ROYAL BANK OF CANADA Vs. DIT
AUTHORITY FOR ADVANCE RULINGS
Royal Bank of Canada
DIT (International Taxation)
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P.V. Reddi, J. (Chairman) -
(1.) THE applicant has raised the following three questions in this application for advance ruling under Section 245Q(1) of IT Act, 1961:
1. Whether the profits/losses from futures and options contracts (derivative transactions) carried out on the Indian Stock exchanges are in the nature of "Business income" in the hands of the applicant under the provisions of the Act read with the Agreement for Avoidance of Double Taxation between India and Canada (Treaty)?
(2.) WHETHER profits/losses from transactions relating to purchase and sale of equity shares or other tradable securities on the Indian stock exchanges are in the nature of "Business Income" in the hands of the applicant under the provisions of the Act read with the Treaty? Since the applicant does not have a permanent establishment (PE) in India as per Article 5 of the Treaty, whether "Business income" of the applicant (referred to in the question 1 and 2 above) will not be taxable in India under Article 7(1) of the treaty?
2. Thus, two types of transactions are referred to in the application: The first category is profits earned/losses incurred from transactions in future contracts and option contracts traded on the stock exchanges. The second category is a proposed transaction, viz., the purchase and sale of shares and futures that are carried on as a part of an "index arbitrage activity".
3. The applicant is a public company incorporated under the Bank Act of Canada and is engaged in the business of banking and other financial services. It also trades in securities (including derivatives) in various parts of the world including India. In India, the applicant is registered as Foreign Institutional Investor (FII) with the Securities and Exchange Board of India ((SEBI) since March 2008 and is mainly dealing in the derivatives segment of the Indian Stock Exchanges, where stock/index futures and stock/index options are traded. To undertake derivative transactions the applicant has appointed Citi Bank, Mumbai as settlement agent and domestic custodian and transactions are executed on -line through the brokers registered with Stock Exchanges in India. The applicant also proposes to undertake purchases and sales of equity shares and other securities in the near future on the stock exchanges in India. It is stated that such purchase and sale of shares/securities on the Stock Exchanges would be carried out as a part of 'index arbitrage trading strategy' and would be for the purposes of earning trading profits. It is claimed that the primary purpose of such activity would not be to purchase and hold shares/securities for the purpose of earning any dividend income, though some incidental dividend may arise. The index arbitrage trading is explained as involving simultaneous purchase (or sale) of equities and sale (or purchase) of index futures. Such activity seeks to capitalize on the difference (or spread) between equities and index future prices. It is stated that the books of accounts of the applicant are maintained in accordance with Canadian GAPP. Profits or loss arising to the applicant from dealing in futures and options and proposed dealing in shares/securities would be reflected as business profits in the financial statements and taxed accordingly in Canada. The applicant states that it has a representative office in India which is engaged in "preparatory and auxiliary activities relating to the core banking business". It is stated that the representative office does not play any role in the activities relating to derivative transactions and will also not play any role in relation to the proposed dealings in equity shares and other securities to be carried out in future.
3.1 It is explained in the application that 'Derivatives' are financial contracts which derive their value from the price of underlying instruments such as equity shares, treasury bills, commodities, foreign exchange etc. There are two types of exchange traded derivatives - futures and options. In a futures contract, parties agree to undertake to trade (buy or sell) securities at a stated price and quantity by using standardized contracts on a stock exchange. At the time of entering into contract, no money changes hand. The Exchange may however insist on some margin money to be retained by the brokers of contracting parties. These contracts can be squared up anytime before the expiry date and it is at the time of squaring up the sum equal to profit (or loss) is received (or paid) through Stock Exchange. Mostly, the applicant has been trading in futures. 'Options', on the other hand, are contracts which give the right but not obligation to buy or sell the underlying assets at a stated date and at a stated price. A buyer of the option pays premium to buy the right to exercise his option. The seller (writer) of the option is the one who receives the option premium and is therefore obliged to sell or buy the asset if the buyer exercises his option.
3.2 As per the answers to Frequently Asked Questions (FAQ) given by NSE of India, Futures & Options Contract have a maximum trading cycle of 3 months.
(3.) THE applicant submits that the derivative transactions undertaken by it are part of its trading activity. The object in purchasing derivative is to resell the same at appropriate time and earn income. Sometimes, the applicant sells derivatives first and then purchases them. Further, the number and the amount relating to these transactions are substantial and carried out at regular frequency. The applicant is stated to have undertaken more than 1000 derivative transactions during the financial year 2008 -09. It is on the basis of these facts, the applicants claims that the profits earned/or loss suffered by it from derivative transactions should be characterized as business profits or loss.
4.1 On the question of proposed activity of sale and purchase of shares/securities as part of index arbitrage trading activity, the applicant states that it would also be for the purpose of earning trading profits. It is claimed that shares/securities will not be held on long term basis. The applicant also expects to have trade volume of several hundred transactions per year with share volume in hundreds of thousands of shares having approximate value between 5 to 20 billion rupees. It is claimed that the income earned by the applicant by buying and selling of equity shares/securities from Indian Stock Exchanges would be in the nature of business income.
4.2 The applicant submits that it has no fixed place of business in India through which its business is fully or partly carried on. It does not have any branch or office in India. The representative's office of the applicant in India does not play any role in carrying out the transactions in derivatives etc. It is therefore submitted that the applicant has no permanent establishment (PE) in India and hence its business income from trading in derivatives, shares and other securities on Indian Stock Exchanges is not taxable in India in terms of the Article 7 of the DTAA Double Taxation Avoidance Agreement between India and Canada (Tax Treaty).;
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