2025 (7) TMI 250 - AT - Income Tax

Income deemed to accrue or arise in India - Determination of Tax Residency under Article 4(1) of DTAA - Capital gain arising on sale of shares by a resident in Mauritius - status of residence as well as beneficial ownership - Tax resident of India - Limitation of Benefit ( LOB ) clause - whether control and management is situated wholly in India? - settled law with respect to tax residency of a foreign company under the provisions of section 6(3) - Denying the benefits of Article 13(4) of India-Mauritius tax treaty - Taxing worldwide income - words previous year and during that year employed in the provision to bring out that the residential status of an assessee company Conclusive proof of beneficial ownership of the shares sold by the Assessee - As argued capital gain arising on the securities purchased before 1 April 2017 has been grandfathered and cannot be brought to tax in India - Assessee is a non-resident in India and does not have a permanent establishment in India. Assessee is a company which was incorporated in Mauritius on 13 October 2005. The principal activity of the Assessee is to make and hold investments - Assessee holds valid Tax Residency Certificates ( TRC ) issued by the Mauritius Revenue Authority ( MRA ) and Category 1 Global Business License ( GBL ) issued by the Financial Services Commission Mauritius since inception of the Assessee. HELD THAT - The words previous year and during that year employed in the provision clearly bring out that the residential status of an assessee company is to be ascertained each year considering the control and management of the company during the previous year. However the lower authorities have determined the residential status of the Assessee based on events and documents pertaining to earlier years which is wholly incorrect and contrary to the express provisions of section 6(3)(ii) of the Act which require that the residential status is to be ascertained based on the events pertaining to the previous year. As we observed that the Assessee was controlled and managed by its board of directors. All the meetings of the board of directors of the Assessee (including those during FY 2011-12) were convened chaired and conducted in Mauritius. All decisions concerning the affairs of the Assessee have been taken by the board of directors of the Assessee. From inception till FY 2011-12 the Assessee has held all 82 board meetings in Mauritius. This is also evident from copy of board minutes of the Assessee for Financial Year ( FY ) 2011-12 furnished in this regard. The board of directors of the Assessee has comprised of people with significant qualification and experience who were non-residents of India except the nominee director appointed by lenders. List of directors of the Assessee from FY 2006-07 (year of acquisition of Essar Telecom Investments Limited ( ETIL ) shares) to FY 2011-12 have also been furnished in this regard. Further TRCs from MRA/ certificate from Multiconsult Limited/ self-declarations in relation to the tax residence of the directors and brief profiles of directors for FY 2011-12 have also been furnished before us. As observed that it was for the first time in the assessment order that the AO stated that the Assessee had not submitted the TRC for the earlier years in response to that allegation the TRC for the earlier years were produced by the Assessee before the CIT(A). Therefore the contention of the Revenue that the TRCs for the earlier years were not produced before the AO and no application was filed under Rule 46A is incorrect. In any case the TRCs for the earlier years are not relevant since the resident status for each year has to be decided separately and TRCs of earlier years have no bearing on the year under consideration. Whether the control and management is wholly situated in India or not? - Dictionary meanings of the word wholly when applied in the context of Section 6(3) of the Act denote that the control and management of the company is to be seen in entirety and not in piecemeal or partially. As decided in Narottam Pereira Ltd. 1953 (3) TMI 31 - BOMBAY HIGH COURT Nandlal Gandalal 1960 (4) TMI 3 - SUPREME COURT Radha Rani Holdings (P.) Ltd. 2007 (5) TMI 267 - ITAT DELHI-I wherein the courts/tribunals have held that a company incorporated outside India will not be considered as a resident of India if any part of the control and management is situated outside India. We observed as per the argument of the Revenue that there is a unified Central command when viewed holistically is also unsustainable and without any evidence in support. The evidence on record shows that the control and management of the Assessee rests with the Board of directors in Mauritius. Further the Revenue has not found any evidence or material to support its conclusion that the decisions have been taken by Unified Central command and not by the Board of Directors. Bombay High Court in case of Narottam Pereira (supra) after considering the Judgment of House of Lords in De Beers Consolidated Mines Limited has unequivocally held that if any part of the control and management is situated outside India the company would not be resident in India. Therefore the Assessee submitted that the reliance placed by the lower authorities on the judgment of De Beers Consolidated Mines Limited (supra) to hold that the requirements of section 6(3) is complied with even when a part of the control and management is situated outside India is incorrect and bad in law. Therefore in our view the control and management of the Assessee was situated