Holding

The Supreme Court held that the development of customized software does not constitute a taxable computer and data processing service because the contract's true object is to obtain intangible intellectual property, and referred the question to a larger bench.

Summary

Tata Consultancy Services appealed against the Andhra Pradesh High Court's decision that standardized computer software is a "good" liable to sales tax under the Andhra Pradesh General Sales Tax Act, 1957. The High Court distinguished between customized software (potentially not a good) and standardized software (a good). The Supreme Court examined whether the development of customized software constitutes a taxable computer and data processing service or an intangible intellectual property transaction. It held that the true object of a customized software contract is to obtain the software programme, not the consultant's services, and therefore the issue required authoritative clarification. Consequently, the Court referred the matter to a larger bench for a definitive ruling, disposing of the present appeal.

Issues considered

Whether development of customized computer software programmes for a customer constitutes computer and data processing services taxable under the Andhra Pradesh General Sales Tax Act, 1957.
Whether such customized software should be treated as "goods" within the meaning of Section 2(h) of the Act.

Legislation cited

Andhra Pradesh General Sales Tax Act, 1957s. 2(h)

Subjects

sales taxcomputer softwaregoods vs servicesintangible intellectual propertycustomized softwaretaxabilitylarger bench referralAndhra Pradesh General Sales Tax Act

Judgment

TATA CONSULTANCY SERVICES A
v.
STATE OF ANDHRA PRADESH

MARCH 13, 2001

[S. RAJENDRA BABU AND R.C. LAHOTI, JJ.] B

Sales Tax:

Andhra Pradesh General Sales Tax Act, 1957: Section 2(h).

Goods-Coniputer software-Sales Tax-Levy of-Whether development c
of customiSed computer sofilvare programmP.sfor a customer do not constitute
computer and data .'Jrocessing se11•ices because the tn1e object of software
development contract 1vas not to obtain the se111ices of the consultant, but to
obtain software pmgrammes consisting ofintangible intellectual pmpei1ywhich
are not taxable-In view of the impot1ance of the mailer having global impli-
D
cations, 1-e,ferred ta a larger Bench.

The High Court held that the computer software which were stand-
ardised and marketed for the use of certain classes of clients, like the
Oracle, Lotus, Master Key, N-Export, Ex-Uuigraphics etc. were goods
under Sc'Ction 2(h) of the Andhra Pradesh General Sales Tax Act, 1957 and E
liable to sales tax. Hence this appeal.

Disposing of the appeal, the Court

HELD : 1. In the instant case, the question raised is whether develop-
ment of customised computer software programmes for a customer do not
F
constitute computer and data processing services because the true object
of software development contract is not to obtain the services of the con-
sultant, but to obtain software programmes consisting or intangible intel-
lectual property which are not taxable. [363-E]

2. In view or the importance of the matter having global implications G
it is referred to a larger Bench. [364-E]

PSI Data Systems Ltd. v. CCE, [1997) 2 SCC 78; Associated Cement
Co. Ltd. v. Commissioner of Customs, JT (2001) 2 SC 141; Wal-Mart Stores,
Inc. v. City of Mobile & County of Mobile, 200-622, Supreme Court of
Alabama (1996), Advent Systems Ltd. v. UNISYS Corpn., 935 F 2d 670 H
359
360 SUPREME COURT REPORTS [2001] 2 S.C.R
A (3d Cir 1991); Beta Computers (Europe) l.Jd. v. Abode Systems (Europe) l.Jd.,
(1995); Commerce Union Bank v. Tidwe4 56-85 TN-Taxrptr-TB 200-279;
Tennessee Supreme Coult, State of Alabama v. Central Computer Services
Inc., 379 Se 2nd 1156; BOB Bullock, Comptroller v. Statistical Tabulating
Corpn., 60-82 Tx-Taxrptr-TB 200-683 Texas Supreme Coun, The First
National Bank of Fon Wonh, A National Banking Association v. BOB
B
Bullock Comptroller of Public Accounts, State of Texas, 548 sw 2nd 548;
First National Bank of Springfield v. Depanment of Revenue, 55-84
11-Taxrptr-TB 201-165; Illinois Supreme Coun, Ray S. James, Director
ofRevenue, State of Missouri v. Tres Computer Systems inc., 642 SW 2nd 347;
Comptroller of the Treasury v. Equitable Trust Co., 296 Md. 459, 464 A.
c 2nd 248; Chittenden Trust Co. v. Commissioner of Taxes, 55-98 VT-Taxrptr-
TB 200-193; Vermont Supreme Coun, Toby Constructions Products Pty.
l.Jd. v. Computa Bar (Sales) Pty. l.Jd., (1983); University Computing Co.
v. Hon. Manha Olsen, Commissioner of Revenue for the State of Tennessee,
677 SW 2d 445; Hasbro Industries, inc. v. John H. Norbery, Tax Administra-
D tor, 487 A. 2d. 124; Compuserve, inc. v. lindley, 535 NE 2nd 360; Nonheast
Datacom, inc. v. City of Wallingford, 55-90 CT-Taxrptr-TB 200-320; Con-
necticut Supreme Coun, South Central Bell Telephone Co. v. Sindney K.
Banhelemy, 643 So. 2d 1240; Kenneth P. Hahn, As Assessor, Etc. v. State
Board of Equalization, State v. Central Computer Services, Inc. (1977, Ala)
349 Sc. 2d 1160, 61 ALR 3d 274 and Andersen Consulting, UP v. Gene·
E Gavin, Commissioner of Revenue ·Services, (2000) Connecticut Superior
Court, referred to.

