Before the Authority for Advance Rulings (Income-tax) New Delhi 22 nd Day of February, 2011 Present Mr. Justice P.K.Balasubramanyan (Chairman) Mr. J. Khosla (Member) Mr. V.K. Shridhar (Member) AAR No. 843 of 2009 Name and address of the applicant Commissioner concerned Present for the Applicant Present for the Commissioner Transworld Garnet Company Limited PO Box 10424, Pacific Centre 1300-777, Dunsmuir Street, Vancouver British Columbia V7Y 1K2 Director of Income-tax (International Taxation), Chennai Dr. Anita Sumanth, Advocate Mr. Rajib Hota, Director of International taxation Chennai R U L I N G (By Mr. V.K.Shridhar) The applicant, Transworld Garnet Company Ltd, is a company registered under the laws of Canada. It is engaged in the business of mining, processing and supply of industrial garnet. It is holding 74 per cent of the equity share capital in Transworld Garnet India Private Limited (TGI). shares in TGI in lots as below: The applicant acquired the Particulars Dt. of Purchase No. of Shares Value in INR Lot I 03.09.97 3,449,560 34,495,600 Lot II 27.11.98 1,147,606 11,476,060 Lot III 25.06.99 394,700 3,947,000 Lot IV 16.12.99 6,392,748 63,927,480 Total : 11,384,614 113,846,140 1
The applicant entered into a share purchase agreement on 10.6.2008 with VV Minerals, a partnership firm registered in India for transfer of its shareholding in TGI. The applicant does not dispute that the income arising out of the transfer of shares is income deemed to accrue or arise in India and chargeable to tax under the head capital gains. As the shares have been held for a period of more than 12 months and are considered as long-term capital assets the gains on transfer of such shares is subjected to long-term capital gains. An application was preferred by TGI with the TDS Officer for determining the rate of tax deduction required on the sale consideration and an order was passed on 3.7.2006 by the ITO, International Taxation-II, Chennai, authorizing VV Minerals to deduct tax at the rate equal to 21.115 per cent on long-term capital gains. 2. The applicant draws attention to Section 48 of the Income Tax Act 1961(Act) which reads as under: Mode of computation. 48 The income chargeable under the head Capital gains shall be computed, by deducting from the full value of the consideration received or accruing as a result of the transfer of the capital asset the following amounts, namely: - (i) (ii) expenditure incurred wholly and exclusively in connection with such transfer; the cost of acquisition of the asset and the cost of any improvement thereto: Provided that in the case of an assessee, who is a non-resident, capital gains arising from the transfer of a capital asset being shares in, or debentures of, an Indian company shall be computed by converting the cost of acquisition, expenditure incurred wholly and exclusively in connection with such transfer and the full value of consideration received or accruing as a result of the transfer of the capital asset into the same foreign currency as was initially utilised in the purchase of the shares or debentures, and the capital gains so computed in such foreign currency shall be reconverted into Indian currency, so, however, that the aforesaid manner of computation of capital gains shall be applicable in respect of capital gains accruing or arising from every reinvestment thereafter in and sale of, shares in, or debentures of, an Indian company : Provided further that where long-term capital gain arises from the transfer of a long-term capital asset, other than capital gain arising to a 2
non-resident from the transfer of shares in, or debentures of, an Indian company referred to in the first proviso, the provisions of clause (ii) shall have effect as if for the words cost of acquisition and indexed cost of any improvement had respectively been substituted: 3. The Applicant submits that section 48 of the Act provides for the mode of computation of capital gains arising on transfer of capital assets. Under this section the income chargeable under the head capital gains shall be computed by deducting from the full value of consideration received or accruing as a result of the transfer of the capital asset: (a) the expenditure incurred wholly and exclusively in connection with such transfer of the capital asset; and, (b) the cost of acquisition of the capital asset and the cost of any improvement. It submits that the second proviso to Section 48 provides that where the capital gain arises from transfer of capital asset is long-term, the cost of acquisition to be deducted from the full value of consideration is the indexed cost of acquisition i.e. after taking into account the inflated tax base. The second proviso also provides that the benefit of deducting the indexed cost of acquisition by taking into account Cost Inflation Index is not available to nonresidents on transfer of shares in an Indian Company. Explanation (iii) to Section 48 defines the indexed cost of acquisition as an amount which bears to the cost of acquisition the same proportion as Cost Inflation Index for the first year in which the asset was held by the assessee or for the year beginning on the 1 st day of April, 1981, whichever is later. The Applicant further submits that in the Capital Gain Computation mechanism for non-resident assesses, the cost of acquisition of the asset, expenditure incurred for effecting the transfer and consideration for effecting the transfer is required to be converted into the same foreign currency, as was 3
