Taxability of IT software related services -- Article by Dr Sanjiv Agarwal in Business Advisor dated June 25, 2014

1. Volume VII Part 6 June 25, 2014 12 Business Advisor
Taxability of IT software related services
Dr Sanjiv Agarwal
Under clause (d) of section 66E, of Finance Act, 1994,
declared services which are taxable include
development, design, programming, customisation,
adaptation, upgradation, enhancement and
implementation of Information Technology Software
(ITS).
The term ‗information technology software‘ has been
defined in section 65B(28) of the Act as ‗any
representation of instructions, data, sound or image,
including source code and object code, recorded in a machine readable
form, and capable of being manipulated or providing interactivity to a user,
by means of a computer or an automatic data processing machine or any
other device or equipment.‘
Scope of information technology software (ITS)
IT software services will include —
Design — plan, scheme;
Programming — process of writing a computer programme;
Customisation — modifying to meet a specific requirement;
Adaptation — change to suit, adopt;
Upgradation — raising standard, improving quality/version/features;
Enhancement — in value, content, quality;
Implementation — execution.
The literal meanings of various terms used in the scope of this service are as
follows:
Design
According to Oxford Dictionary, design refers to purpose or planning that
exists behind an action, fact, or object. According to Wikipedia, design refers
to a plan or convention for the construction of an object or a system. Design
involves problem-solving and creativity.

2. Volume VII Part 6 June 25, 2014 13 Business Advisor
Design may also be a mere plan that does not include a production or
engineering process, although a working knowledge of such processes is
usually expected of designers.
According to Advanced Law Lexicon, design means only the feature of
shape, configuration, pattern or ornament applied to any article by any
industrial process or means, whether manual, mechanical or chemical,
separate or combined, which in the financial article appeal to and are
judged solely by the eye; but does not include any mode or principal of
constructions or anything which is in substance a mere mechanical and
does not include any trademarks defined in Clause (v) of sub-section (1) of
section 2 of the Trade and Merchandise Marks Act, 1958.
Design can also be referred as purpose or intention, combined with plan in
mind; aim; purpose; object and in the view, scheme, intention to be carried
in to effect the word premeditate and design both import the forethought,
careful reflection, deliberately arranged purpose.
Programming
According to Oxford Dictionary, programming is the process of writing
computer programs. According to Wikipedia, computer programming (often
shortened to programming or coding) is the process of designing, writing,
testing, debugging, and maintaining the source code of computer programs.
This source code is written in one or more programming languages.
The purpose of programming is to create a set of instructions that
computers use to perform specific operations or to exhibit desired behaviors.
The process of writing source code often requires expertise in many different
subjects, including knowledge of the application domain, specialised
algorithms and formal logic.
A programming language is an artificial language designed to communicate
instructions to a machine, particularly a computer.
Programming languages can be used to create programs that control the
behavior of a machine and/or to express algorithms precisely.
According to Advanced Law Lexicon, program means a system of coding
used for writing instruction for controlling the operation of a computer.
Customisation
According to Oxford Dictionary, customisation refers to modify (something)
to suit a particular individual or task.

3. Volume VII Part 6 June 25, 2014 14 Business Advisor
Adaptation
According to Oxford Dictionary, adaptation refers to the action or process of
adapting or being adapted.
Murray’s Dictionary: Adaptation refers to process a thing so as to suit new
condition. The expression must mean the alteration of the phraseology of an
enactment in order to bring enactment into accord with the change
constitutional position.
Upgradation
According to Oxford Dictionary, upgradation refers to —
1) Raise (something) to a higher standard, in particular improve (equipment
or machinery) by adding or replacing components.
2) An improved or more modern version of something, especially a piece of
computing equipment.
According to Wikipedia, the term upgrade refers to the replacement of a
product with a newer version of the same product. It is most often used in
computing and consumer electronics, generally meaning a replacement of
hardware, software or firmware with a newer or better version, in order to
bring the system up to date or to improve its characteristics.
Enhancement
According to Oxford Dictionary, enhancement refers to an increase or
improvement in quality, value, or extent.
Implementation
According to Oxford Dictionary, implementation refers to the process of
putting a decision or plan into effect; execution.
According to Wikipedia, implementation is a realisation of a technical
specification or algorithm as a program, software component and other
computer through programming and deployment.
Many implementations may exist for a given specification or standard. For
example, web browsers contain implementations of World Wide Web
Consortium- recommended specification, and software development tools
contain implementations of programming languages.
Onsite development of software is covered under development of information
technology software. Sale of pre-packaged or canned software is in nature of