CIVIL APPELLJITE JURISDICTION: Civil Appeal No. 2582 of 1998.

From the Judgment and Order dated 12.12.96 of the Andhra Pradesh
F High Court in T.R.C. No. 99 of 1996.

WITH

Civil Appeal Nos. 2583, 2584, 2585 and 2586 of 1998.

G G.S. Jetly, Pradeep Jetly, A.S. Bhasme and Manoj Kumar Mishra for
the Appellants.

K. Ramkwnar, B. Sridhar, Ms. Shantinarayana and Y. Subba Rao for
the Respondent.

H The Judgment of the Court was delivered by
TATA CONSULTANCY v. STATE [RAJENDRA BABU, J.] 361.
RAJENDRA BABU, J. In these matters the Andhra Pradesh High A
Court concluded that software is of two categories - (i) software which is .
specialised and exclusively custom-made to cater to the needs of individual
clients, and (ii) software ·which Is standardised and marketed for the use of
certain classes of clients, like the Oracle, Lotus, Master Key, N-Export, Ex.
Unigraphics, etc. and held that for the purpose of the Andhra Pradesh General
B
Sales Tax Act (hereinafter referred to as 'the Act') it is not necessary to
consider whether the definition of 'goods' in Section 2(h) of the Act has to
I: be read down so as to exclude software from it. The High Court took the
view that the first category may not constitute 'goods' for the purpose of the
Act, while the second category are 'goods' and held that they are leviable
to tax. c
The case advanced on behalf of the appellants is that the branded
software which is an intellectual property being product of thought, creativity
). and intellectual efforts carmot be 'goods' for the purpose of the Act; that it
is an intangible intellectual property and, therefore, carmot be. goods; that
software is an essentially classic form of intellectual property; that the value
D
of the tapes on which it is sold is much lesser than the value of the software
progranrme itself; that the software progranrme is always transferred onto the
hardware and then the tapes are useless; that, therefore, the licensee/payer is
paying for the programme and not for the tapes or discs; these discs are
f different from music cass~ttes and video tapes, music ree]s, etc: because the E
programme on the discs is separable and is always transferred to the )lard-
ware, whereas in the case of music cassettes•. etc. though they may be
separable and can be transferred to another cassette or tape this is not
generally done and the music or movie ·always remains on the tangible
property on which it was stored when sold; that there are other methods by
F
which a software programme can be installed, like, the progranrme directly
keying in the progranrme through the console keyboard; that what is tcans-
ferred is the right to use the programme (which is a set of instructions) and
not the tape on. which it is stored; that though software has a physical
component, these physical components are merely tangential incidents of a
computer progranrme, they do µot change the programme's cle'lfly intangible G
character; that the essence of the contract is the right to use the software,
therefore, the essence of the transaction test mnst be applied; that in PSI Data
·-' Systems l.Jd. v. Collector of Central Excise, [1997] 2 SCC 78, it·is held that
if discs, floppies, CD ROMs are sold along with the computer, their value
is not to be included for assessing excise duty; that a software programme H
362 SUPREME COURT REPORTS [2001] 2 S.C.R.
A is a process that can be used to achieve a certain result whereas a music
cassette etc. is the end product in itself. 1
While on behalf of the respondents the case of the appellants is resisted
on the .ground that the magnetic tapes, discs, are necessary to carry the
programme and for the transfer to the hardware and, therefore, the value of
B the tapes is equal to the value of the programme; that the fact that the
programme can be transmitted through some other means does not take away
from the fact that in fact a tangible means was actually used; that music r
cassettes, phonographs a.'l.d movie tapes are indistinguishable from discs and
tapes becailse (i) they can also be transmitted by telephone lines and through
c radio waves, and (ii) the contents of music cassettes etc. are also transferable
to some other medium belonging to the purchaser of the right to use; that
software is tangible property and software recorded in physical form becomes
inextricably linked with the corporeal object upon which it is stored, that is,
a disc, tape, hard drive, etc.; that the fact that the information can be 1.
u·ansferred and then physically recorded in another medium does not make
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software any different from any other type of recorded information that can
be transferred to another medium such as film, videotape, audio tape or
books; that the distinction between books, films, videotapes, audio-tapes etc.
on the one hand and computer programme on the other on the basis that the
former cannot exist without the tangible medium and the latter can is
)
E unsustainable because even a programme has to be stored on some medium
like the hard disc and books, music etc. can also be transferred from one
medium to another; that in Wal-Mart Stores, Inc. v. City of Mobile & County
of Mobile, 200-622, Supreme Court of Alabama (1996), the Court said,
"Software is an arrangement of matter recorded in a tangible medium and,
therefore, constitutes a corporeal body"; that whether another medium was
F
actually used should be seen.

