From The Judiciary

Software License Fees Not Chargeable to Tax in India in the Absence of PE/DAPE

Milestone Systems A/S [TS-298-ITAT-2026(DEL)]

Facts

Milestone Systems A/S, a Denmark-based video management software company, sold software licenses to Indian distributors aggregating to INR 198 million. The Assessing Officer contended that these transactions created a Dependent Agent Permanent Establishment (DAPE) in India, making a portion of the profits taxable under the India–Denmark DTAA. The Assessing Officer attributed profits to the alleged PE, arguing the distributors were acting on behalf of the foreign company.

Assesses Argument

The assessee contended that Indian distributors acted independently, purchasing software on a principal-to-principal basis and bearing commercial risk. They neither habitually concluded contracts for Milestone nor exercised decisive authority on its behalf. Revenue receipts were from pure software license sales, not services or royalties, and no fixed place of business existed in India.

Tribunal’s Findings

The ITAT, Delhi Bench, ruled in favor of the assessee’ s, holding that no DAPE existed. The distributors were independent and did not create a taxable presence. The tribunal emphasized that mere guidance or supervision over distributors does not constitute control sufficient to create PE. It further clarified that the distributors’ autonomy in pricing, stock management, and contract execution reinforced the absence of a dependent agent. The decision confirmed that pure software license sales without local contracting authority are not taxable in India.

Our Comments

This ruling reinforces that independent distributor arrangements alone do not create PE, even for substantial cross-border software sales. It clarifies the distinction between software license income and service income, providing certainty for tech companies operating through distribution networks. The Tribunal’s reasoning reinforces the principle of substance over form in PE determinations and aligns with global jurisprudence distinguishing independent distributors from dependent agents.

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Disallowance u/s 94B discriminates & violates Article 24(4) of India Denmark DTAA

Vestas Wind Technology India (P.) Ltd. v. ITO [2026] 184 taxmann.com 579 (Chennai – Trib.)

Facts

The assessee, a subsidiary of a Danish entity, had availed External Commercial Borrowings (ECBs) from its non-resident associated enterprise (AE). The assessee paid interest on these borrowings. It suo-motu disallowed an amount of INR 93.4 million under section 94B in its return of income. The TPO accepted that the ECB interest was at arm’s length and made no transfer pricing adjustment, but recomputed the section 94B disallowance at INR 184.7 million based on a revised EBITDA computation. The CIT(A) upheld the disallowance, holding that the non‑discrimination clause under Article 24(4) of the India–Denmark DTAA was overridden by Article 12(7).

Assesses Contentions

The assessee contended that the disallowance was discriminatory because Section 94B applies only to non-resident borrowings, leaving domestic AE loans unaffected. Further, the TPO’s computation of disallowance, which included net depreciation and non-deductible items, was unjustified. The assessee argued that only deductible interest and actual depreciation should be considered, and that the disallowance violated the non-discrimination clauses under Articles 24(4) of the India-Denmark and India-Switzerland DTAAs.

Tribunal’s Findings

The Tribunal upheld the assessees contentions, holding that Section 94B’s application exclusively to non-resident borrowings created a discriminatory situation in violation of the DTAA non-discrimination provisions. Additionally, the TPO’s inflated disallowance methodology was unsustainable, as EBITDA must be computed using actual depreciation, and only deductible interest should form the base.

Our Comments

This decision clarifies that thin capitalization rules cannot be applied in a manner that discriminates against foreign AEs, reinforcing DTAA protections. It also emphasizes that TPO adjustments must strictly adhere to deductible interest and the standard EBITDA computation, ensuring fair and consistent treatment for cross-border transactions.

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Whether a non-resident digital platform operator earning commission from India can be regarded as having a Fixed Place PE or Dependent Agent PE in India, thereby rendering such income taxable in India?

BOOKING.COM B.V. [TS-281-ITAT-2026(DEL)]

Facts

The assessee, a Netherlands-based company, operates a digital platform for online accommodation reservations. The platform is hosted outside India and enables accommodation reservations (e.g., hotels and guesthouses) worldwide. The assessee earned commission income from accommodations reservations made in India through the platform. The assessee claimed eligibility to avail benefits under Article 7 of the India–Netherlands Double Taxation Avoidance Agreement (DTAA), contending that such commission income is not taxable in India in the absence of any Permanent Establishment (PE) in India.

