2015 rulings clarify taxation of software-related services

Taxation of software is one of the most debated issues of indirect taxation. With the rapid digitalization and the constant quest of the central and state governments to get a bigger slice of the tax pie, software and software-related services have faced multiplicity of taxes and are a hotbed for tax litigation. The problem is compounded by the fact that a supply of software involves a host of incidental activities including implementation, upgrading and maintenance of the software.

The taxability of software was analysed for the first time in great detail in the Supreme Court’s decision in TCS (2004), which held that software, whether packaged or customized, qualifies as “goods” when put on a physical medium and accordingly is liable to value-added tax (VAT), levied by a state government. However, the court did not delve into various aspects of taxation of activities incidental or connected to software.

Waking up to the potential to realize revenue from taxation of software, in the latter part of the last decade both the central and state governments have enacted provisions to tax software and related services. While most of the states provided a broad entry in their VAT laws to tax information technology software, the central government in 2008 introduced a specific entry of “information technology software service” to levy service tax on software-related services. Under the negative list regime (effective from 1 July 2012), software-related services have been specifically enumerated as “declared services” and subjected to service tax. This approach by the central and state governments on software and related activities led to duality of taxation.

Kumar Visalaksh is an associate partner and Stella Joseph is an associate manager at Economic Laws Practice. This article is intended for informational purposes and does not constitute a legal opinion or advice.