Article 12(4) of the Australia- USA Double Tax Agreement and the
whole payment was subject to royalty withholding tax.
The ATO and the OECD have stated that payments under an agreement
may relate partly to royalties in certain circumstances and the
OECD has provided guidance on apportioning payments that are part
royalties. This case does not present a contrary view, however it
highlights the importance of considering the substance of an
agreement when classifying a payment as a part royalty. In light of
this decision, Australian technology companies should consider the
subject matter of their licensing arrangements with overseas
entities to ensure the correct treatment for royalty withholding
If you have any queries in relation to this article or issues
relating to your offshore licensing arrangements, please contact
Daren Yeoh or Angela Sagoe-Crentsil on (03) 8635 1800.
Various approaches are taken by law firms in calculating the GST payable by a purchaser under a contract for the sale of property which attracts GST.
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