A recently issued ruling by the Austrian Ministry of Finance contains interesting comments on the treatment of royalties under double tax treaties (EAS 3397). In the case at hand, a Chinese company had made a lump-sum payment to an Austrian company for technical know-how relating to certain machinery as well as for the pertaining control software.
The Austrian Ministry of Finance stated that in a first step it is necessary to determine whether the payment was made (i) only for the right to use the technical know-how or (ii) rather for the transfer of full ownership of such know-how. In line with case law of the Austrian Supreme Administrative Court (Verwaltungsgerichtshof), a transfer of full ownership can be assumed if the original owner, after receipt of the payment, has no more possibility to make use of the technical know-how (i.e., cannot anymore use the know-how itself or make it available to a third party to use) and if the original owner cannot anymore influence the type of usage of the know-how by the "licensee" (cf. case 87/14/0001). Similarly, para. 8.2 of the OECD Model Commentary on art. 12 states that where a payment is in consideration for the transfer of the full ownership, the payment is not in consideration "for the use of, or the right to use" that property and cannot therefore represent a royalty.
If, in the case at hand, the "licensor" cannot anymore use the know-how in China (but can still use it in the rest of the world), then the Austrian Ministry of Finance will treat this as a sale within the meaning of art. 7 of the OECD Model Convention (business profits). Otherwise, art. 12 of the OECD Model Convention (royalties) will apply. However, even in the latter case it would still be necessary to determine whether the full amount of the payment should be seen as a royalty – since it is conceivable that part of the payment is the consideration for a service to be provided (e.g., after-sales services provided by the Austrian company). In such case, the payment would only partially be treated as a royalty, unless however the consideration for the service were negligible in relation to the total payment made.
Finally, the Austrian Ministry of Finance pointed out that the royalty definition in the double tax treaty concluded between Austria and China significantly deviates from the respective definition in the OECD Model Convention, since the former also includes payments "for the use of, or the right to use, industrial, commercial, or scientific equipment." In this context, pursuant to the Austrian Ministry of Finance, it is noteworthy that the term "equipment" does not necessarily equate to tangible assets.
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