However, the Assessing Officer (AO) and the Dispute Resolution Panel (DRP) rejected the assessees claim. The AO and DRP alleged that the commission income is chargeable to tax in India on account of the assessee constituting a Fixed Place PE and a Dependent Agent PE, by treating third-party accommodations in India as the source of the commission income earned by the assessee on bookings made by end-users.

Held

The Delhi Income Tax Appellate Tribunal (ITAT) decided the matter in favor of the assessee. ITAT observed that the assessee merely acts as an intermediary/aggregator between bookers and accommodations, while the reservation contracts are directly concluded between the bookers and the accommodations. Post-checkout, the assessor earns commission from the accommodation based on a pre-agreed percentage of the booking value.

ITAT rejected the contentions of the AO & DRP regarding the existence of a Fixed Place PE in India in the form of dependent agents and accommodations, emphasizing that no evidence was brought on record to substantiate the existence of such a PE. It was observed that the assesesee conducts its business of online accommodation reservations through a digital platform hosted on servers located outside India, and does not have any place of business, agent, personnel, or equipment in India during the relevant previous year. Further, no place or premises of any hotel or guesthouse were at the disposal of the assessee.

ITAT also held that the assessee does not have any Dependent Agent PE in India. The transactions between the assessee and the accommodations are on a principal-to-principal basis, and there is no element of agency involved. Even assuming, arguendo, a principal-agent relationship, the mere flow of commission from the accommodations to the assessee does not establish an agency relationship.

ITAT placed reliance on the decision of the Hon’ble Supreme Court in Formula One World Championship Ltd. v. CIT (2017) 394 ITR 80 (SC), wherein it was held that for the constitution of a Fixed Place PE in India, the following conditions must be satisfied:

• Existence of a fixed place of business in India;
• Such a place must be at the disposal of the foreign enterprise, and
• Core business activities of the foreign enterprise must be carried out through such a place.

In the present case, none of the above conditions were satisfied. Accordingly, the ITAT set aside the final assessment order.

Our Comments

This ruling reinforces the principle that mere digital presence and commercial interaction with Indian customers do not, in themselves, constitute a PE. In the absence of a fixed place of the business at the disposal of the non-resident or a genuine agency relationship, the commission-based earnings of a platform cannot be brought to tax in India.

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Whether gains from trading in derivatives can be taxed as gains from shares under a tax treaty merely because the derivatives derive value from underlying shares?

Estee India Fund [TS-356-ITAT-2026(DEL)]

Facts

Estee India Fund (assessee) is a tax resident of Mauritius and operates as a quant multi-strategy market-neutral fund. The assessee is registered as a Category II Foreign Portfolio Investor (FPI) and trades in cross-listed securities in equity, commodity, and currency derivatives.

During AY 2022–23, the assessee undertook transactions in Currency derivatives and Stock derivatives. The assessee filed its return and claimed that gains from derivative transactions were not taxable in India under the India-Mauritius DTAA.

The Assessing Officer (AO) accepted that gains from currency derivatives were not taxable in India; however, the AO treated gains from stock derivatives as capital gains arising from shares and taxed them under Article 13(3A) of the DTAA.

The Dispute Resolution Panel (DRP) upheld the AO’s view, and the assessee filed an appeal before the Tribunal.

Assessee's Arguments

• Assessee submitted that stock derivatives and shares are fundamentally different financial instruments, as derivatives are financial contracts that do not represent ownership in a company, and trading in derivatives does not involve the transfer of shares
• Assessee further argued that Article 13(3A) applies only to shares, that derivatives are separate assets distinct from shares, and that gains arising from derivatives fall under the residual clause of the treaty, which is clause 4 of Article 13.

Revenue’s Arguments

• The Revenue contended that stock derivatives derive their value from underlying shares and, therefore, transactions in stock derivatives are akin to transactions in shares. Further, in reference to the amendment to the India–Mauritius DTAA, which made gains from shares taxable in India under Article 13(3A), revenue argued that gains from stock derivatives should also be taxed in India.
• Revenue argued that the nature of derivatives is closely linked to shares and therefore, derivatives should be treated as shares for treaty purposes.

