P.V. Reddi, J. (Chairman) -
(1.) THIS application for advance ruling has been filed by a non' resident company under Section 245Q(1) of the Income -tax Act (hereinafter referred as IT Act). The following facts are stated in the application:
1.1 The applicant, E*TRADE Mauritius Limited ('Applicant'), is a company incorporated in Mauritius, holding a Global Business Company Licence issued by the Financial Services Authority of Mauritius and is a tax resident of Mauritius. It has been issued a Tax Residency Certificate by the Mauritius Tax Authorities. The Applicant is a subsidiary of Converging Arrows Inc. USA which in turn is a subsidiary of E*TRADE Financial Corporation, USA.
1.2 The Applicant held equity shares in IL&FS Investsmart Limited ('Indian Company') which are listed on Stock Exchange in India. The Applicant had acquired these shares in the years 2005, 2006 and 2007. The shares were acquired by way of direct purchases as well as upon conversion of the Global Depository Receipts ("GDRs") as per the details set out in Exhibit 'A'. The Applicant has transferred 30,625,692 shares in the Indian Company to HSBC Violet Investment (Mauritius) Limited, a company organized under the laws of Mauritius, at Rs. 200/ - per share on 29th September 2008 and realized long term capital gains there -on in India. A Share Purchase Agreement was entered into on 16th May, 2008.
1.3 Being a tax resident of Mauritius, the Applicant is governed by the provisions of the India -Mauritius DTAA in respect of its tax liability in India. As the provisions of the India -Mauritius DTAA are more beneficial, the provisions of that DTAA would be applicable, as specifically provided for in Section 90(2) of the IT Act. Further, during the period the Applicant held shares in the Indian Company, it did not have any Permanent Establishment ('PE') in India as defined in Article 5 of the India -Mauritius DTAA.
1.4 Upon sale of the said shares in the Indian Company, the Applicant had approached the Assistant Director of Income -tax, Mumbai to obtain the "nil" rate withholding tax certificate under Section 197 of the IT Act. The ADIT denied the request and determined that the capital gains tax of 21.11% would be applied to the total sale consideration of the shares without deduction for the cost of acquisition. Being aggrieved by it, the Applicant approached the Bombay High Court by way of a Writ Petition. The High Court, without going into the merits, directed the Applicant to approach the Director of Income -tax (International Taxation)("DIT") for a revision of the Certificate under Section 264 of the IT Act and also directed HSBC Violet Investment (Mauritius) Ltd. to deposit an amount of Rupees Twenty Four crores & fifty lakhs with the Court until the disposal of the revision petition by the DIT. On 1st January 2009, the DIT disposed of the revision petition. He concurred with the view of the ADIT that the transaction prima facie gave rise to a chargeable capital gains and upheld the denial of nil rate withholding Certificate. He computed the capital gains tax liability of Rs. 24,31,05,710/ -. The summary proceedings regarding issuance of tax deduction Certificate thus ended with the issuance of the order of DIT.
1.5 The Applicant has now approached this Authority to determine whether by virtue of being a Mauritius resident, it is eligible to the benefits of the India -Mauritius DTAA and hence not subject to tax in India on the capital gains realized.
(2.) THE applicant has formulated the following questions for seeking advance ruling:
(i) Whether on the stated facts and in law, the Applicant, a tax resident of Mauritius, is exempt from payment of capital gains tax in India under the Double Taxation Avoidance Agreement (or "DTAA") between India and Mauritius ("India -Mauritius DTAA") in respect of the transfer of 30,625,692 shares in IL & FS Investmart Ltd. an Indian Company to HSBC Violet Investments (Mauritius) Limited?
(ii) If the answer to question (i) is in negative, whether on stated facts and in law, the Applicant will be liable to pay tax on long term capital gains at 10% under the proviso to Section 112(1) of the Income -tax Act, 1961 ("IT Act")?
