Syed Shah Mohammed Quadri, J. (Chairman) -
(1.) IN this batch of forty cases, thirty applications are filed by Fidelity Group of USA, nine by the Fidelity Group of Canada and one by the Matthews INdia Fund. All these applications are filed under Section 245Q(1) of the INcome-tax Act, 1961 (for short 'the Act') to seek advance rulings of the Authority on the questions mentioned therein. INasmuch as the germane questions in all the applications are common, we propose to decide them together. The applicants have taken up application No. AAR/694 of 2006 filed by Fidelity Hastings Street Trust (from USA group) as representative of facts in all other cases. The applicant in AAR/694 of 2006 (for short 'the applicant') is a scheme of investment fund organized as a Massachusetts Business Trust under the laws of Commonwealth of Massachusetts (USA). It is set up to provide investors a continuous source of managed investments in securities. It is registered under the INvestment Company Act 1940 of USA and is treated as a Corporation for purposes of taxation in USA. The beneficial interest in the funds is divided into transferable shares of one or more separate and distinct series. The applicant is being managed by a Board of Trustees, which has the authority and discretion in regard to investment/re-investment of its fund and the power to declare and pay dividends. It makes investment in different parts of the world including INdia. It is registered with the Securities Exchange Board of INdia (SEBI) as a sub-account of Fidelity Management and Research Company (FMR). Under the Foreign INstitutional INvestors regime the applicant invests in shares in INdian companies. To comply with the SEBI regulations the applicant appointed Brown Brothers and Harrimon Company as its global custodian who in turn appointed Citibank NA, Mumbai as its correspondent to act as domestic custodian for the applicant. Both the global custodian and the domestic custodian are acting in the ordinary course of their business and are performing similar custodial services for many other FIIs. The applicant is regulated by the laws in force in the commonwealth of Massachusetts USA and by the Securities Exchange Commission. The investment manager of the applicant, FMR, is located outside INdia and it has no presence in INdia. The applicant does not have any branch office or place of business in INdia. It purchases and sells shares/securities in INdia through brokers and the securities are held by the domestic custodian on behalf of the applicant. It is mentioned that the name of the applicant has undergone change and the changed name is Fidelity Hastings Street Trust Fidelity Discovery Fund w.e.f. August 23rd, 2003, which has been acknowledged and approved by the SEBI. On these facts the applicant seeks advance ruling of the Authority on the following questions:
1. Whether on the facts and in the circumstances of the case, the profits arising to Fidelity Hastings Street Trust: Fidelity Discovery Fund (hereinafter referred to as the 'Applicant') from the sale of portfolio investments in INdia will be treated as business income of the Applicant?
(2.) Whether on the facts and in the circumstances of the case, the Applicant can be regarded as having a Permanent Establishment ('PE') in India in accordance with Article 5 of the Agreement for Avoidance of Double Taxation and Prevention of Fiscal Evasion with Respect to Taxes on Income entered into between the Government of the Republic of India and the Government of the United States of America (hereinafter referred to as the 'Treaty')?
Whether on the facts and in the circumstances of the case, if the income is found to be in the nature of business income, in the absence of a PE in India and in light of the provisions of Article 7 read with Article 5 of the Treaty, such business income of the Applicant will be taxable in India?
(3.) WHETHER on the facts and in the circumstances of the case, if it is found that the Applicant has a permanent establishment in India under the Treaty and if the income is found to be in the nature of business income, the business income of the Applicant in India from the sale of portfolio investments will be taxable in India at the rate of 20% in light of Section 115AD of the Income Tax Act, 1961 (hereinafter referred to as the "ITA")?
2. In the comments of the Commissioner it is not disputed that the applicant is a trust registered under the provisions of the Investment Company Act 1940 of USA; that it is set up to provide investors a continuous income from managed investment in securities and it principally invests in equity shares. The applicant, it is stated, makes investment in India under the FII regime and for this purpose it is registered with SEBI as a sub-account of FMR which was registered as a FII under the SEBI regulations. In compliance with the regulations, the applicant appointed J.P. Morgan Chase Bank (JPMCB) which in turn appointed Hongkong & Shanghai Banking Corporation (HSBC) as domestic custodian of the applicant.
The Commissioner raised a preliminary objection with regard to the jurisdiction of the Authority to pronounce ruling on the questions formulated by the applicant. Referring to the definition of 'advance ruling' in Section 245N of the Act, it is urged that the Authority can make determination in relation to a transaction which has been undertaken or is proposed to be undertaken by a non-resident applicant but in this case the applicant seeks advance ruling with regard to series of transactions, therefore the Authority has no jurisdiction to pronounce rulings sought for. Without prejudice to the preliminary objection it is submitted that the applicant is a trust and derives its status as a sub-account of the FII and is treated as separate taxable entity from the FII. The applicant is a non-resident under Section 6 of the Act. All the income that accrues or arises or received or deemed to accrue or arise or received by the applicant in India shall be taxable in India as provided in Section 5 of the Act. As sales and purchases of securities by the applicant take place in India, the income from such transactions in securities accrues, arises or is received in India. Alternatively the income shall be deemed to accrue or arise in India in view of provisions of Section 9(1)(i) of the Act. It is submitted that for the purpose of characterization of income the following are the relevant factors: (1) the provision of FII scheme under which the applicant has been allowed to operate in India; (ii) special provisions of the Act; and (3) nature of transactions and operating processes of the applicant. To attract investment from abroad guidelines were issued by the Government of India vide Press Note dated 14th September, 1992 for the benefit of FIIs, which were subsequently modified. Clause (f) of para 2 of the SEBI regulations, which defines FII, says that an institution is registered as FII only when it proposes to make investment in India. Regulation 18 imposes an obligation to maintain books of account and records. The said regulations show that FII shall make investment to realize only capital gains on transfer of securities. Even the old regulations postulate repatriation of only capital gains, dividends and interest income. There is no provision which entitles the applicant to repatriate the business profits out of India. The very concept of the investment implies purchasing capital assets which yield income. Under the scheme a special provision, Section 115AD, was inserted in the Act by the Finance Act 1993 which speaks of taxability of income of FII in respect of securities or by way of long term capital gain or short term capital gain arising on transfer of securities and provides that no deduction under Sections 28 to 44C and 57 of the Act would be allowed. Had the intention of the Parliament been to allow a FII to trade in securities the business income would have been allowed to be computed under Section 28 to 44C of the Act. Further, any income payable to a non-resident is subject to deduction of tax at source but Section 196D of the Act, a special provision meant for FIIs, provides that in the case of a FII income tax has to be deducted at source in respect of income from securities but not from capital gains in regard to which a FII has to specify an agent for the purpose of Section 163 of the Act to obviate the need for deduction of tax at source from the capital gains.
