The Future for theTelecommunication, Media, andTechnology Sector in India AfterNew Skies

by D.V. Manohar, Romesh S.A. Sankhe,

Ishita Bhaumik, and Garima Jain

Reprinted from Tax Notes Int’l, December 14, 2009, p. 867

Volume 56, Number 11 December 14, 2009

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The Future for the Telecommunication, Media, andTechnology Sector in India After New Skiesby D.V. Manohar, Romesh S.A. Sankhe, Ishita Bhaumik, and Garima Jain

On October 16, 2009, the Special Bench of IncomeTax Appellate Tribunal, Delhi (ITAT), issued a

ruling in favor of the revenue authorities in appealsfiled by the nonresident satellite companies (SatCos)New Skies Satellites N.V. and Shin Satellite Public Co.Ltd. The ITAT held that the consideration paid by tele-casting companies to satellite companies was for theuse of a ‘‘process’’ and therefore was a royalty underIndian tax law, despite the process not being a secretone. (For the ruling in New Skies Satellites v. ADIT(I.T.A. Nos. 5385-5387/DEL/2004 and I.T.A. Nos.2623-2624/DEL/2008), see Doc 2009-23299 or 2009WTD 203-17. For prior coverage, see Doc 2009-23506 or2009 WTD 205-7.)

The ruling has attracted attention from industry pro-fessionals around the world because the tax implica-tions on payments for the use of transponder capacityare important throughout India — potentially affectingall satellite and telecommunication companies broad-casting in India.

This article examines the ITAT’s observations andanalyzes the findings regarding the tax implications onservices involved in the telecommunication, media, andtechnology (TMT) sector in India.

BackgroundNew Skies Satellite (a Dutch tax resident) and Shin

Satellite Public Co. (a tax resident of Thailand) providetransponder capacity from their satellites to telecasting/telecommunications service providers, enabling cus-tomers (including Indian companies) to transmit voiceand data around the world. All equipment and facili-ties are owned, maintained, and controlled by the Sat-Cos from outside India. The SatCos have no controlover the data uplinked or downlinked by customers.

The process of uplinking or downlinking is embeddedin the transponder, which is used by the customers atthe time of uplinking or downlinking. The SatCos pre-determine the transponder process and make it avail-able to customers for a fee.

The Indian tax authorities maintained that the feespaid to the SatCos were in the nature of royalties un-der both the Indian Income Tax Act, 1961 and India’stax treaties and therefore were taxable in the hands ofthe SatCos. The SatCos argued that the payments didnot qualify as royalties and that in the absence of apermanent establishment in India, the income was nottaxable in India. (In addition to the appellant SatCos,Asia Satellite Telecommunications Co. Ltd. (HongKong) was given leave to participate as an intervenor.)

In concluding that the payments were royalties andtaxable in India, the ITAT rejected the arguments ofthe SatCos that no use of process was involved andthat the process must be secret before the payment forthe process can be characterized as royalty. The ITATheld that the services provided by the SatCos did in-volve a process and that they provided their customerswith a particular capacity of the transponder’s pre-determined and preguided process. To fall within thescope of a royalty, the process does not have to be se-cret. The consideration paid by telecasting companiesto the SatCos is for the use and right to use the processand thus is a royalty under the ITA.

Analysis

TMT Sector

The SatCos argued that their case was similar tothat of Skycell Communications Ltd. v. DCIT (251 ITR 53(Mad)), in which the Madras High Court held thateven though sophisticated equipment was used by a

D.V. Manohar, Romesh S.A. Sankhe, Ishita Bhaumik, and Garima Jain are with Deloitte Haskins & Sells inMumbai and Bangalore.

Copyright © 2009 Deloitte Touche Tohmatsu. All rights reserved.

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cellular mobile service provider in the course of pro-viding cellular mobile telephone facilities to its cus-tomers, the payments received by Skycell could not beregarded as ‘‘fees for technical services.’’

The ITAT, however, stated that Skycell was inappli-cable:

What was interpreted in Skycell’s case was in thecontext of ‘‘fee for technical services’’ vis-a-visdeduction of tax for such fee. . . . We are con-cerned with the provisions defining the royaltywhich includes in its ambit many other aspectsalso.

Without denying the tax authorities’ contention thatSkycell was further distinguishable on its facts, theITAT also noted that:

[Skycell’s] customer was only to make a requestto the service provider for providing the serviceand beyond that nothing was to be done by thesubscriber except that on allocation of connec-tion, the subscriber was entitled to use the serv-ice. [In contrast, the New Skies/Shin] customerwas to have his own earth station . . . pick up thesignals . . . uplink the signals . . . catch the signalsat the earth stations or to downlink the signals,and, therefore, the customer is a part of process.

The inference, therefore, can be drawn that theITAT has noted the nuances of processes being used inthe transponder and telecommunication sector, so theruling delivered in the case of telecommunication com-panies cannot be applied to satellite companies andvice versa.