initially utilized in the purchase of shares, using the exchange rates prescribed in this regard. Capital gains (i.e. transfer consideration less cost of acquisition and transfer expenses, if any) computed in foreign currency are thereafter reconverted into Indian currency using the State Bank of India Telegraphic Transfer buying rate on the date of transfer of shares to arrive at the taxable capital gains. Following is the comparison of the two computations: Computation of C.G. by applying provisos to Sec.48 of the Act (in INR) Under the first Proviso Under the second Proviso Sale Consideration 254,024,506 254,024,506 Less : Cost of Acquisition Indexed cost of Acquisition 113,846,140 181,232,569 Capital Gains 140,178,366 72,791,937 (before allowing expenditure in connection with the transfer of shares.) Section 48 of the Act, which provides for the computation of capital gains for non-residents, provides for a specific mechanism for computation of capital gains but the benefit of indexed cost of acquisition and improvement by taking the Cost Inflation Index is not made available to the non-residents under such Act. The Applicant submits that Section 90 (2) of the Act provides that: Where the Central Government has entered into an agreement with the Government of any country outside India or specified territory outside India, as the case may be under sub-section (1) for granting relief of tax, or as the case may be avoidance of double taxation, then in relation to the assesse to whom such agreement applies, the provisions of this Act shall apply to the extent they are more beneficial to that assessee. 4
Therefore the beneficial provisions of a treaty operate on account of the legislative mandate given under section 90(2) of the Act. The Applicant then submits that under the India-Canada DTAA, the capital gains arising in the hands of a Canadian resident from alienation of shares in an Indian company may be taxed in both the contracting states. Given the above, the capital gains arising to TGBC on transfer of its shareholding TGI is taxable in India in accordance with the provisions of the Income-tax Act. The applicant submits that it wishes to invoke the provisions of Article 24 of the India-Canada DTAA providing protection against discrimination against nationals of the other contracting state. It is submitted that the resident assesses are provided with a benefit to claim indexation benefit for the cost of acquisition, whereas the non-residents are denied the benefit on the basis of applicability of second proviso to section 48 of the Act. Therefore, there arises a situation where Canadian Companies (such as TGBC) holding shares in an Indian company are prevented from availing the benefit of indexation in the computation of capital gains. This treatment tantamount to discrimination of a Canadian National vis-à-vis Indian National. The Applicant submits that it had incurred expenses wholly and exclusively in connection with transfer of the shares mentioned supra. These expenses are: Fees for valuation of business, professional fees for advice in connection with transfer, legal expenses, fees for escrow account, travel and hotel charges. It is contended that section 48 of the Act provides that expenditure incurred wholly and exclusively in connection with transfer will be deducted from the full value of consideration from computation of capital gains. As these expenses are allowable deductions in computing capital gains under section 48, the same should be reduced in calculating the taxable capital gains. 5
4. With this background, the applicant seeks the ruling of this Authority on the following questions: (1) The Second proviso to section 48 provides that no indexation benefit is available to a non-resident in the computation of long term capital gain arising from transfer of shares in an Indian company. Will not the denial of indexation benefit tantamount to discriminatory tax treatment under Article 24 of the India-Canada tax Double Taxation Avoidance Agreement ( DTAA )? (2) Whether in computing the capital gains, deduction is admissible under section 48 of the Act on account of the following expenses incurred in connection with transfer of shares? Fees for valuation of business, professional fees for advice in connection with transfer, legal expenses, fees for escrow account, travel and hotel charges incurred in connection with transfer. 5. On the other hand the Learned DIT argued that the second proviso to section 48 of the Act provides that the benefit of indexation is not available to the non-resident. The non-residents are protected from the vagaries of extreme fluctuation as per the first proviso to section 48 of the Act. Article 24.4(b) of the Treaty provides that a company incorporated in Canada can be subjected to higher rate of tax, but that should not exceed 15%. He argued that there is no difference in the rate of capital gains taxation between resident and a non-resident. Regarding the claim of expenses incurred for the transfer of shares it is stated that the applicant has to establish that the expenses were wholly and exclusively incurred for the transfer and just not for the purpose of transfer. An enquiry in this matter is required to be conducted in the facts of the case before these are allowed. 6. Article 24(1) of the India-Canada DTAA is extracted below: Nationals of a Contracting State shall not be subjected in the other Contracting State to any taxation or any requirement connected therewith, which is other or more burdensome than the taxation and connected requirements to which nationals of that other state in the same circumstances are or may be subjected. 6
