2010 (2) TMI 119 - AAR - Income Tax

Tax on dividend received from wholly owned subsidiary companies Sale / purchase / buyback transactions DTAA with Netherlands - The applicant is a company incorporated in the Netherlands - PG India is a private limited company (Pierburg India) incorporated in India - The applicant expects to receive income in the form of dividends declared and distributed by PG India. - The applicant may also realize capital gains through a sale of portion or all of its shares in PG India to another non-resident company. - PG India may also consider a buy-back of its shares by the applicant. Consequent to the buy back PG India would continue to be the wholly owned subsidiary of the applicant. Held that - in respect of dividends received by the applicant from its wholly owned subsidiary Pierburg India Pvt. Ltd. By virtue of section 9(1)(iv) of the IT Act a dividend paid by an Indian company outside India is deemed to be taxable income. However in view of section 10(34) of the Act the income by way of dividends referred to in section 115-O of the Act is liable to be excluded from the total income of the previous year of any person - under section 115-O PG India would be liable to pay tax on the distribution of profits by way of dividends to the applicant @ 15 per cent. However such dividends received by the applicant (shareholder of PG India) would not be taxable in its hands under the IT Act. - The applicant is entitled to invoke the benefit of the provisions in the Treaty notwithstanding the provisions of the Income-tax Act 1961 on the same subject. Section 90(2) of the IT Act recognizes this principle. It lays down that in relation to the assessee to whom the Agreement (Treaty) applies the provisions of the Act shall apply to the extent they are more beneficial to the assessee

Summary

Issues Involved:
1. Tax liability in India on dividends received from a wholly owned subsidiary.
2. Tax liability in India on capital gains from the transfer of shares to another non-resident.
3. Tax liability in India on capital gains from a buyback of shares by the wholly owned Indian subsidiary.

Detailed Analysis:

Issue 1: Tax Liability on Dividends
The first issue pertains to whether the applicant, a Netherlands company, would be liable to tax in India on dividends received from its wholly owned subsidiary, Pierburg India Pvt. Ltd. According to section 9(1)(iv) of the Income-tax Act, dividends paid by an Indian company outside India are deemed taxable. However, section 10(34) of the Act excludes such income from the total income of any person, as dividends are subject to additional income tax under section 115-O at a rate of 15%. The Revenue confirmed that once the Indian company pays the dividend distribution tax, the dividends received by the Netherlands company would not be liable to tax in India. Therefore, the first question is answered in the negative, confirming no tax liability on dividends for the applicant.

Issue 2: Tax Liability on Capital Gains from Share Transfer
The second issue involves the tax liability on capital gains from the transfer of shares in PG India to another non-resident, under the India-Netherlands Treaty. Article 13, paragraph 5 of the Treaty states that gains from the alienation of shares are taxable only in the State of which the alienator is a resident, unless the shares are transferred to a resident of the other State. Since the shares would be transferred to a non-resident, the exception does not apply, and the gains are taxable only in the Netherlands. Despite the Revenue's contention that the German company is the beneficial owner, the Authority found no factual or legal basis to support this claim. The Netherlands company is a distinct legal entity that made substantial investments in the Indian company. The ruling concluded that the applicant is not liable to pay tax on capital gains from the share transfer, answering the second question in the negative.

Issue 3: Tax Liability on Capital Gains from Buyback of Shares
The third issue concerns the tax liability on capital gains from a buyback of shares by PG India. The applicant argued that under Section 47(iv)(b) of the IT Act, the transfer of capital assets to a wholly owned subsidiary is not considered a transfer for tax purposes. However, the Authority declined to give a ruling on this question, stating that the buyback is a separate transaction from the transfer of shares to a non-resident and would require a separate application. The buyback is within the volition of PG India and not integrally connected to the initial investment transaction. Therefore, the third question was not answered, upholding the Revenue's contention.

Conclusion:
The Authority ruled that the applicant is not liable to tax in India on dividends received from its wholly owned subsidiary or on capital gains from the transfer of shares to another non-resident. However, it declined to rule on the tax liability related to the buyback of shares, requiring a separate application for that transaction. The ruling was pronounced on February 25, 2010.