Payments Made to Satellite Companies

The appellants argued that the decision of the Au-thority of Advance Rulings (AAR) in ISRO Satellite Cen-tre applied. In ISRO, the AAR held that payment forthe use of a navigational transponder was not taxablein India as a royalty. Again, the ITAT found the twocases distinguishable after a detailed comparison of thefacts in ISRO:

• the ISRO transponder was a navigational tran-sponder;

• as the AAR pointed out, there are differences be-tween navigational transponders (which do notamplify a signal) and communication transpon-ders (which are active transponders), and theISRO applicant was found not to operate the tran-sponder; and

• in contrast, it was admitted in New Skies that thesignal uplinked by the telecasters to the transpon-der was amplified and given strength so as toreach the broadcast area in good condition.

Therefore, it is clear that the principle laid down inNew Skies Satellite cannot be applied when the paymentsare made for the use of a navigation transponder or

similar equipment, which are passive in nature and donot contribute to the data being processed or transmit-ted.

Payment for the Use of a Process

The ITAT’s deliberations zeroed in on the interpre-tation of ‘‘payment for use of a process.’’ The SatCosargued that the payments were merely for the telecasteravailing itself of the service and that the telecastingcompany is neither concerned with the process beingused nor using the process in and of itself. The ITATrejected this argument, making several observations:

• Control and use of the transponder is a compli-cated matter, involving sophisticated instrumentsowned by the SatCos or the telecasting compa-nies. The process is predetermined and preguidedby the SatCos, and then made available for con-sideration to the telecasters for their use accordingto their needs.

• The argument that the telecasting companies wereinterested only in telecasting their programs andnot in using the process is unpersuasive. Withoutusing the process involved in the transponder, thetelecasting companies would be unable to telecasttheir programs in the desired area at the desiredtime.

• After entering into the contract, satellite compa-nies have no right to interfere in the process in-volved in the transponder except as provided inthe agreement. The SatCos have no control overthe time or programs being telecasted.

After an analysis of the appellants’ agreements withthe telecasting companies, the ITAT concluded that thepayments were for the use of the process and thuswere a royalty. It appears that this conclusion was pri-marily influenced by the fact that the telecasting com-panies, while relaying live or recorded programs totheir customers, use their ground stations to uplink thedata to satellites, with the data also received by thetelecasters’ ground stations in the downlinking processby which the telecasting companies provide program-ming to their customers. The ITAT found support forthis reasoning in PanAm Sat International Systems Inc. (7Intl. Tax Law Report 419), in which a Chinese courtruled on analogous facts that the fee was a royalty.

Taxability of Payments

The Finance Ministry released a draft Direct TaxesCode (DTC) on August 12, 2009, for public discussion.The ministry proposes that the DTC take effect April1, 2011, and increase the withholding tax on some roy-alties to 20 percent. Further, the definition of royaltywould include payment for ‘‘the use or right to use oftransmission by satellite, cable, optic fiber or similartechnology.’’ Interestingly, the word ‘‘process’’ has notbeen used in the portion of the proposed definitiondealing with transmission by satellite, cable, optic fiber,

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and so forth. Therefore, it appears that the DTC’s defi-nition is being introduced to cover all payments madefor the transmission of data, irrespective of the use ofprocess by the customer, and all such payments willdeemed to be a royalty and thus taxable in India.

Final RemarksThe principles established by the Delhi Special

Bench can be simply illustrated by an analogy exam-ined by the court comparing the transmission of datathrough a satellite to a glass of juice and the processby which it is made. That is, when a customer merelyplaces an order for juice made from some fruit, it can-not be termed as a ‘‘use of process.’’ In such a process,the fruit will be delivered to the machine, but the trans-formation will be purely operated by the service pro-vider, and the customer will have no control over it.However, when the customer has control over the inputand output process of the juice machine, controllingthe quantity and ingredients of the juice produced, itcould amount to a ‘‘use of process.’’

Consequently, under the ruling, no royalty will befound when the nature of the service is a transmission

facility used by the customer without any participationby the customer in the transmission process — for ex-ample, a telecommunication company using a cablenetwork or the use of a passive transponder such as anavigation transponder. This will change once the DTCcomes into effect, absent changes to the draft provi-sions.

However, a royalty will be found when the nature ofthe services is a transmission facility used by a cus-tomer that itself participates in the transmission proc-ess — for example, a communication transponder usedby telecasting companies with the customer operatingcertain processes through ground stations in its posses-sion.

The ruling illustrates the need for companies under-taking similar transactions to understand the nature ofeach transaction to avoid potential noncompliance withtax obligations. This ruling further illustrates an evolu-tion in the approach followed by the courts and otherjudicial bodies by which industry practices are consid-ered in developing the rulings. ◆

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