in Mauritius and by no stretch of imagination it can be said that the control and management of the Assessee was wholly in India for the year under consideration. We observed that the lower authorities have come to the conclusion that the control and management of the Assessee is in India have held that the agreements and the documents have been executed by employees of other Essar Group entities that are based in India and therefore the control and management of the Assessee is wholly situated in India. Consequently the Assessee becomes a resident of India in terms of section 6(3) of the Act. The lower authorities have failed to appreciate that the making of a decision is different from the execution of the decision. To determine the residential status u/s 6(3) of the Act the AO is required to ignore circumstances where action is taken by personnel in India that has been delegated or authorised by the Assessee s board of directors. In the instant case the AO has in fact observed that the personnel in India executed the transaction only after they were duly authorised by the board of directors of the Assessee. In our view the lower authorities have failed to appreciate that there exists difference between management control and shareholder control. For the purpose of section 6(3) of the Act what is required to be seen is de facto control i.e. where the control and management is actually exercised. In the instant case it is very clear that the control and management was exercised by the board of directors in Mauritius since all the 11 meetings during the previous year relevant to A.Y. 2012-13 were held in Mauritius. The lower authorities have not produced a single document which in any manner shows that members of the Ruia family have taken any decision with regard to the Assessee in any capacity other than as director of the Assessee. Therefore the control and management of the Assessee is with the board of directors in Mauritius and the allegation made by the lower authorities is baseless and contrary to evidence on record. There is clear difference between management control and ownership control. Members of the Ruia family are controlling and managing the affairs of the Assessee (and the Mauritius Board has no role to play) and that too wholly from India when several of the Ruia family members are non-residents - The reasoning of the AO is purely based on conjectures and surmises and no shred of evidence has been brought on record by the learned AO to prove that the Assessee is controlled and managed wholly by the family members and that too wholly in India. Contention of the lower authorities that the Assessee is a sham entity - We observe that the Essar Group is a multinational group with more than 200 companies which had a net worth in excess of USD 10 bn and had a presence in more than 25 countries across the 5 continents (in 2011-12). It operates in several sectors such as shipping oil gas power steel exploration and production of oil and gas ports etc. It had raised a debt of over USD 5 billion from reputed overseas lenders and the shares of some of the entities in the group were listed on stock exchange India and the UK (including on the FTSE100). Further the Essar Group has its presence in Mauritius since 1992 i.e. even before mobile telephony started in India. As submitted that the Assessee cannot be termed as a substance less entity since it is an investment holding company and have been undertaking requisite investment holding activities in Mauritius. Further there are qualified people on the Board of directors (the Board) who have taken decisions concerning the affairs of the Assessee s in Mauritius. The entities have also facilitated raising substantial loans (from third party lenders). The directors are required to discharge obligations and undertake various duties under the Mauritian laws. Accordingly the existence of these entities should be respected by the Revenue. Therefore in our view the contention of the lower authorities that the Assessee is a sham entity and the investment in Mauritius was made only for the purpose of claiming benefits of India-Mauritius DTAA is baseless and without any substance. Lower authorities have denied treaty benefits to the Assessee on the basis that the Assessee was nothing but a shell company which had been used as a conduit with the sole objective of avoidance of tax on capital gain that arose on sale of VEL shares - The lower authorities have not to appreciate that the principal purpose test of incorporating the company in Mauritius for capital gain exemption purpose was brought in for the first time by the insertion of the LOB clause w.e.f. 1 April 2017 and therefore the capital gain exemption claimed by the Assessee cannot be denied on this ground. We observe that the decision of the Hon ble Supreme Court in the case of Vodafone International Holding B.V. 2012 (1) TMI 52 - SUPREME COURT supports the submissions of the Assessee wherein it has been held that claiming of treaty benefit is one of the relevant factors of making investment through the Mauritius route. Mere collaboration by related parties for mutual benefit / enhanced bargaining power cannot lead to an inference that the parties surrender their rights / decision making ability to one another. Such contracts and agreements are especially not unusual in the context of shareholders / investors in a company where one frequently sees shareholder agreements having been entered into for mutual benefits. Entering into any contract results into rights and obligations for the parties. In the