4. Volume VII Part 6 June 25, 2014 15 Business Advisor
sale of goods and is not covered under this category. It is a settled position
of law that pre-packaged or canned software which is put on a media is in
the nature of goods [Supreme Court judgment in case of Tata Consultancy
Services vs State of Andhra Pradesh [2002(178) ELT 22(SC) refers].
Sale of prepackaged or canned software is, therefore, in the nature of sale of
goods and is not covered in this entry. Also, services of providing advice,
consultancy or assistance on matter relating to information technology
software may not be covered.
However, such activities when carried out by person for another for
consideration would fall within the definition of service and hence
chargeable to service tax if other requirements of taxability are satisfied.
It may be noted that a software licence is a legal instrument (usually by way
of contract law, with or without printed material) governing the use or
redistribution of software. All software is copyright-protected, except
material in the public domain.
Contractual confidentiality is another way of protecting software. A typical
software licence grants an end-user permission to use one or more copies of
software in ways where such a use would otherwise potentially constitute
copyright infringement of the software owner‘s exclusive rights under
copyright law.
In addition to granting rights and imposing restrictions on the use of
software, software licences typically contain provisions which allocate
liability and responsibility between the parties entering into the licence
agreement.
Software licences can generally be fit into categories such as proprietary
licences and free and open source. The significant feature that distinguishes
them is that the end-users might further distribute or copy the software.
Some examples of taxable services or otherwise w.e.f. 1.7.2012 can be: sale
of pre-packaged or canned software is sale of goods; a mere license to use
such canned software, which is not transfer of ―right to use‖ is a provision of
service; on-site development of software is a service; internet download is a
service etc.
Examples of possible inclusion/ exclusion under information technology
software services
 Development of software and sale on media - This is purely goods in
nature and liable to VAT, not to service tax.

5. Volume VII Part 6 June 25, 2014 16 Business Advisor
 Sale of licences - This is a deemed sale as it is right to use the software
for a particular period and as software is goods, therefore, it is liable
for VAT.
 Customised software - Customised software sold to the customers as
per their customised needs may be liable to VAT as well as to service
tax.
 Hiring professionally qualified persons with certain competencies and
billed on day’s basis - If service receiver will direct the professionals as
per his instructions, it will not include any transfer of property in
goods and thus VAT may not be applicable, but service tax will.
 Implementation of software/ calibration of software/ going live - This is
a case of pure service in which one enables or disables the various
master controls to make the software run as required by the customer
and as such, liable to pay service tax.
 Testing of software - It includes confirmation regarding functionality
or usage of the software programs, is pure service in nature and liable
for service tax.
 Instant messaging, social networking - These may be considered as
service.
 Music/ video/ games on mobile - in case the games/ video/ games are
transferred, it may be liable to VAT but if it is online access, it may be
liable to service tax.
 Maintenance of software - This may be covered under works contract
or purely service and accordingly taxed.
 Software as a service if on server/ cloud - This is a new methodology
where the control and possession of the data/ programs being
accessed remain with the service provider [ISP] which may be hosted
on the server of the vendor in or outside India. The contract allows the
customer to access the site and enjoy certain privileges. This would be
covered under service tax.
 Updates and upgrades [patches] – This includes smaller programs and
therefore may be liable to VAT and service tax.
 Disaster Management: This is a service which may be taken up as a
preventive measure or corrective after happening of the disaster.
Wherever goods [hardware/ ready software] are transferred or right to
use goods are provided, it would be liable to VAT. Where the service
provider provides the service of mirroring, alternative site with his
own equipment like servers, cloud etc., it would only be a service and
taxed accordingly.
(Dr Sanjiv Agarwal is Partner, Agarwal Sanjiv & Company, Jaipur)