Intellectual Property Rights are one of the most valuable assets of organizations. To maintain a fine balance between promoting research and development and economic growth, various countries have different strategies regarding granting of intellectual property rights as well as other rights and the duties associated with them. We have been updating you about various developments in the sector by the Indian government here, here and here.

But how are intellectual property rights, which are assets of a company, taxed? And what happens when your company licenses and pays royalty to the owner of an intellectual property right but does not own it?

A recent order by the Income Tax Appellate Tribunal at Kolkata discussed this issue. In the case of Sicpa India Private Limited v Assessee, the tribunal had to decide whether royalty paid by Sipca India (assessee), to a foreign company in lieu of the exclusive license to use their IP in India should be treated entirely as Revenue Expenditure or a part of it should be considered as Capital Expenditure.

According to the terms of agreement between the assessee and the foreign company who was the holder of the intellectual property rights, the assessee entered into a collaboration agreement with the foreign company for the manufacture of security printing inks for Bank notes and for other securities and the right to sell such products under the terms of agreement. The foreign company had also granted the assessee an exclusive, non-transferable right to manufacture the products in India and a non-exclusive right to sell in India.

The appellants (revenue office) contended that the assessee has misled the authorities by claiming excess expenditure and should have treated 25 per cent of the royalty as a capital expenditure relying the following observations by the Supreme Court of India in the case of Southern Switch Gear Ltd. Vs. Commissioner of Income Tax and another:

“The right to manufacture certain goods exclusively in India should be taken to be on independent right secured by the assessee from the foreign company which was of an enduring nature, that consequently, the entire royalty could not be allowed as a revenue expenditure and 25% of royalty would have to be taken as being Capital in nature.”

The assessee, on the other hand claimed that as they did not hold any rights over the Intellectual Property other than the license and no part of the royalty paid to the foreign company could come under capital expenditure.

The Tribunal heard both the contentions and observed that it is a settled position in view of Southern Switch Gear case and other cases decided by the Calcutta high court that if the know-how remains the property of the licensing company, there is no outright transfer of the know-how to the assessee and therefore the royalty paid by the assessee should be held as revenue in nature.

Therefore, in the present case it was held that the assessee was right in claiming the royalty paid by them to the foreign company as Revenue Expenditure only.

Intellectual property rights and their implications are far more complex than simply filing or registering copyrights, patents, trademarks or designs. They are assets of a business entity that have far reaching commercial implications.

This article has been authored by Harleen a lawyer based out of New Delhi, India. She is currently working in legal-tech area and is keen to make laws accessible to people. A graduate of Delhi University, she follows technology, cyber laws and IPR news and cases and has contributed to portals like Legally India and Mint.