The Mumbai Income Tax Appellate Tribunal (ITAT) has recently determined the following issue in the affirmative in the case of Manoj Dhupelia: Should the income of an offshore discretionary trust be subject to tax in India, if no distributions have been made to beneficiaries in India?

The question arose from appeals filed by individual beneficiaries in relation to a Lichtenstein-based trust, the Ambrunova Trust and Merlyn Management SA (the Trust) with the ITAT. It is important to note that the individuals in this case were amongst those first identified by the Government of India (GOI) as holding undeclared bank accounts in Lichtenstein.

The ITAT ruling raises the following issues:

  • Taxation of Trust Corpus: ITAT classified the corpus of the trust as "undisclosed income" and declared it taxable in the hands of the beneficiaries.
  • Taxation of Undistributed Income: ITAT refused to draw a distinction between the corpus and undistributed income from the trust and declared it taxable in the hands of the beneficiaries.
  • Prevention of Money Laundering Prosecution: The ITAT ruling will likely pave the way for further prosecution of the individuals, the trust companies, banks and other facilitators in relation to anti-money laundering legislation in India.

It is likely that other cases of a similar hue are in various stages of litigation with tax authorities in India. In particular, the following risk assessment and mitigation measures in this regard should be considered:

  • Ascertaining whether tax evasion petitions of the variety filed by the GOI in the Manoj Dhupelia case with the jurisdictional governments impact any beneficiaries of offshore trusts who at any time were subject to Indian tax or exchange control laws.
  • Outlining the distinction between the original corpus of the trust and subsequent undistributed income through robust documentation.
  • Early regulatory action to quash proceedings that do not follow precedents set by the Supreme Court of India in determining similar issues, since there is a high likelihood that as a pure point of law, the Supreme Court may follow its past precedents and rule that undistributed income from an offshore discretionary will not be taxable in India.