Revenue Authorities cannot go beyond the TRC to determine the residential status unless there exist a proof of fraud or illegal activities- High Court

Facts of the Case:

  • Bid Services Division Mauritius Limited (the Assessee) was a non-resident company incorporated under the laws of Republic of Mauritius having a valid TRC issued by the Mauritian Authorities. The ultimate parent entity of the Assessee was Bid Services Division Proprietary Limited (Bidvest) incorporated in South Africa.
  • The Assessee was a part of consortium that filed the expression of interest and successfully obtained the bid for operation, management and development of the Mumbai airport. The Assessee held a 27% share in the joint venture established to carry out the project. Out of such 27% shareholding, the Assessee sold 13.5% shares to other party of the consortium in Finance Year 2011-12. For carrying out such transaction, the Assessee applied and successfully obtained a Nil withholding certificate under Section 197 of the Income Tax Act, 1961 (“the Act”).
  • After the transaction was complete, the Assessee filed an application under Section 245Q of the Act for obtaining an advance ruling in order to determine the correctness of its belief that the capital gains arising from the transfer of shares will not be subject to tax in India as per India-Mauritius Double Taxation Avoidance Agreement (DTAA).
  • The Authority for Advance Ruling (AAR) passed the ruling against the Assessee wherein the benefit of the capital gains tax exemption under the DTAA was denied on the premise that the dominant purpose of interposing the Assessee in the joint venture was to avoid taxes. The AAR further stated that the Assessee was only a shell company not having any tangible assets, employees, office space, etc. and was incorporated only two weeks before the bidding process.
  • Accordingly, since the entire set up was a clear design to avoid paying legitimate tax to the Indian Government, therefore, the transaction should be seen after lifting the corporate veil. Where the Assessee was not interposed, the ultimate parent entity of the Assessee would have to pay capital gains tax in India on the sale of shares of the joint venture.
  • Aggrieved from the verdict passed by the AAR, the Assessee preferred a writ petition before the High Court of Bombay, wherein the Assessee placed reliance on Circular No.789 dated 13th April 2000 issued by the CBDT which clarifies that companies which are resident in Mauritius would not be taxable in India on income from capital gains arising in India on the sale of shares as per Article 13(4) of the India-Mauritius DTAA. The said circular also clarifies that wherever a TRC 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 beneficial provisions of the DTAA.
  • The Assessee also submitted that the provisions of Article 27A of the DTAA which deals with Limitation of Benefit (LOB) was inserted with effect from 1st July 2017 whereas the sale transaction pertains to the Financial Year 2011-12. Further, the Press Release dated 29th August 2016 stated that the investments made before 01st April 2017 are grandfathered and accordingly not to be subject to capital gains taxation in India.

Observation And Conclusion:

Hon’ble High Court held that:

  • The decisions of the Apex Court in the case of Vodafone International Holding B.V. v. Union of India & Union of India & Anr. v. Azadi Bachao Andolan and Anr have clearly upheld the legitimacy of the Tax Residency Certificate (TRC) in the absence of any fraud or illegal activities. The Assessee holds a valid TRC which is sufficient proof of its residence in Mauritius and cannot be enquired into, unless there is a fraud or illegal activity, which in this case, has neither been alleged nor demonstrated.
  • The contention of the revenue that the Assessee is a shell company without any tangible assets, employees, office space, etc., incorporated only two weeks before bidding and not having any economic or commercial rationale would not be relevant since the concept of LOB would become applicable to investments with effect from 1st April 2017 only. And, in the given case of the Assessee, the investment as well as divestment of shares occurred prior to 1st April 2017. Therefore, such provisions cannot be applied in the case of Assessee.
  • Due to the aforementioned reasons, the Hon’ble High Court of Bombay set aside the ruling passed by the AAR and remanded back the matter for fresh consideration taking into account the above-mentioned discussion.

SW Point of View:

Before insertion of LOB clause in the DTAA, the revenue authorities cannot go beyond the TRC furnished by the taxpayer to determine whether the taxpayer is actually a tax resident of the contracting state or not.

The revenue authorities can pierce the corporate veil only in cases where there exists a proof of fraud or illegal activities.

Lakshay Prakash Jonwal, Direct Tax Associate, SW India

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