The DTAA with Canada seeks to prevent discrimination of the nationals of the other contracting state. The Article aims at ensuring equality of treatment to the nationals of the Contracting State so that they are not subjected to any taxation requirement, which is more burdensome than the nationals of other State are subjected to in the same circumstances. Discrimination is understood to be unequal treatment in identical situation. Different treatment does not constitute discrimination unless it is arbitrary. The Art.24 therefore seeks to prevent differentiation solely on the ground of nationality and against nationals as such. A comparison cannot be made between a resident and a national of a state and a national of another state to contend that they must be taxed in the same way. The state is not obliged to extend the same privileges which it accords to its own residents to one who is not. For example the residents are taxable on their worldwide income and the non-residents are not. Therefore, discrimination on account of nationality other than residence may be prohibited. A foreign national may be resident and an Indian national may be non-resident. Both the nationals may be non-residents. But being of different nationalities and being non- residents, the nationals cannot be said to be discriminated in terms of Art 24 of the DTAA. Such is the view of this Authority in the case of Universities Superannuation Scheme, AAR No.636 of 2004: 275 ITR 434, wherein referring to Article 26: Non-discrimination, under DTAA with U.K. it was held that: 7. The aforementioned para provides that nationals of a Contracting State cannot be subjected to any taxation or any requirement connected therewith in the other Contracting States, which are different or more burdensome than the taxation and connected requirements to which nationals of that other State are subjected to, in the same circumstances. It is important to note here that article 26 of the treaty forbids discrimination on the ground of nationality and not different tax treatment on the basis of residential status. The applicant is a national of UK; it is stated that under this para, it cannot be subjected to any taxation or any requirement which is more burdensome 7
than the taxation and connected requirements to which national of India are subjected to in the same circumstances. The grievance of the applicant is that the Indian nationals both resident-assessee as well as domestic companies are entitled to compute their capital gains on the basis of indexed cost of acquisition and indexed cost of any improvement and on the gains so determined, they are taxed @ 20% and they are allowed an option to be taxed @ 10% without indexation under the proviso to subsection (1) of section 112 of the Act, we do not think that under proviso to section 112(1) they have the option to apply the provisions of indexation for computing capital gains and paying tax @ 10% on the gains so arrived at as contended by Mr. Pardiwalla, so the plea that the applicant has no such option and therefore, the applicant is discriminated, is misconceived. Even on its own saying (as could be seen from the table quoted above) a domestic company and a resident- assessee of India have to pay tax at the higher rate of 20% on the gains arrived at by applying indexation provisions. The import of the proviso to section 112(1), discussed above, is that where the tax payable in respect of any income arising from the transfer of securities (as long term capital assets) exceeds 10% of the amount of capital gains before giving effect to the provisions of the second proviso to section 48, then such excess has to be ignored. In other words, without taking away the right of computation under the second proviso to section 48, FIIs have been extended the benefit of limiting the tax rate to 10% on the capital gains arising from the transfer of long-term capital assets being securities. Under the scheme of section 115AD which applies to FIIs like the applicant (which does not apply to domestic companies and resident assessees), FIIs are taxed @ 10% of the gains computed under Section 48 without indexation, therefore, the proviso puts them on par. Thus, there cannot be said to be any discrimination on that basis. Further, they cannot also be said to be operating in the same circumstances inasmuch as FIIs can undertake only delivery based transactions, they are not subjected to margin requirement; they have no restrictions on repatriation of profit out of the country and they have overall cap in taking equity possession. It may be pointed out that as defined in section 2 (22A) domestic companies are not necessarily Indian companies. Admittedly, FIIs are non-resident and domestic companies and other resident-assessee are Indian residents. The different treatment, if any, is based not on the nationality but on the status as resident, which does not amount to discrimination under article 26 of the Treaty. We are in complete agreement with the reasoning given in this ruling. 7. The Learned advocate for the Applicant made an attempt to distinguish the above case on the ground that in the above case the applicant was an FII, a special entity that is given tax benefits under section 115 of the Act. In the present case the applicant is not 8