The contentious issue that arises for consideration is whether the profit arising from the transfer of shares of Indian company is chargeable to Capital Gains tax under the I.T. Act. The answer is plain. If we go by the I.T. Act, the profits arising from the transfer of share are liable to be taxed under the head Capital Gains at the appropriate rate. However, the position of taxability of Capital Gains is otherwise under the provisions of DTAA (Tax Treaty between India & Mauritius). To be more specific, Article 13, Paragraph 4 of the DTAA confers the power of taxation of the gains derived by a resident of a contracting State from the alienation of specified property only in the State of residence i.e. in Mauritius. The fact that the capital asset is located in India is immaterial. In most of the Treaties, we find that the situs or location of the capital asset determines the competence of the State to tax the capital gain. Yet, there is no doubt that the tax payer is entitled in law to seek the benefit under the DTAA if the provision therein is more advantageous than the corresponding provision in the domestic law. This well settled principle has been re -stated by the Supreme Court in the case of Union of India v. Azadi Bachao Andolan : (2003) 263 ITR 706(SC) - a case which will be referred to hereinafter extensively. For the proposition which we have just now stated, the following passage in the said decision would suffice:
A survey of the aforesaid cases makes it clear that the judicial consensus in India has been that Section 90 is specifically intended to enable and empower the Central Government to issue a notification for implementation of the terms of a double taxation avoidance agreement. When that happens, the provisions of such an agreement, with respect of cases to which where they apply, would operate even if inconsistent with the provisions of the Income -tax Act. We approve of the reasoning in the decisions which we have noticed. If it was not the intention of the Legislature to make a departure from the general principle of chargeability to tax under Section 4 and the general principle of ascertainment of total income under Section 5 of the Act, then there was no purpose in making those sections "subject to the provisions" of the Act. The very object of grafting the said two sections with the said clause is to enable the Central Government to issue a notification under Section 90 towards implementation of the terms of the DTAs which would automatically override the provisions of the Income -tax Act in the matter of ascertainment of chargeability to income -tax and ascertainment of total income, to the extent of inconsistency with the terms of the DTAC.
3.1 The contention of the respondents which weighed with the High Court, viz., that the impugned Circular No. 789 (see,  243 ITR (St.)57) is inconsistent with the provisions of the Act, is a total non sequitur. As we have pointed out, Circular No. 789 is a circular within the meaning of Section 90; therefore, it must have the legal consequences contemplated by Sub -section (2) of Section 90. In other words, the circular shall prevail even if inconsistent with the provisions of the Income -tax Act, 1961, in so far as assessees covered by the provisions of the DTAC are concerned."
(3.) NOW , let us see the relevant provision in the DTAA i.e. Article 13:
Article 13 - Capital gains:
1. Gains from the alienation of immovable property, as defined in paragraph (2) of article 6, may be taxed in the Contracting State in which such property is situated
2. Gains from the alienation of movable property forming part of the business property of a permanent establishment which an enterprise of a Contracting State has in the other Contracting State or of movable property pertaining to a fixed base available to a resident of a Contracting State in the other Contracting State for the purpose of performing independent personal services, including such gains from the alienation of such a permanent establishment (alone or together with the whole enterprise) or of such a fixed base, may be taxed in that other State.
3. Notwithstanding the provisions of paragraph (2) of this article, gains from the alienation of ships and aircraft operated in international traffic and movable property pertaining to the operation of such ships and aircraft, shall be taxable only in the Contracting State in which the place of effective management of the enterprise is situated.
4. Gains derived by a resident of a Contract State from the alienation of any property other than those mentioned in paragraphs (1), (2) and (3) of this article shall be taxable only in that State.
4.1 Obviously and undisputedly, Paragraph 4 of Article 13 governs because the property alienated - being shares in the company, does not fall under any of the preceding three paras. The applicant seeks to fortify its claim for non -liability to pay Indian income -tax on the strength of the Tax Residency Certificate issued by the Mauritius Revenue Authority.
4.2 Thus far, there is no problem. The controversy has arisen on account of the stand taken by the Revenue. The stand of the Revenue is that there is scope and sufficient reason to infer that the capital gain from the transaction arises in the hands of the US entity which holds the applicant company. In other words, the beneficial ownership vests with the US company which according to the department has played a crucial role in the entire transaction. Though the legal ownership ostensibly resides with the applicant, the real and beneficial owner of the capital gains is the US Company which controls the applicant and the applicant company is merely a faÃ§ade made use of by the US holding Company to avoid capital gains tax in India. It is pointed out that in the order passed under Section 264 of the IT Act, the DIT has taken a prima facie view that the capital gains is taxable in the hands of the US entity. Certain aspects were pointed out to conclude that there was sufficient justification to make further enquiries to arrive at the finding as who is really the beneficial owner of the gains. Though certain details have been ascertained from the applicant, still some more enquiries are necessary to unravel the correct facts as regards the source of funds, treatment of share holdings, the manner of accounting and the role played by the US Company in the deal. It is, therefore, inappropriate at this stage to give a ruling on the questions raised by the applicant, according to the Revenue's counsel. It has been clarified in the course of arguments that the Department has not come to a definite conclusion, but such a conclusion could only be reached after fuller investigation. It is pointed out that if the Department comes to the conclusion that the beneficiary and real owner of the capital gains arising from the transfer of shares is the US holding Company, the Indo -USA Tax Treaty governs in which case the tax liability under the I.T. Act will be fastened on the US Company. The relevant Article in India USA Treaty is as follows:
Article 13 - Gains: "Except as Provided in Article 8 ..., each Contracting State may tax capital gains in accordance with the provisions of its domestic law.
