24 August 1990 Income Tax Severed Letter ACC9269 - Payments for the Right to Reproduce Software Programs

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

International Audits Division           Rulings Directorate
Taxation Programs Branch                G. Middleton
                                        957-2127
Attention:  J.A. Calderwood
            Director

                                        901481

SUBJECT: Payments for the right to produce or
         reproduce computer software programs

This is in reply to your memorandum dated June 7, 1990 regarding the application of subparagraph 212(1)(d)(vi) of the Income Tax Act (the "Act") in respect of payments made to non-residents for the right to produce or reproduce computer software programs.

Please note that this memorandum does not apply to those computer software licensing agreements where residents of Canada (i.e. end-users) are granted only the right to use a computer software program for their own use. Such persons are not granted rights to produce or reproduce the computer programs and thus, the exemption provided in subparagraph 212(1)(d)(vi) of the Act will not apply to those situations. The answer to Question #41 of the roundtable discussions during the 1988 Canadian Tax Foundation Conference provides additional comments on the taxation of payments made under such software licensing arrangements.

On June 21, 1990, the Supreme Court of Canada handed down its decision in the case indexed as Apple Computer Inc. ("Apple") v. Mackintosh Computers Ltd. ("Appellant") and Apple Computer Inc. v. 115778 Canada Inc. ("Appellant").

The facts in this case can be summarized as follows:

Apple holds a registered copyright in two operating system programs for the Apple II+ computer, which it manufactures. These programs were originally written in assembly language, and then converted into hexadecimal code. Finally, the programs were etched into a silicon chip. By the use of a process known as "burning", the appellants copied the programs embodied in Apple's silicon chips.

In its decision of April 29, 1986, the Federal Court Trial Division ((1987) 1F.C. 173) concluded that the programs embedded in Apple's silicon chips should be regarded as software rather than hardware and that the circuitry in the chip was an exact reproduction of Apple's assembly language program and was, therefore, protected by copyright under subsection 3(1) of the Copyright Act. The appellants appealed this decision to the Federal Court of Appeal ((1988) 1F.C. 673) but their appeal was dismissed. The appellants then appealed to the Supreme Court.

The main issue decided by the Supreme Court was whether a computer program, originating in copyrightable written form, continues to be protected by copyright when it is duplicated in the circuitry of a silicon chip. The Supreme Court reaffirmed the decision of the Trial Division that the programs embedded in the silicon chip are a reproduction of the programs in assembly language and as such are protected by copyright under subsection 3(1) of the Copyright Act.

The relevant portion of subsection 3(l) of the Copyright Act reads:

"For the purposes of this Act, "copyright" means the sole right to produce or reproduce the work or any substantial part thereof in any material form whatever...

(a) to produce, reproduce, perform or publish any transaction of the work;....

(d) in the case of a literary, dramatic or musical work, to make any record, perforated roll, cinematograph film, or other ontrivance by means of which the work may be mechanically performed or delivered."

The Federal Court Trial Division decision implied that the computer program was a literary work and noted that the computer program in chip form would also be protected under paragraph 3(1)(d) of the Copyright Act.

Bill C-60 which received Royal Assent on June 8, 1988 amended the definition of "literary work" in the Copyright Act to include computer programs. This amendment was first introduced on May 27, 1987 and it was intended to provide certainty that computer programs would be protected under the Copyright Act as literary works. As a result of the decisions given in the Apple case, it would certainly appear that this amendment was not necessary.

The Supreme Court decision in the Apple case clarified that payments made in respect of the right to produce or reproduce computer software programs should be exempt from Part XIII tax by virtue of subparagraph 212(1)(d)(vi) of the Act. Furthermore, these payments should be exempt from tax in Canada pursuant to Article XIIIC of the Canada-U.S. Income Tax Convention (1942)("U.S. Convention") and paragraph 3 of Article XII of the U.S. Convention (1980).

The history of the Department's position in respect of the Part XIII income tax treatment for payments in respect of the right to produce or reproduce computer software programs is summarized as follows:

(a) Prior to July 1, 1983, such payments were considered to be exempt from tax by virtue of subparagraph 212(1)(d)(vi) of the Act.

(b) For the period July 1, 1983 until the date the Copyright Act was amended on June 8, 1988, it was the Department's view that computer programs were not copyrightable in Canada and thus, did not qualify for the subparagraph 212(1)(d)(vi) exemption. It was also the Department's position that such payments would not be exempt under Article XIIIC of the U.S. Convention (1942) or paragraph 3 of Article XII of the U.S. Convention (1980) for the same reasons.

21(1)(b)

21(1)(a)

If you wish to discuss any of the above comments, please do not hesitate to contact the writer.

Director Reorganizations and Non-Resident Division Rulings Directorate Legislative and Intergovernmental Affairs Branch