Royalties paid to its American parent- IBM loses out to Australian Tax Office (ATO) on royalties

Royalties paid to its American parent- IBM loses out to Australian Tax Office (ATO) on royalties

INTERNATIONAL BUSINESS MACHINES CORPORATION & ANOR vs FC of T

2011 ATC 20-256

Some Para of Judgment

5. Whether the Corporations are liable to withholding tax on the full amount of the Payments turns on whether the Payments are wholly royalties or only in part royalties. "Royalties" are defined in Article 12(4) of the "Convention between the Government of Australia and the Government of the United States of America for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income" in Schedule 2 of the International Tax Agreements Act 1953 (Cth) (the Treaty).

6. It is not in dispute that:

· IBMA is an indirect, wholly-owned subsidiary of IBM.

· At all material times, IBMA acted as IBM's Australian distributor of computer software protected by intellectual property (IP) owned by IBM pursuant to the SLA.

· IBMA is a resident.

· IBMA does not have a permanent establishment in a foreign country, so that s 128B(2B) of the 1936 Act does not apply.

· IBM and World Trade are both non-residents.

· To the extent that the Payments are within Article 12 of the Treaty as "royalties", Australia as the country of source is permitted to tax the Payments subject to the exceptions within Article 12.

[emphasis added]

10. There is no dispute as to the relevant principles to be applied in the interpretation of the Treaty and the primacy to be given to the text. Regard is to be had to the context, object and purpose of the Treaty provisions (McDermott Industries (Aust) Pty Ltd v Commissioner of Taxation 2005 ATC 4398; (2005) 142 FCR 134 at [38]).

11. Included within the term "royalties" in Article 12(4) of the Treaty is a payment of any kind, to the extent to which the payment is consideration for the use of or the right to use any specified IP right 'or other like property or right'. Clearly all rights that can be characterised as IP rights are thereby included. It should also be noted that a royalty includes consideration for the use of, or the right to use, certain equipment, motion picture films or films or video tapes used in connection with radio broadcasting. Thus, royalties are not limited to payments for IP rights.

12. Article 12(4)(b) includes as a royalty a payment to the extent to which it is consideration for:

· the supply of scientific, technical, industrial or commercial knowledge or information; or

· the supply of any assistance of an ancillary and subsidiary nature, furnished as a means of enabling:

· the application and enjoyment of scientific, technical, industrial or commercial knowledge or

information owned by any person; or

· the property/rights of Article 12, which relevantly includes the IP rights of Article 12(4)(a)(i).

13. In summary and relevantly to this case, a payment is a royalty for the purposes of Article 12 if it is:

· for the use of an IP right;

· for the right to use an IP right;

· for the use or right to use an other like property or right;

· for the supply of certain knowledge/information;

· for assistance furnished to enable the application or enjoyment of an IP right or certain knowledge/information.

14. Article 12(4) of the Treaty does anticipate apportionment. However, the apportionment contemplated turns on the characterisation of the payment made. The Corporations emphasise that the definition of "royalties" in Article 12 draws a distinction between payments which are consideration for the use of IP on one hand and payments which are for the right to use IP on the other. The Commissioner contends that the expression "for the use of or the right to use" means a grant, whether exercised or not (the right to use) or a grant as exercised (the use). I agree with the Commissioner's interpretation; the definition of "royalties" applies to payments both for the use of IP, that is, the exercise of the right granted, and also for the grant of the right to use the IP. This is consistent with the proposition that the use of an IP right involves the use of subject matter which, if no right to use had been granted, would infringe the IP right.

15. If a payment is not consideration for the use of or the right to use an IP right within Article 12(4)(a) or consideration for supply as in 12(4)(b), the payment is not a royalty.