Setting aside the Karnataka High Court's order on taxation of payments made by local entities to MNCs, the Supreme Court today asked it to decide the case afresh.

The Supreme court directed the High Court to decide afresh whether remittances paid by IT firms to MNCs for selling their products here translates into royalty and if tax can be levied on them or not.

A bench comprising Chief Justice S H Kapadia and Justices K S Radhakrishnan and Swatanter Kumar allowed a clutch of petitions filed by different firms and directed the High Court to decide afresh on the merits of the issue.

"We set aside the impugned judgment and direct the High Court to decide the question on merit," the bench said, adding that it was a well-established principle under law that foreign companies can not be asked for Tax Deducted on Source (TDS).

The companies which had challenged the orders of the High court include GE India Technology, Samsung, HP India and Sonata Information Technology Limited.

The Income Tax Department had directed the Indian concerns of the MNCs selling their products in the country to deduct TDS while they pay them money.

The I-T department had also imposed interest and penalty on the Indian concerns for not deducting TDS.

Opposing the demand, the firms had contended that these MNCs do not have any establishments in India and hence, the companies do not fall under the provisions of the Income Tax Act, 1961.

They also submitted that such income was also exempted under the Double Taxation Avoidance Agreement and contended that the I-T department could not have extra-territorial operation of Income Tax Act.

The Income Tax Appellate Tribunal had earlier held that the remittances made by Indian concerns are not taxable.

This was challenged by the I-T department before the High Court, which had held it was duty of the Indian concerns to deduct TDS on each and every remittance made to foreign companies.