Held

The Delhi Income Tax Appellate Tribunal (ITAT) decided the matter in favor of the assessee. ITAT observed that,

• Shares and derivatives are separate and distinct assets: as shares represent ownership in a company, whereas derivatives are financial contracts whose value is derived from underlying assets; ownership of shares is not required to trade in derivatives.
• Revenue’s approach of treating stock derivative transactions as equivalent to share transactions was legally incorrect, as derivatives cannot be treated as shares merely because their value is derived from underlying shares.
• ITAT placed reliance on the Mumbai ITAT ruling in the case of Vanguard Funds Public Ltd. vs. ACIT (International Taxation) [2025] 173 taxmann.com 321 (Mumbai - Trib.) [19-03-2025] and 3 Sigma Global Fund vs. ACIT, International [2025] 176 taxmann.com 708 (Mumbai - Trib.) [26-06-2025], and contended that gains arising from derivative transactions are taxable only in the country of residence.
• Article 13(3A) of the India-Mauritius DTAA applies only to gains from the alienation of shares; where the asset is not a share, taxation is governed by Article 13(4), which allocates taxing rights to the country of residence. Therefore, such gains are taxable only in the taxpayer’s country of residence, not in India.

Our Comments

This judgment highlights that derivatives and shares are distinct assets, and treaty taxation depends on the legal nature of the asset actually transferred, not merely on the fact that their value is derived from another underlying asset, such as shares.

Whether Rule 39(1)(a) of the CGST Rules mandating distribution of input tax credit (ITC) by an input service distributor (ISD) in the same month as the underlying invoice is ultra vires Section 20 of the CGST Act and violative of constitutional provisions?

Reliance Jio Infocomm Ltd. v. Union of India & Ors. [TS-137-HC(MAD)-2026-GST]

Facts

• Reliance Jio Infocomm Ltd. (the petitioner) is engaged in providing telecommunication services and operates through multiple GST registrations across states, each treated as a distinct person under GST law.
• The petitioner follows the input service distributor (ISD) mechanism to distribute common input service credits across its various registrations on a pro rata basis.
• Rule 39(1)(a) provides that ITC be distributed in the same month as the underlying invoice.
• The tax authorities issued a Show Cause Notice (hereinafter referred to as “SCN”) to the petitioner claiming non-compliance with this requirement on the ground that the ITC had not been distributed in the same month as directed by the rule.
• Pursuant to an amendment effective 1 April 2025, Section 20(2) of the CGST Act empowered prescription of timeline for ITC distribution.
• The petitioner challenged the validity of the said Rule on the grounds that:
  • Prior to amendment, there was no statutory power to prescribe a time limit for ISD distribution.
  • The same month distribution requirement is arbitrary and disconnected from actual entitlement to ITC.
  • Conditions for availment under Section 16(2) cannot be conflated with ISD distribution.
• The writ petition also challenged show cause notices alleging delayed distribution of ITC based on audit findings covering multiple financial years.

Ruling

• The Hon’ble Madras High Court upheld the constitutional validity of Rule 39(1)(a) of the CGST Rules while disposing of the writ petitions by providing an interpretative framework governing ISD credit distribution.
• The Court clarified that the phrase “input tax credit available for distribution in a month” refers to the point in time when the credit becomes legally admissible, i.e., upon satisfaction of all conditions prescribed under Section 16(2) of the CGST Act. Accordingly, mere receipt of an invoice does not trigger eligibility for distribution.
• While the Rule itself was not struck down, the Court effectively read it down to ensure that procedural timelines do not override substantive eligibility conditions, thereby granting relief to taxpayers.
• It was reaffirmed that ITC is a statutory entitlement, and the legislature is empowered to impose conditions, including procedural timelines, for its regulation.
• The Court held that Rule 39(1)(a) is within the scope of Section 20, as the rule-making authority is competent to prescribe procedural mechanisms for ITC distribution.
• The requirement of distributing ITC within the same month must be interpreted in alignment with Section 16, meaning that distribution can arise only once the credit is legally available, and not merely upon invoice receipt.
• A clear distinction was drawn between availment and distribution of ITC. While ISD distribution is an internal allocation exercise, actual availment remains subject to compliance with Section 16.
• The procedural framework under Rule 39(1)(a) was considered reasonable, as it serves legitimate objectives such as maintaining audit trails, preventing credit accumulation, and mitigating misuse.
• The Rule was upheld as constitutionally valid, with a direction that all pending matters be adjudicated in accordance with the principles laid down in this judgment.

