- The situs of IP will be the location of the owner of such IP, regardless of where the IP is used or develops value
- Licensing of IP is merely a grant of a limited right to use and does not transfer ownership
- Registration of IP is a form of protection and does not confer ownership
The Delhi High Court's recent judgment in the matter of CUB Pty Ltd v Union of India1 is a welcomed relief to multinationals licensing and registering their intellectual property in India. In order to determine the true situs of an intangible asset like intellectual property ("IP"), the High Court relied on the internationally accepted principle of common law which provides that the situs of an intangible asset must be situs of the owner of such asset. Accordingly, the High Court held that merely because a trademark may be registered in India, even if it has developed significant goodwill due to its use in India, it cannot be said that such trademark is situated in India for purposes of taxation under the Indian Income Tax Act, 1961 ("ITA") when the owner of the trademark is situated abroad.
The taxpayer in this case, CUB Pty Limited (formerly known as Foster's Australia Limited) ("Taxpayer"), held an underlying Indian subsidiary, Foster's India Limited ("Foster's India"). In 1997, a brand license agreement ("BLA") was entered into by the Taxpayer and Foster's India whereby the parent company licensed the use of four of its trademarks in India to Foster's India. In consideration of this limited license to use the marks in India, the Taxpayer received royalty payments. The BLA did not transfer any other rights to Foster's India, and it was clear from the agreement that ownership remained with the Taxpayer.
In 2006, the Fosters group (consisting of the Taxpayer and its affiliates) underwent a global acquisition by SABMiller group. Pursuant to the acquisition, the Taxpayer entered into an India Sale Purchase Agreement ("ISPA") in Melbourne by which it sold the following IP to Skol Breweries Limited (SABMiller's nominee):
- 16 trademarks, including the 4 trademarks previously licensed to Foster's India ("Trademarks")
- Foster's Brand Intellectual Property; and
- Exclusive and perpetual license in relation to Foster's Brewing Intellectual property confined to India
As a condition precedent to the ISPA, Clause 5.3 of the ISPA specifically required the termination of the BLA between the Taxpayer and Foster's India. Accordingly, on September 12, 2006, a deed of termination of the BLA was executed in Australia, and the Trademarks were assigned to Skol Breweries Limited.
On September 22, 2006, the Taxpayer filed an advance ruling application before the AAR on the taxability of the sale of the Foster's Brand Intellectual property (including the Trademarks), and the grant of exclusive and perpetual license in relation to Foster's Brewing Intellectual Property in India. While the AAR found that the income arising from the sale of the exclusive and perpetual license was not taxable in India, it also found that any income from the sale of the Trademarks is deemed to be income accruing in India as the Trademarks constituted capital assets situated in India. The AAR's conclusion was on the basis that the IP was used, developed and registered in India, and should therefore be regarded as 'situated in India'.
Aggrieved by the latter part of the AAR's ruling, the Taxpayer filed a writ petition before the Delhi High Court challenging the ruling.
The primary issue before the Delhi High Court is whether the income resulting from the sale of the Trademarks, being intangible capital assets, are subject to tax under section 9 of the ITA. Section 9(1)(i) is a deeming provision which specifically states that income accruing or arising from the transfer of any capital asset situated in India may be subject to tax. As such, the High Court is faced with the question of whether the Trademarks, being intangible assets, are situated in India.
Taxpayer's arguments: The Taxpayer relied on the facts that the origin of the underlying Foster's trademark was undoubtedly in Australia and that the Taxpayer, an Australian resident, was the legal owner of the Trademarks. The crux of the argument was three-fold.
- Situs of the legal owner: First, that the situs of any intangible asset must be that of its owner. The Taxpayer relied on the internationally accepted common law principle of 'mobilia sequuntur personam' which provides that the property owned by a person must be governed by the same laws that govern that person. Specifically, the Taxpayer contended that as intangible property by its very nature cannot have a physical presence, and the fact that such intangible property is subject to the immediate control of the owner, the situs of the intangible property must be linked with the situs of its owner. It was also highlighted that reliance must be placed on the common law principle of 'mobilia sequuntur personam' especially in the absence of any statute to the contrary.
- No ownership rights to Foster's India: Second, the Taxpayer supplemented the first argument by contending that the BLA only transferred a limited right to use the Trademarks in India and did not confer any ownership rights to Foster's India. As such, the BLA did not shift the situs of the Trademarks to India merely because it transferred a right to use them in India. However, even if the High Court determined that the BLA conferred some ownership rights to Foster's India, the terms of the ISPA made it abundantly clear that the BLA was terminated, and ownership was transferred back to the Taxpayer prior to the sale of the Trademarks by the Taxpayer.
