EY Tax Alert. Executive summary
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1 25 January 2016 EY Tax Alert AAR rules that transfer of shares of Indian subsidiary by a Mauritius company to a Singapore group entity is not a tax avoidant transaction Executive summary Tax Alerts cover significant tax news, developments and changes in legislation that affect Indian businesses. They act as technical summaries to keep you on top of the latest tax issues. For more information, please contact your EY advisor. This Tax Alert summarizes a recent decision of Authority for Advance Rulings (AAR) in the case of Dow AgroSciences Agricultural Products Ltd. (Applicant) [1], on the issue of whether the transfer of shares of an Indian company (ICo) by the Applicant to its Singapore group entity (SCo [2] ) upon re-organization would amount to tax avoidant transaction. Considering the period of holding of shares as well as the objective of re-organization of the group structure the AAR held that the transaction of transfer of ICo s shares was not a tax avoidant transaction. Accordingly, it was held that capital gains arising on such transfer would be exempt from tax in India under Article 13(4) of India-Mauritius Double Taxation Avoidance Agreement (DTAA). [1] Dow AgroSciences Agricultural Products Ltd. [TS-15-AAR-2016] [2] Singapore Company was one of the upcoming entities of the Group in Asia-Pacific region
2 Background and facts The Applicant is part of a large multi-national enterprise group (Group) and a company resident and incorporated in Mauritius. The Applicant held majority (nearly 99.99%) of the shares of ICo which was acquired by it in various tranches over a period of 10 years from 1995 to The Group had presence all over the world and was divided into various regions based on their geographical locations. The Applicant belonged to the European region, while ICo belonged to the IMEA region. In the past, the IMEA region was dismantled and entities were realigned with other regions as per the geographical convenience. As a result of this realignment, ICo has now become a part of the Asia-Pacific region. In order to achieve the objective of operational excellence, better control and administrative convenience, it was proposed to realign the holding of ICo and shift it to an entity in the Asia- Pacific Region. Accordingly, it was proposed that Applicant would contribute the shares in ICo as its capital in one of its group entity in Singapore i.e., SCo. a substantial cost cannot amount to a scheme to avoid payment of taxes in India. The Applicant has been operating for more than 10 years in Mauritius and hence it cannot be said to be a shell company. Investment in ICo s shares was carried out with prior approval of the Department of Industrial Policy and Promotion and Reserve Bank of India. In these circumstances, it cannot be said that shares were acquired with a view to sell them in future. The need for realignment of the Group arose upon dismantling of the IMEA group in As a result, and in order to ensure better control, ICO s holding was shifted from an entity in European region to Asia-Pacific region. SCo was an upcoming entity in the Asia-Pacific region and, hence, it was proposed to realign the holding of ICo from the Applicant to SCo. Additionally, the share acquisition was undertaken five years prior to the proposed re-organization of the group. Hence the proposed transaction is for sound business consideration. Issues before the AAR Whether the entire arrangement of transfer of ICo s shares in favor of SCo was a scheme to avoid taxes in India? Whether the Applicant had a Permanent Establishment (PE) in India? Whether income arising from such a transfer was taxable in India? Ruling of the AAR On the issue of whether the arrangement was a tax avoidant transaction For the following reasons it was held that the transaction of contributing ICo s shares to SCo by the Applicant was not a tax avoidance transaction: The Applicant had acquired shares of ICo in various tranches over a 10 year period. Such share acquisition which was carried out around 20 years ago for Setting up of the Mauritius company with an eye on Tax Treaty will not itself make it a tax avoidant arrangement. On the issue of PE It was a stated fact that the Applicant did not have an office or employees or agents in India. Neither did it have any activities in India. A tax residency certificate from Mauritius was also furnished by the Applicant. Further nothing was brought on record to show that Applicant had a PE in India. Therefore, it was held that the Applicant does not have a PE in India. Further, considering the accounting treatment, intention, as also quantum of the transaction, the equity shares held by the Applicant in ICo should be considered as capital asset and not stock-in-trade.
3 On the taxability of transfer of shares of ICo The transaction as explained above is not a colorable device to avoid taxes in India. Also, it is incorrect to state that since ICo has not declared and distributed dividend for the past few years, the sale proceeds to the extent of accumulated profits should be taxed as dividend in India. The shares of ICo were held for a very long period of time (10-20 years). The objective of acquiring ICo s shares as stated by the Applicant was not to trade in them but to hold them as investments. In fact, there was no trading in ICo s shares by the Applicant, except for the proposed transfer. Hence, the shares of ICo would constitute capital asset in the hands of Applicant. Reliance in this regard was also placed on the decisions in the case of G.Venkata Swami Naidu and Company [3], Raja Bahadur Kamakhya Narain Singh [4] and Praxair Pacific Ltd. [5]. Consequently gains from transfer of shares of ICo would result in capital gains in the hands of the Applicant. Such capital gains is taxable in India under the provisions of the Income Tax Laws. Thus gains on contribution of ICo s shares would be covered by Article 13(4) and, therefore, exempt from tax in India. Other observations Relying on the Supreme Court ruling in the case of Castleton Investments and also the press release dated 24 September 2015, it was ruled that in absence of PE in India, Minimum Alternate Tax provisions do not apply to the Applicant. As the transfer of ICo s shares is not taxable in India, transfer pricing provisions and withholding tax provisions are not applicable. The Applicant was not required to file a return of income in the absence of any taxable income. Reference was made to the decision of FactSet Research Systems Inc. [6] and Vanenburg Group B.V. [7], wherein it was held that machinery provisions cannot be applied in absence of any liability to tax. Article 13(2) of India-Mauritius DTAA provides that any gains arising from immovable property which forms part of the business property of a PE of an enterprise of one State in the other Contracting SState or the alienation of PE, may be taxed in the other Contracting State. Further Article 13(4) of the DTAA provides that alienation of (i) any property other than immovable property as covered in Article 6, (ii) property covered in Article 13(2), (iii) ships and aircrafts, would be taxable only in the resident State. The Applicant does not have a PE in India and, hence, Article 13(2) is not applicable to the facts of the present case. The contention that ICo is to be treated as a PE of the Applicant s parent company in the US and, therefore, the gains on transfer of ICo s shares should be treated as taxable in the hands of Applicant s parent under Article 13(2) is incorrect. [3] G.Venkata Swami Naidu and Company v. CIT [1959] 35 ITR 594 (SC) [4] Raja Bahadur Kamakhya Narain Singh v. CIT [1970] 77 ITR 253 (SC) [5] Praxair Pacific Ltd. AAR 855 of 2009 [6] FactSet Research Systems Inc. [Refer EY Tax alert dated 10 July 2009 titled AAR rules right to use database not royalty ] [7] Vanenburg Group B.V. vs. CIT [AAR No.727 of 2006]
4 Comments The AAR ruling is a welcome decision especially for entities having inbound investments in India. It reiterates that as long as strong commercial reasons exist for undertaking a transaction, it cannot be questioned merely on the ground that the investment is routed through a specific treaty favorable jurisdiction. It also gives insights on what factors may be considered as relevant for justifying substance in a share transfer arrangement. The ruling also reiterates that in absence of taxable income, the transfer pricing and withholding provisions do not apply. Interestingly, the AAR has also differentiated its earlier ruling in the case of Castleton Investments and held that in the absence of any liability to tax, there is also no obligation to file a tax return in India [8]. [8] In Castleton investment (AAR No. 999 of 2010), AAR held that the obligation to file return of income does not disappear merely because a person is entitled to claim the benefits of a DTAA.
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