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CA. N. C. Hegde
Proposals Relating to Indirect Transfers
Foreign investors often structure investments
in a manner by which an investor creates a
holding company in a favourable (no or low
tax) jurisdiction with the holding company
having a subsidiary or joint venture
company in India. Based on subsequent
opportunities/developments there may
arise a situation when the investor wants to
exit from a particular investment in India.
In such a situation the foreign investor has
two options i.e. either to sell his stake in
the Indian company to another investor,
or to sell his stake in a holding company
to the new investor. In the first case, the
transaction involves transfer of shares of the
Indian company or a direct transfer. In the
second case, the transaction occurs outside
India among foreign entities. It is this latter
case that is referred to as indirect transfer.
Taxation of indirect transfers
The Supreme Court had held in the case of
Vodafone ( 341 ITR 1) that indirect transfers
could not be taxed in India as under the
Indian Companies Act, 1956, the situs of
the shares would be where the company
is incorporated and where its shares can
be transferred.. The contention that situs
of the shares of an overseas company was
situated in the place (India) where the
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underlying assets stood situated, could not
be accepted
To get over the above observation and to
shift the situs in case of an indirect transfer,
the meaning of the expression “asset or
capital asset situated in India” in clause (i) of
sub-section (1) of section 9 was amended by
inserting an Explanation as under:
‘Explanation 5.— For the removal of doubts,
it is hereby clarified that an asset or a
capital asset being any share or interest in a
company or entity registered or incorporated
outside India shall be deemed to be and shall
always be deemed to have been situated
in India, if the share or interest derives,
directly or indirectly, its value substantially
from the assets located in India.’ (emphasis
added)
Thus, shares of a foreign company (holding
company), which holds substantial assets
in India, shall be deemed to be situated in
India and consequently, any transfer of such
shares, even outside India, shall be taxable in
India under the domestic law.
However, the terms “share or interest in a
company or entity”, “directly or indirectly”,
“value” and “substantially” were not
been defined and therefore this had led to
ambiguity.
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| SPECIAL STORY | Finance Bill, 2015 |
Shome Committee recommendations
partly accepted
As a result of the amendments made by the
Finance Act, 2012 as discussed earlier, there
was a huge concern raised by taxpayers and
foreign investors. With a view to allay the
concerns of all stakeholders, the Government
appointed a committee headed by Dr. Shome
to look into the entire taxation of indirect
transfers. Some of the key recommendations
of the Committee have now been accepted
and Explanations 6 and 7 to section 9(1)
(i) are sought to be inserted by the Finance
Bill, 2015 to provide the necessary relief/
clarification.
Term “substantially” explained
Explanation 6 provides that the term
“substantially” will mean situations
where the value of assets located in
India on a specified date exceeds INR
10 crore and represents at least 50%
of the value (i.e. fair market value)
of assets owned by the foreign entity.
It also goes on to define the value
of an asset as being the fair market
value of such asset without reduction
of liabilities, if any, in respect of the
asset. Further the specified date of
valuation of the assets shall be the
date on which the accounting period
of the company or entity, as the case
may be, ends preceding the date of
transfer. However, if the book value
of the assets of the company on the
date of transfer exceeds the book value
of the assets by 15% as on the last
balance sheet date preceding the date
of transfer, then instead of the date
of the ending of the last balance sheet
date, the date of transfer shall be the
specified date of valuation.
The new limit specified is in line with
the view of the Delhi High Court
in the case of Copal Research (226
SS-VI-37
Taxmann 226) where the Court held
that the term “substantially” occurring
in Explanation 5 would necessarily
have to be read as synonymous to
"principally", "mainly" or at least
"majority". The Delhi High Court
observed that Explanation 5 having
been stated to be clarificatory must be
read restrictively and at best to cover
situations where in substance the assets
in India are transacted by transacting
in shares of overseas holding
companies and not to transactions
where assets situated overseas are
transacted which also derive some
value on account of assets situated in
India.
Relief for specified transfers,
business restructuring and some
clarifications
With a view to provide exemption to small
share holders, exemption is sought to be
provided to the transferor of a share of, or
interest in, a foreign entity if he along with
its associated enterprises, neither holds the
right of control or management, nor holds
voting power or share capital or interest
exceeding five per cent of the total voting
power or total share capital, in the foreign
company or entity directly holding the
Indian assets (direct holding company). Even
in case the transfer is of shares or interest
in a foreign entity which is an indirect
holding company, a similar exemption is
provided.
The manner of determination of fair market
value of the Indian assets vis-a-vis global
assets of the foreign company shall be
prescribed in the rules. It is further provided
that the taxation of gains arising on transfer
of a share or interest deriving, directly or
indirectly, its value substantially from assets
located in India will be on proportional
basis. The method for determination of
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proportionality are proposed to be provided
in the rules.
An exemption is now provided for any
transfer, subject to certain conditions, in
a scheme of amalgamation, of a capital
asset, being a share of a foreign company
which derives, directly or indirectly, its
value substantially from the share or
shares of an Indian company, held by the
amalgamating foreign company to the
amalgamated foreign company. Similarly
exemption is also provided in respect of any
transfer, subject to certain conditions, in a
demerger, of a capital asset, being a share of
a foreign company which derives, directly
or indirectly, its value substantially from the
share or shares of an Indian company, held
by the demerged foreign company to the
resulting foreign company.
Reporting obligation
With a view to track indirect transfers,
a reporting obligation has been imposed
on Indian concern through or in which
the Indian assets are held by the foreign
company or the entity. The Indian entity
shall be obligated to furnish information
relating to the off shore transaction having
the effect of directly or indirectly modifying
the ownership structure or control of the
Indian company or entity. In case of any
failure on the part of Indian concern in
this regard a penalty shall be levied.. The
proposed penalty shall be- a sum equal to
two per cent of the value of the transaction
in respect of which such failure has taken
place in case where such transaction had the
effect of directly or indirectly transferring
the right of management or control in
relation to the Indian concern; and a sum of
five hundred thousand rupees in any other
case.
CBDT Circular on some aspects of
indirect transfers causing difficulty
expected.
Additionally, the Finance Minister has also
clarified in his speech that the CBDT would
issue a necessary circular to ensure that the
provisions relating to indirect transfers do
not lead to dividends being paid by foreign
companies taxed in India.
To summarise, while some of the
recommendations of the Shome Committee
have been accepted and the rigour of the
indirect transfer provisions a little diluted,
exemptions for intra group structuring
and making the provisions prospective
which were key recommendations have not
yet found their way in the statute book.
That is probably a battle that the taxpayer
will have to fight out in the Courts by
challenging the vires of the retrospective
amendment.
“The will is not free - it is a phenomenon bound by cause and effect – but
there is something behind the will which is free.”
The whole universe is one. There is only one Self in the universe, only
One Existence.
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| The Chamber's Journal | 0DUFK |
669,