Our Comments

The ruling is significant as it aligns GST procedure with commercial realities by shifting the trigger for ISD distribution from invoice receipt to legal availability of ITC. Taxpayers who adopted conservative positions under Rule 39 may reassess their approach.

While upholding Rule 39(1)(a), the Court clarified that procedural requirements should not override substantive rights. Delays linked to fulfilling Section 16 conditions should not prejudice taxpayers, weakening demands based solely on delayed ITC distribution.

This principle may be relevant in similar cases involving procedural lapses, subject to facts. However, timely compliance remains important, and any delay should be reasonable and well-documented.

Although Section 20 now empowers the Government to prescribe timelines for ISD distribution, the key principle that ITC should be distributed only when legally admissible continues to hold relevance, with limited scope to challenge prescribed timelines.

Tribunal holds that the draft assessment order is mandatory even in appellate‑effect proceedings

Toyota Kirloskar Motor P. Ltd¹

Facts

The Assessee engaged in the manufacturing and trading of automobiles, entered into international transactions with its associated enterprises (AEs) for AY 03-04. Transfer Pricing (TP) adjustments were made by the Transfer Pricing Officer (TPO), an assessment was originally completed, followed by appellate proceedings before the CIT(A) and thereafter before the Income Tax Appellate Tribunal (ITAT). The ITAT passed an order on 22.11.2012 directing TPO to make certain adjustments, based on which TPO made an adjustment on 29.09.2014, and subsequently the AO passed the assessment order. The assessee challenged the order before the Commissioner of Income Tax (Appeals) [CIT(A)]- wherein CIT(A) granted certain relief, and therefore, the AO and the Assessee appealed again in the ITAT.

Assessee’s contention

The Assessee contended that the AO was mandatorily required to issue a draft assessment order under section 144C before passing the final order incorporating the revised TP adjustment. Issuance of a draft order would have enabled the Assessee to file objections before the DRP and contest the adjustment made by the TPO.

Revenue’s contention

The Revenue contended that the AO had merely passed an order giving effect to the ITAT directions and had not carried out any independent determination. It was argued that in such circumstances, the AO was not required to issue a draft assessment order under section 144C. The Revenue further submitted that the DRP could not take a view contrary to the directions issued by the ITAT and that the requirement to issue a draft assessment order applies only at the first instance.

Held

The ITAT held that in cases involving TP adjustments, the issuance of a draft assessment order under section 144C is mandatory, including cases where the AO passes an order pursuant to directions of appellate authorities. Passing a final assessment order directly, without issuing a draft assessment order, violates the statutory procedure and deprives the assessee of its right to approach the DRP.

Our Comments

The decision affirms that compliance with section 144C is mandatory wherever transfer pricing adjustments are incorporated, irrespective of whether the assessment order is passed at the original stage or pursuant to appellate directions.

ITAT holds that performance guarantees linked to the software business do not warrant separate benchmarking (differentiating it from a financial guarantee)

Ramco Systems Ltd²

Facts

The Assessee, engaged in the development and sale of software products, issued performance/product warranties to customers of its AEs for AY 2020‑21. The TPO proposed TP adjustments by imputing a guarantee commission of 2.55% of outstanding amount, which was reduced to 1% by the DRP and incorporated into the final assessment order, against which the Assessee appealed before the ITAT.

Assessee’ s contention

The assessee contended that the guarantees were product/performance warranties integral to software licensing and maintenance, not financial guarantees. It was submitted that similar warranties were extended to non‑AEs without separate consideration and that royalty earned (at 30% of the AE’s sales and AMC revenue) already covered such obligations.

Revenue’s contention

The Revenue contended that the guarantees benefited the AEs and required arm’s‑length compensation.

The ITAT held that performance/product warranties intrinsically linked to the assessees core software business cannot be treated as financial guarantees requiring separate TP benchmarking. Accordingly, TP adjustment was deleted.

Our Comments

The ITAT’s ruling affirms that performance warranties arising from software licensing are integral business obligations and cannot be treated as independent financial guarantees.