The Authority for Advance Rulings (AAR) in a recent ruling, allowed the taxpayer, a Mauritian company to benefit from the India-Mauritius Double Tax Avoidance Agreement (DTAA) in relation to the sale of its shares held in Indian companies.
The applicant, Shinsei Investment I Limited, Mauritius (Mauritius Co) is a company incorporated in Mauritius and is a wholly owned subsidiary of Shinsei Bank Limited, Japan (Japan Bank). It holds a valid tax residency certificate and does not have any permanent establishment in India. The Japan Bank is the sponsor and settlor of Shinsei Mutual Fund, India, currently set up as an Indian trust (Indian Mutual Fund). Shinsei Asset Management Company Private Limited, India (Indian AMC) manages the assets of the Indian Mutual Fund and Shinsei Trustee Company India Private Limited, India (Indian Trustee) and acts as trustee of the Indian Mutual Fund. Importantly, the Mauritius Co holds 75% of the total share capital of the Indian AMC and 99.99% of the total share capital of the Indian Trustee. The above mutual fund structure was established as a trust in 2008 and duly registered with the Securities and Exchange Board of India (SEBI) in accordance with the SEBI (Mutual Funds) Regulations, 1996.
In March 2010, the Mauritius Co, the Japan Bank and the other shareholders of the Indian AMC and the Indian Trustee entered into a Share Purchase Agreement (SPA) in relation to the sale of shares held in the Indian AMC and the Indian Trustee (Sale) to Daiwa Securities Group Inc., a Japanese resident and its affiliates (Purchasers).
The Mauritius Co approached the AAR to determine the Indian tax implications arising from the sale and the consequent compliances and filings to be undertaken in India.
Arguments Advanced by Parties
It was contended before the AAR that transfer of shares of the Indian Trustee and the Indian AMC should be exempt from tax in India as per the beneficial provisions of Article 13(4) of the India-Mauritius DTAA. Article 13(4) of the India-Mauritius DTAA confers the power of taxation of the gains derived by a resident of a contracting state from the alienation of shares only on the state of residence. The Mauritius Co relied on the decision of the Apex Court in the case of Azadi Bachao Andolan and stated that since it was the beneficial owner of shares, it would be entitled to the benefits of the India-Mauritius DTAA.
In response the Tax Authorities contended that the Japan Bank had been in effective control of the transaction and that the Mauritius Co had merely been introduced as the former’s nominee. The Bombay High Court in the case of Aditya Birla Nuvo Ltd, had denied the taxpayer the benefits of the DTAA since it was merely a ‘permitted transferee’ of its US parent or a nominee / representative as per the specific terms of the SPA. The Tax Authorities drew the AAR’s attention to the following provisions in the SPA to buttress its contention:
- Party to SPA: The Japan Bank was made a party to the SPA even though it did not have any shareholding in the Indian AMC or the Indian Trustee;
- Right to notify fulfilment of conditions: The Japan Bank held the rights to notify fulfilment of the conditions to the other shareholders of the Indian AMC and the Indian Trustee while the Mauritius Co had no such right or responsibility;
- Place of arbitration: The place of arbitration had been limited to Japan and / or India only. The absence of Mauritius was conspicuous; and
- Powers in relation to composition of Board and tax claims: The revision in the composition of the board of the Indian AMC and the Indian Trustee, and tax indemnification and claims were to be notified by the Purchasers to Japan Bank only and not the Mauritius Co and the Japan Bank was the sole party with respect to any tax claim liability.
The Tax Authorities strongly relied on the Aditya Birla Nuvo Limited case wherein the shares of the Indian company that were sought to be transferred were held in the name of the Mauritian subsidiary, however, the said shares had been subscribed and paid for by its US parent. Several references in the sale agreement led the court to rule that the Mauritius company was a ‘permitted transferee’ (i.e., nominee) of the US parent as a result of which the Mauritian company was denied the capital gains tax benefits of the India-Mauritius DTAA. The Tax Authorities, strongly relying on the above case, argued that the current case was no different and that the provisions of the SPA suggested that the Japan Bank was in effective control of the transaction and that the Mauritius Co was only a nominee.
The AAR, distinguishing the current case from that of Aditya Birla Nuvo Limited, ruled in favour of Mauritius Co. The AAR observed that:
- The Mauritius Co had in fact subscribed to and paid for the subscription of shares in the Indian AMC and the Indian Trustee in its own name and account. The Mauritius Co was accepted and approved by all parties to the SPA as the real and beneficial owner of the shares of the Indian AMC and the Indian Trustee.
- There was no clause in the SPA which proved that the Mauritius Co was merely a ‘permitted transferee’ of the Japan Bank. In fact, the SPA clearly demonstrated otherwise.
- Being the sponsor and settlor of the Indian Mutual Fund, the Japan Bank was required to be a party to the SPA as per the SEBI (Mutual Fund) Regulations, 1996.
- The provisions regarding the place of arbitration, sharing of responsibility for obtaining the tax withholding order etc, were irrelevant according to the AAR in view of the fact that the Mauritius Co was the real and beneficial owner of the shares.
In light of the above observations, the AAR held that the Mauritius Co was eligible for the benefits of the India-Mauritius DTAA and therefore not liable to tax in India. Further, the AAR stated that since the Mauritius Co was not liable to tax in India, there was no need for it to file an income tax return in India. With respect to the applicability of the Minimum Alternate Tax (MAT) provisions, the AAR held that since the Mauritius Co was a foreign company, MAT provisions would not be applicable.
While the ruling does not provide a detailed discussion on the clauses of the SPA, it definitely serves as a guide on the various aspects that may be considered while documenting a share sale transaction, especially when there is a non-resident seller. Needless to say this is also relevant from the perspective of demonstrating ‘commercial substance’ – a concept that is now assuming centre-stage with the onset of the General Anti Avoidance Rules (GAAR) era. While defining the structure and mechanics of a transaction, it is important to emphasise the role of the transferor as the legal and beneficial owner and limit the role of the transferor’s related parties.
It is also important to note that the India-Mauritius DTAA has been recently amended and this ruling relates to a period prior to the amendment of the DTAA. As per the amendment to the India-Mauritius DTAA, the capital gains tax in India on the sale of shares will no longer be exempt for investments made on or after 1 April 2017. Although only persuasive, this ruling is important for Mauritian companies who may look to avail the benefits of the India – Mauritius DTAA in limited circumstances such as investment in debt instruments in India and for the purposes of availing capital gains benefit of 50% of the domestic tax rate during the transition period as per the amendment to the India-Mauritius Tax Treaty.