taking up the position that where special benefits can be given, general benefits cannot be given. We have noted that the grievance of the applicant in the case cited supra was that under proviso to section 112(1), the applicant did not have the option to apply the provision of indexation while computing the capital gains. There is a specific prohibition under the scheme of section 115AD to compute the capital gains u/s 48 without indexation and that would not amount to discrimination. In the case before us the computation mechanism for a resident and a non- resident assessee has been specifically provided under the provisos and there is no scope for either applying both the provisos or for an interchange in the mode of computation u/s 48 of the Act. The arguments of the Learned Advocate that the above cited case is distinguishable on the basis that the applicant was an FII, a special entity that is given tax benefits is not acceptable as the explanation to section 90 (2) of the Act expressly permits differential rates for domestic and overseas companies. Even where the same business activities are performed, taxing a foreign company at the rate higher than the rate at which Indian company is taxed, it was held that it would not amount to discrimination under the DTAA. At this juncture we may refer to the decision of this Authority in P No.6 of 1995, In re (1998) 234 ITR 371, wherein this Authority did not accept the view that there was discrimination when it was contended that Royalties/FTS should not be taxed on net of expenses basis rather than on a gross basis under section 44D/115A of the Act. It requires to be said again that the state is not obliged to extend the same privileges which are available to its own residents and to those who are not. No discrimination can be said to have occurred on the basis of nationality in this case. 9
7.1 The Learned Advocate for the applicant placed reliance in the case of Metachem Canada Inc., 284 ITR (AT) 0196. In this case the assessee was a non-resident company and engaged in the business of erecting, commissioning and running of HRC project in Gujarat. It claimed deduction in respect of the allocation of overhead expenses incurred by the head office. It was contended that in addition to the deduction of normal business expenditure of a permanent establishment as permitted under the domestic taxation laws, deduction is also required to be allowed for a proportion of overhead expenses incurred by the head office. Referring to Art 24 of the DTAA, it was held that by placing a restriction on the deduction of head office expenditure, which was not applicable in the case of a resident companies, constituted less favourable tax treatment in India than the taxation levied on Indian enterprises carrying on the same activity in India. Hence the limitation on deduction of head office expenditure as stipulated u/s 44C of the Act will be hit by non-discrimination clause in the Indo-Canadian tax treaty. It must be remembered that in this case the business profits of a permanent establishment under Art. 7 of the DTAA were required to be computed. To compute such profits the overhead expenses incurred by the head office could not be ignored as it is a trite that correct income has to be computed by allowing all such expenses which are incurred for the purposes of business of the permanent establishment, whether incurred in the state or outside the state. Then it must be said that the operative paragraph of Art. 24(1) and (2) use different language to identify the kinds of difference in the taxation that will be considered discriminatory. Art. 24(1) speaks about any taxation or any requirement connected therewith, which is other or more burdensome than the taxation to which nationals of that other state in the same circumstances while Art 24(2) specifies that a taxation shall not be less favourably levied. The terminology of the two Articles is 10
different because the discrimination under Art. 24(2) is based not on nationality but on actual situs of enterprise whereas Art. 24(1) is concerned with individual, legal entity, partnership or association of persons who may be resident of one of the contracted state whereas PE discrimination is not concerned with any one of these but with the enterprise. Therefore, the case is of no assistance to the applicant. 7.2 The second case relied upon the Learned Advocate is of Daimler Chrysler India (P) Ltd., 2009-TIOL-68-ITAT-Pune, where the Ld. ITAT dealt with Article 24(4) of the Indo German Tax Treaty. While interpreting this clause, the Ld. ITAT in para 37 stated that under Art. 24(4), it is not at all necessary that the assessee in whose case this non discrimination is invoked should be resident of, or even national of, the other contracting state. It then went on to analyse Art. 24(4) in the context of the facts of the case. But we do not find any analysis of Art.24(1) except a remark that (under Art.24) these four types of discriminations are quite distinct in character and in scope. In the first category of discrimination all that is relevant is that national of one of the contracting state.. should not be discriminated against for the reason of nationality in the other contracting state-----. It is not even necessary that a person seeking treaty protection under this clause should be resident of any of the contracting states. From these remarks of Ld. ITAT, it cannot rather be said that nationality is the only criteria for Art.24(1) to apply as averred by the Ld. Advocate. 7.3 The next case relied upon by the Ld. Advocate is of SMS Demag Pvt. Ltd,, 2010- TIOL-135-ITAT-DEL. In this case the appellant made payment to a non-resident company for the purchase of software. The appellant contended that the payment was not an expenditure which would fall under consideration under section 40(a)(i). It was held that as the provision of section 40(a)(i) was not applicable to the appellant for the assessment year 2000-01, it could not 11