It is noted that non-resident entities from jurisdictions where capital gains are exempted from taxation, are claiming the yield from transactions of sales and purchases of securities on Indian stock market as capital gains while in respect of identical transactions some others treat the income arising therefrom as business profits. The intention of the scheme as disclosed in inviting FIIs for investment in India by the press note and making consequential changes in the Act, is that regardless of volume or frequency of transactions the investments in securities by such FIIs, shall be as capital investments giving rise to capital gains. This is also reflected to in the ruling of the Authority in University Superannuation Scheme Ltd.1 With regard to the rulings of the Authority in M/s Morgan Stanley & Co International Ltd2, M/s Fidelity Advisor Series VIII, USA3 and XYZ/ABC Equity Fund4, it is pointed out that in those cases full facts and legal issues involved were not brought to the notice of the Authority.
It is submitted, the claim of the applicant that it is trading in securities and that the transactions do not give rise to capital gains, is not supported by following documents:
(i) Annexure-II of the application; (ii)Trust deed Article (V) of Section 1; (iii)SEBI s letter dated 21.12.2005.
On the contrary they show that the activities of the applicant were in the nature of investments in capital assets for earning capital gains. From various transactions in securities in India by the applicant it is seen that the applicant is in the habit of keeping its holding in various Indian companies from a few months to a few years which clearly indicates that the motive and intention of the applicant is to earn return in the form of capital gains rather than earning business profits. In the case of trading, the securities which are subject matter of purchases and sales would be termed stocks-in-trade and not investments. The intention of the FII, as is evident from the circumstance at the time of purchases of securities, is a relevant factor and often a conclusive factor in determining whether a transaction is in the nature of trade or in the nature of investment. A Fund Manager who is located outside India, is appointed for the purpose of managing applicant s fund in India and he takes decision to acquire and sell securities in India, instructs broker in India for transactions in securities as also the custodian regarding payments and delivery of securities. The domestic custodian keeps stocks of securities, receives and delivers the securities and maintains bank account of the FII. Both of them receive their fees and commission. The activities of the Fund Manager and the Custodian are not akin to the activities of business venture but are in the nature of investment and management of properties. In view of the objectives of the trust, special status of the applicant as a FII, the SEBI guidelines under which it is allowed to operate and the special provision of the Income-tax Act, it can be inferred that the applicant has been engaged in investment activities and not in trading activities. Therefore the income from those securities by way of interest and dividends will be taxable under the head income from other sources and profits from the transfer of such securities are taxable as capital gains.
It is, further, pleaded that having regard to articles 1 & 4(b) of Indo-US treaty (for short 'the treaty') the applicant, being a trust, has placed no material to show that it is subject to tax in USA and therefore it cannot be treated as tax resident of USA so as to derive the benefit of the treaty. Even if it is entitled to the benefit of the treaty capital gains arising from transfer of securities are taxable in India. In regard to the permanent establishment (PE), it is submitted that paras 2 & 3 of article 5 of the treaty the custodian/NSDL or CSDL and the office of the stock broker may together as also individually constitute sales outlet since selling of goods to outsider is involved and the whole transaction of sale (contract, delivery and payment) takes place in India. Even the US Treasury technical explanation also states that regular delivery of goods may constitute a PE. Stock and shares are within the meaning of goods, therefore, the applicant has a PE within the meaning of article 5(2)(b) of the Treaty. It is added that M/s Hongkong & Shanghai Banking Corporation, Mumbai would constitute a PE of the applicant in India under article 5(4) of the Treaty.
3. The applicant filed a rejoinder to the comments of the Commissioner reiterating and elaborating the pleas and contentions raised in the application. We shall advert to those aspects while discussing the respective contentions of the parties.
4. Mr. T.N. Chopra, learned Counsel appearing for the Commissioner, has put forth a preliminary objection as to the jurisdiction of the Authority to entertain these applications. The premise on which this objection proceeds is that Section 245N of the Act defines 'advance ruling' as determination by the Authority in relation to a transaction which has been undertaken or is proposed to be undertaken by a non-resident applicant so also in relation to the tax liability of a non-resident in relation to a transaction , but in each of these applications a series of transactions are involved, therefore, the Authority has no jurisdiction to pronounce ruling in regard to series of transactions. Mr. Nishith Desai , learned Counsel appearing for the applicant, has argued that as per Section 13 of the General Clauses Act 1897 in all Central Acts and Regulations, words in the singular shall include the plural and vice-versa. We may observe that on the face of it the preliminary objection raised by the Commissioner lacks not only merit but also rationality. After some reluctance Mr. Chopra has given up this objection, we, therefore, do not propose to deal with this aspect any further except to mention that Section 13 of the General Clauses Act 1897 is a complete answer to the objection raised by the Commissioner.;