given case ECML ECom (the offshore put option holder) and the Assessee collaborated with ETHL Communications Holdings Limited ( ECHPL ) (the onshore put option holder) for their collective best interests in relation to the agreements/ arrangements with Vodafone. Given the above there is nothing unusual in the fact that the investment in VEL shares is itself the legitimate business of the Assessee. Accordingly it cannot be said that the Assessee is a conduit and has not undertaken any business activity or that there was lack of commercial/ business substance in the present case. Denial of treaty benefits on the basis that no benefit of the loans taken on the strength of the VEL shares was obtained by the Assessee and further the sale consideration from the VEL shares was not utilised by the Assessee - It is incorrect for the Revenue to allege that ETIL was a paper entity with no resources and had nothing to pay for the acquisition of VEL shares or to draw any negative inference from the transactions that were undertaken. Accordingly ETHL raised funds by sale of VEL shares to ETIL and utilized the funds for repayment of its existing loans and interest. It is natural that money went to ETHL since it was the seller of the VEL shares to ETIL. There is no basis for the learned AO to allege that the situs of VEL shares was changed to save tax. The situs of shares of VEL continued to be in India in view of the shares being of an Indian company. It is also submitted that there was no shifting of shareholding for tax purposes whatsoever in the present case. Even in the absence of liquidation if the Assessee had sold the shares of ETIL the capital gains arising to the Assessee would have been non-taxable in India under Article 13(4) of the India-Mauritius tax treaty. In fact even if ECML had exercised the alternative put option and sold shares in ECL there would have been no tax liability in India under the Act itself and further ECML would have been entitled to the benefits of the India Mauritius tax treaty as well. Hence it cannot be said that the motive of the liquidation was tax avoidance as no tax benefit was obtained by ECL by undertaking the liquidation. Thus the conclusion of the Revenue that the shares belong to an Indian entity and entities were created in Mauritius to migrate and monetize the shares without paying taxes is factually incorrect and contrary to the evidence on record. Allegation about immediate use of sale proceeds - In our view the transactions were undertaken for commercial reasons and it is not open to the tax authorities to step into the shoes of the Board of Directors and question the business purpose of a transaction. The Assessee s had also benefited from the various loans that were raised on the basis of ETIL/VEL shares and therefore it agreed to pledge its holding in ETIL/VEL shares. We observed that the authorities below have not considered all the factual documents/ evidence provided by the Assessee at the time of assessment as well as appellate proceedings and they have arrived at conclusions/ drawn adverse inferences at several places in the order without any documentary evidence. The authorities below have merely undertaken a fault-finding exercise rather than concluding the assessment/appellate proceedings objectively basis the documents/ evidences furnished by the Assessee over the years. We observed that the Liquidation of ETIL was pursuant to lenders requirement and rejection of pledge of VEL shares by the RBI however the lower authorities have denied treaty benefits to the Assessee on the basis that the liquidation of ETIL was undertaken with a view to shift the locus of shares from India to Mauritius without any commercial purpose and was a colourable device to avoid capital gains tax in India. Lower authorities have failed to appreciate the commercial purpose behind the liquidation of ETIL viz. the same would enable a direct pledge of VEL shares to the lenders resulting in greater enforceability of VEL shares as a security which was not possible so long as the VEL shares were held by ETIL in view of the provisions of Foreign Exchange Management Act 1999. The same is evident from the rejection by the RBI vide its letter dated 4 October 2007 of the application made for pledge of VEL shares by ETIL. It cannot be said that the motive behind the liquidation of ETIL was tax avoidance as it was undertaken for a commercial purpose and further no tax benefit was obtained by the Assessee by undertaking the liquidation. Accordingly the same cannot be termed as a colourable device and the inference drawn by the lower authorities is incorrect and devoid of any merit. All the transactions were undertaken for commercial reasons and it is not open to the learned lower authorities to rewrite on mere suspicions and on vague allegations. In light of the above in our view there is no colourable device adopted or avoidance of tax attempted in the Assessee s case. In light of the findings and with the support of documentary evidence submitted before us we are of the view that it is eligible for the benefits of exemption from capital gains tax as provided under Article 13(4) of the India-Mauritius DTAA. Accordingly the capital gains that have arisen to it on the sale of shares of VEL are not liable to tax in India. Therefore the Assessee is not a tax resident of India rather it is a tax resident of Mauritius and is entitled to the benefits of Article 13(4) of the India- Mauritius DTAA and therefore inter alia the capital gains on sale of VEL shares in FY2011-12 are not chargeable to tax in India.