4.3 In reply to the stand taken by the department the learned Senior counsel for the applicant contended that beneficial ownership is really irrelevant in the context of Article 13. In contrast, such expression is used in Articles 10 & 11. In any case, it is submitted that the applicant has already furnished the information required by the Revenue at the stage of Section 264 Proceedings and filed before the AAR all the relevant material and clarifications to dispel the doubts entertained by Revenue. In fact, the enquiry is a futile and wholly unnecessary exercise in view of the clear Circular of CBDT which is binding on the Department and the law clarified by the Supreme Court in Azadi Bachao Andolan case. 4.4 Thus, strong reliance has been placed on behalf of the applicant on the two Circulars issued by the Central Board of Direct Taxes (CBDT) and the decision of the Supreme Court in Azadi Bachao Andolan case Supra. First we shall refer to those Circulars.
dated 30th March, 1994:
Subject: Agreement for avoidance of double taxation with Mauritius - Clarification regarding.
A Convention for the avoidance of double taxation and prevention of fiscal evasion with respect to taxes of income and capital gains was entered into between the Government of India and the Government of Mauritius and was notified on 6th December, 1983. In respect of India, the Convention applies from the assessment year 1983 -84 and onwards
2. Article 13 of the Convention deals with taxation of capital gains and it has five paragraphs. The first paragraph gives the right of taxation of capital gains on the alienation of immovable property to the country in which the property is situated. The second and third paragraphs deal with right of taxation of capital gains on the alienation of movable property linked with business or profession enterprises and ships and aircrafts.
3. Paragraph 4 deals with taxation of capital gains arising from the alienation of any property other than those mentioned in the preceding paragraphs and gives the right of taxation of capital gains only to that State of which the person deriving the capital gains is a resident. In terms of paragraph 4, capital gains derived by a resident of Mauritius by alienation of shares of companies shall be taxable only in Mauritius according to Mauritius tax law. Therefore, any resident of Mauritius deriving income from alienation of shares of Indian companies will be liable to capital gains tax only in Mauritius as per Mauritius tax law and will not have any capital gains tax liability in India.
4. Paragraph 5, defines "alienation" to mean the sale, exchange transfer or relinquishment of the property or the extinguishment of any right in it or its compulsory acquisition under any law in force in India or in Mauritius.
(Sd.) Secretary, Central Board of Direct Taxes"
4.5 , dated 13th April, 2000
Subject : Clarification regarding taxation of income from dividends and capital gains under the Indo -Mauritius Double Tax Avoidance Convention (DTAC) - Regarding
The provisions of the Indo -Mauritius DTAC of 1983 apply to "residents" of both India and Mauritius. Article 4 of the DTAC defines a resident of one State to mean "any person who, under the laws of that State is liable to taxation therein by reason of his domicile, residence, place of management or any other criterion of a similar nature." Foreign institutional investors and other investment funds, etc., which are operating from Mauritius are invariably incorporated in that country. These entities are "liable to tax" under the Mauritius Tax Law and are, therefore, to be considered as residents of Mauritius in accordance with the DTAC.
2. Prior to 1st June, 1997, dividends distributed by domestic companies were taxable in the hands of the shareholder and tax was deductible at source under the Income -tax Act, 1961. Under the DTAC, tax was deductible at source on the gross dividend paid out at the rate of 5% or 15% depending upon the extent of shareholding of the Mauritius resident. Under the Income -tax Act, 1961, tax was deductible at source at the rates specified under Section 115A, etc. Doubts have been raised regarding the taxation of dividends in the hands of investors from Mauritius. It is hereby clarified that wherever a certificate of residence is issued by the Mauritian authorities, such certificate will constitute sufficient evidence for accepting the status of residence as well as beneficial ownership for applying the DTAC accordingly.
3. The test of residence mentioned above would also apply in respect of income from capital gains on sale of shares. Accordingly, FIIs, etc. which are resident in Mauritius should not be taxable in India on income from capital gains arising in India on sale of shares as per paragraph 4 of Article 13.
4. The aforesaid clarification shall apply to all proceedings which are pending at various levels.;