This Court in Mis Associated Cement Companies lJd v. Commissioner
of Customs, IT (2001) 2 SC 141, examined a similar question in the context
of the Customs Act and Tariff Act with reference to the Customs Valuation
G ·(Determination of Price of Imported·Goods) Rules, 1988 wherein several
decisions rendered relating to levy of sales tax in the context of works
contract were cited to contend that the drawings, plan, manuals, etc. supplied
were in the nature of intellectual property being knowledge or know how ,;.,_
which could only amount to service and not goods. This Court is of the view
that those decisions would not be of any help in the case in which the matter
H
TATA CONSULTANCY v. STATE [RAJENDRA BABU,!.] 363
was being considered.as the question before them was only whether the A
papers or diskettes etc. containing advice and/or information are goods for
the purpose of the Customs/Tariff Act. In the course of the discussion several
observations have been made as to the nature of the goods and the expression
'goods' used in various contexts is also taken note of in arriving at the
conclusion. It is specifically stated that once the•e drawings, etc. were put
B
on the diskettes it would enhance the value of those goods and adopted the
reasoning set out in Advent Systems limited v. UNISYS Corporation, [925 F
2d 670 (3d Cir 1991)] that computer programmes are the product of an
intellectual process, but once implanted in a medium are widely distributed
to computer owners though the programme can be copyrightable as intellec-
tual property it does not alter the fact that once in the form of a floppy disk c
or other medimn the programme is tangible, moveable and available in the
market place and, therefore, would amount.to 'goods'. The fact that some
programmes may be tailored for specific purposes need not alter their status
as 'goods'. To arrive at these conclusions this Court referred to several
decisions cited therein.
D
The debate adverted to by us as to development of customised com-
puter software programmes for a customer do not constitute computer and
data processing services because the true object of software development
contract is not to obtain the services of the consultant, but to obtain software
programmes consi;ting of intangible intellectual property which are not E
taxable. The services used to customise and develop the computer software
are part of the final software package sold and not separate computer and data
processing services subject to tax.

This debate will be incomplete without considering the decisions in
F
addition to those cited in Associated Cement Company lid. case [supra] and
thoserefeITed to in this order, to the following: Beta Computers (Europe) lid.
v. Abobe Systems (Europe) lid., (1995); Commerr:e Union Bank v. Iidwell,
56-85 TN-Taxrptr-TB 200-279 Tennessee Supreme Court; State of Alabama
v. Central Computer Services, INC, 379 So 2ud 1156; BOB Bullock, Comp-
troller v. Statistical Tabulating Corporation,. 60-82 Tx-Taxrptr-TB 200-683 G
Texas Supreme Court; The Firs( National Bank of Fort Worth, A National
Banking Association v. BOB Bullock Comptroller of Public Accounts, State
of Texas, 584 sw 2nd 548; First National Bank of Springfield v. Department
of Revenue, 55-84 IL-Taxrptr-TB 201-165 Illionis Supreme Court; Ray S.
James, Director of Revenue, State of Missouri v. Tres Computer Systems, H
364 SUPREME COURT REPORTS [2001] 2 S.C.R.
A .INC., 642S.W. 2nd 347; Comptroller of the Treasury v. Equitable Trust Co.,
v.
296 Md. 459,464 A.2nd 248; Chittenden Trust Co. Commissioner of Taxes,
55-98 VT-Taxrptr- TB-200-193, Vermont Supreme Court; Toby Constructions
Products Pty. Ltd. v. Computa Bar (Sales) Pty. Lid., (1983); University
Computing Company v. Hon. Martha Olsen, Commissioner of Revenue for
B : the State of Tennessee, 677 S.W. 2d 445; Hasbro Industries, INC. v. John H.
Norberg, Tax Administrator, 487 A.2d 124; Compuserve, INC. v. Undley, 535
N.E. 2nd 360; Northeast Datacom, INC v. City of Wallingford, 55-90 CT-
Taxrptr-TB 200-320, Connectict Supreme Court; South Central Bell Tel-
ephone Co. v. Sindney K. Barthelemy, 643 So.2d 1240; Wal-Mart Stores, INC.
v. City of Mobile & County of Mobile (supra); Kenneth P. Hahn. As Assessor,
C etc. v. State Board of Equalization; State v. Central Computer Services. Inc.,
·(1977) Ala 349 So. 2d 1160, 91 ALR 3d 274); and Andersen Consulting, UP
v. Gene Gavin, Commissioner of Revenue ·Services, (2000) Connecticut
· Superior Court.

Deeper and further consideration is required in. view of the importance
D
of the matter having global implications. Therefore, an authoritative pro-
nouncement is required on all tbese aspects of the matter. In that view of the
matter, we think it appropriate to place the papers in these cases before the
Hon'ble the Chief Justice of India to be referred to a Larger Bench.

E v.s.s. •Appeals disposed of.

>-.