- Registration does not shift situs of IP: Third, the Taxpayer further submitted that mere registration of the Trademarks in India also does not shift the situs of the Trademark from its owner. The Taxpayer relied on the case of Commissioner of Income Tax, Bombay v. Finlay Mills Limited2 to argue that registration does not entail creation of a trademark, and on Norwich Pharmacal Company v. Commissioner of Internal Revenue3 to argue that a trademark does not exist because of statute, but rather is a right conferred under common law and statute only fortifies the common law right by conferring statutory title to the trademark. As such registration only recognizes a pre-existing right in a trademark; a right which is protected even in the absence of such registration.
Tax department's arguments: The Respondent, on behalf of the tax department relied on the reasoning provided by the AAR in their original ruling. Namely, it was argued that the Trademarks had generated appreciable goodwill in India and had been nurtured in India for nearly a decade. As such, the Trademarks had a 'tangible' presence in India at the time the Taxpayer sold them which was only strengthened by the fact that the Trademarks had been registered in India. The fact that the Trademarks were also used in other jurisdictions did not change the fact that the India-specific trademarks existed in India. The respondent further stated that when the Foster's brand (with respect to Indian rights) was first introduced in India it had no value; however, when the same Trademarks were sold in 2006 they had substantial value. As such, it was argued that the value of the Trademarks was a direct result of their presence and operation in India.
The High Court, when making its ruling, recognized that the identification of the situs of intangible property is truly tricky as the very nature of such property makes it impossible to determine where it is physically located. The High Court relied on a strict interpretation of Section 9 of the ITA and held that if the legislature had intended to include intangible property like IP which is used or registered in India as being situated in India, then they would have expressly included language to that extent. In reaching this determination, the High Court referred to explanation 5 of section 9 of the ITA, which expressly identifies that the shares or interest of a foreign company (being intangible in nature) shall be deemed to be situated in India if the shares or interest derive their value substantially from assets located in India. As no such explanation is provided under the ITA for IP which derives its value from India, the High Court found that it must rely on the internationally accepted principle that the situs of the owner of an intangible asset would be the closest approximation of the situs of an intangible asset. As the Taxpayer, who was located in Australia, was the legal owner of the Trademarks at the time of transfer, the situs of the Trademarks must also be in Australia. Accordingly, as the underlying capital assets were not situated in India, any gains resulting from the sale of such capital assets were not subject to tax in India under Section 9 of the ITA.
More often than not, global M&A's involve transfer of intangibles in addition to share transfers, since brand value forms an integral part of any business. The Delhi High Court's verdict is a step in the right direction for making the transfer of IP and other intangibles more straightforward in the future.
The Delhi High Court's decision provides essential guiding principles while evaluating tax implications concerning intangibles. Registration of trademarks and utilization or exploitation in India cannot result in deeming that the IP is situated in India. While these may be important factors to determine a nexus between IP and the jurisdiction, it automatically does not determine the situs of the IP. The High Court also took specific note of the fact that the licensing arrangement under which the IP was licensed by the Australian entity to the Indian entity had been terminated, meaning that there were no rights relating to the IP exercised or exploited in India.
Although the facts of this case limited the High Court's adjudication to intangibles such as IP, it is interesting to note that principle applied by the bench, namely that the situs of the owner of an asset would be the closest approximation of the situs of the asset, should also be relevant in the case of all movable assets which do not have a fixed physical presence.
Further, the High Court rightly, relied on a very literal interpretation of the Section 9(1)(i). The relevant portion of the provision clearly provides for taxing income arising only from the transfer of capital assets situated in India. The High Court has respected the limited scope of Section 9(1)(i) and also accepted internationally acknowledged principles to determine situs in the absence of specific domestic law provisions. The ITA provides an expanded source rule in case of shares situated outside India, and even in case of fees for technical services, even where these services are performed outside India. The High Court has rightly pointed out that absence of any such specific language under the ITA with regard to IP, such intangibles cannot be taxed.
However, one would have to wait and watch whether the decision is appealed by the tax authorities at the Supreme Court, considering the wide implications.
1 W.P. (C) No. 6902 of 2008
2 (1951) 20 ITR 475(SC)
3 1934 BTA Lexis 1344
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