be made applicable to a foreign national because of non discrimination clause 24(1) of the DTAA with India and Germany. The case simply lays down that the law as applicable should be applied. In fact, without reference to the non discrimination clause under DTAA the stand of the appellant itself was an acceptable proposition. The reliance placed is therefore of no help to the applicant. 7.4 The Learned Advocate further relied on income-tax case no.1544 decided by the Transvaal Special Court of Republic of South Africa. Here again the issue relates to levy of tax on a non-resident and was held to be discriminatory in comparison to a resident. This case as well as the cases of Adida vs. Cour Administrative d Appel de Paris 07PAO1366 and case No. 2772-1999 would not be of any assistance to the applicant. 8 We may hasten to add that the meaning of the word taxation as given in the New Websites Dictionary and Thesaurus (1992) is as under: The imposition of tax : the system by which taxes are imposed: the revenue obtained by imposing taxes. The meaning given to the word taxation in Black s Law Dictionary is : the process of taxing or imposing tax. Taxation and tax are not inter-changeable. The object clause of every agreement uses the expression taxation and tax where the purpose is stated to be avoidance of double taxation and prevention of fiscal evasion with respect to taxes on income or wealth. The expression taxation has been used in Art. 24. Avoidance of discrimination is the object of the former and the avoidance of double taxation of the latter. Where the rate of tax is the focus, the language used is tax so charged shall not exceed. The discrimination against taxation therefore means the procedures by which tax is imposed. That is to say various steps taken to impose the tax as held in Municipal Board, Hapur Vs. Raghuvendrs Kirpal AIR 1966 SC 693. It means formalities relating to returns payment, prescribed times, etc. Taxation does not means rate of tax. 12 It is different
from levy of tax itself. Art. 24(1) does not use the word levy at all. There is difference between the tax and the imposition of tax. Former is the levy itself and the latter method by which the levy is imposed and collected. It was held in Ralla Ram Vs. Province of East Punjab AIR 1949 FC 81, that the taxation is concerned with the mode or standard. Its meaning does not place an embargo on imposing a higher rate of tax for the foreign concern than on the Indian concern as held in AAR,P-16 of 1998, In Re ---. Even the DTAA agreement with U.K. clarified that the non-discrimination clause should not be construed as a bar to the imposition of a higher rate of tax on a foreign company. 9. Regarding the expenses incurred in connection with the transfer of shares, the Learned DIT referred to the letter dt. 23-07-2008 addressed to the Applicant by the ITO (Intl Tax), Chennai, on the subject deduction of tax u/s 197 of the Act. The Learned DIT pointed out that the Applicant had estimated the expenditure to be Rs.11,71,550 whereas the expenditure now claimed is Rs.300,31,748. The extraordinary hike of the expenditure requires verification of the claim made before the Authority. The Learned Advocate responded by saying that the Applicant could not make a proper estimate as it was made in August 08. Later there was a revision in the sale consideration. The Learned Advocate prayed that while giving Ruling fetters may not be attached in case the allowability of the expenditure is to be considered after verification by the Revenue. 10. We have perused the details appearing in the invoices filed by the applicant for claiming expenditure under section 48(i) of the Act. We are of the view that they require verification. We are also aware that the Advance Ruling on the question of fact posed in the application is required to be answered. But where the facts require verification it 13
would not stand to reason to give advance ruling on the question of admissibility of deduction of the expenditure u/s 48(i) of the Act. 11. In the result the Questions are answered as follows: Question No.1 The denial of the benefit of the second proviso to section 48 of the Act to the applicant, a non-resident assessee while computing capital gains arising from the sale of shares of TGI would not amount to discriminatory treatment in terms of article 24 of the DTAA with Canada. Question No.2 We refuse to answer the question in view of our observations in para 9 supra. 2011. Accordingly ruling is given and pronounced on 22 nd Day of February Sd/- Sd/- Sd/- (J. Khosla) (P.K.Balasubramanyan) (V.K.Shridhar) Member Chairman Member 14