Summary

The core legal questions considered by the Tribunal in these connected appeals primarily revolve around the taxability of capital gains arising from the sale of shares of an Indian company by foreign entities incorporated in Mauritius. The key issues include: whether the assessee companies are residents of India under section 6(3) of the Income-tax Act, 1961 ("the Act") by virtue of their control and management being situated wholly in India; whether the assessee companies are entitled to the benefits of Article 13(4) of the India-Mauritius Double Taxation Avoidance Agreement ("DTAA") exempting capital gains from taxation in India; whether the transactions and restructuring undertaken, including the liquidation of an Indian subsidiary and transfer of shares to Mauritius entities, constitute colourable devices or sham arrangements aimed at tax avoidance; the applicability and conclusiveness of Tax Residency Certificates ("TRCs") issued by the Mauritius Revenue Authority ("MRA"); the relevance and interpretation of various CBDT circulars, particularly Circular No. 789 dated 13 April 2000; the scope and applicability of judicial anti-avoidance principles including the "substance over form" doctrine and "control and management" test; and whether the absence of a Limitation on Benefits ("LOB") clause in the India-Mauritius DTAA precludes denial of treaty benefits.

In addressing these issues, the Tribunal undertook a detailed issue-wise analysis as follows:

1. Determination of Residential Status under Section 6(3) of the Act and Article 4 of the DTAA: The Tribunal examined whether the assessee companies, incorporated in Mauritius, were residents of India for the relevant assessment year by virtue of their control and management being wholly situated in India. The legal framework under section 6(3)(ii) of the Act requires that a foreign company is resident in India if its control and management is "wholly" situated in India during the previous year. The Tribunal relied on authoritative precedents including Wallace Brothers & Co. Ltd., Sri Raja K.V. Narsimha Rao Bahadur, Girdharlal Ghelabhai, Narottam Pereira Ltd., CIT vs. Nandlal Gandalal, Radha Rani Holdings, and the recent Supreme Court decision in Mansarovar Commercial Pvt. Ltd., which clarify that the test is of de facto control and management during the relevant year, and that if any part of control and management is situated outside India, the company cannot be considered resident in India. The Tribunal noted that all board meetings of the assessee companies were held in Mauritius, the majority of directors were residents of Mauritius, and the companies maintained their statutory records, bank accounts, and financial statements in Mauritius. The Tribunal rejected the Revenue's contention that execution of documents or operational activities by Indian personnel implied control and management in India, emphasizing that execution of decisions is distinct from decision-making itself. The Tribunal further distinguished the "central control and management" test from the statutory "wholly situated" test, holding that the former does not apply under section 6(3). The Revenue's reliance on the De Beers Consolidated Mines Ltd. case was found misplaced as it did not relate to the statutory language requiring "wholly" situated control and management. The Tribunal concluded that the control and management of the assessee companies were situated wholly in Mauritius, thereby negating their status as Indian residents.

2. Entitlement to Benefits under Article 13(4) of India-Mauritius DTAA: The Tribunal considered whether the assessee companies were entitled to exemption from capital gains tax in India under Article 13(4) of the DTAA, which provides that capital gains arising from alienation of shares by a resident of Mauritius shall be taxable only in Mauritius. The Tribunal noted that the DTAA, as applicable for the assessment year under consideration (2012-13), did not contain any Limitation on Benefits ("LOB") clause or principal purpose test restricting treaty benefits. The Tribunal referred to the Supreme Court's decisions in Azadi Bachao Andolan and Vodafone International Holdings B.V., which uphold the validity of Circular No. 789 and recognize the entitlement of Mauritius entities to treaty benefits absent any disqualifying provisions. The Tribunal observed that the Finance Act, 2017 introduced LOB provisions effective from assessment year 2018-19, which are not applicable to the present case. The Tribunal also noted the CBDT's press releases clarifying that capital gains arising on shares acquired before 1 April 2017 are grandfathered and not taxable in India. The Tribunal held that denial of treaty benefits on the basis of the absence of substantial business activities or presence in Mauritius was not tenable in the absence of LOB provisions in the DTAA for the relevant year.

3. Validity and Conclusiveness of Tax Residency Certificates (TRCs): The Tribunal extensively analyzed the role and evidentiary value of TRCs issued by the Mauritius Revenue Authority. The Revenue contended that TRCs are not conclusive proof of residency and beneficial ownership, relying on the Supreme Court's observations in Vodafone that tax authorities can pierce the corporate veil to examine substance. The Tribunal, however, distinguished the factual matrix of Vodafone and Azadi Bachao Andolan, noting that those decisions did not deal with direct transfers under the India-Mauritius DTAA or the current Financial Services Act regime in Mauritius. The Tribunal emphasized that Circular No. 789, upheld by the Supreme Court in Azadi Bachao Andolan, directs Indian tax authorities to accept TRCs as sufficient evidence of residency and beneficial ownership for the purpose of the DTAA. The Tribunal further noted the Finance Ministry's press release of 1 March 2013 affirming that TRCs are to be accepted as evidence of residency and that tax authorities shall not go behind the TRC. The Tribunal observed that the assessee had produced valid TRCs for the relevant and preceding years, and the Mauritius Revenue Authority had confirmed the assessee's residency based on incorporation and control and management in Mauritius. The Tribunal held that the Revenue's refusal to accept the TRCs was contrary to legislative intent and binding judicial precedents.

4. Allegations of Colourable Device, Sham Transactions, and Tax Avoidance: The Revenue alleged that the restructuring, including the liquidation of ETIL (an Indian company) and transfer of shares to the Mauritius entities, was a colourable device to shift the situs of shares and avoid capital gains tax in India. The Revenue further contended that the assessee companies were mere paper companies without commercial substance, controlled and managed by the Ruia family and Essar group executives in India, with board minutes being of doubtful authenticity and directors acting as puppets. The Tribunal examined these allegations in light of the evidence and submissions. It noted that the liquidation of ETIL was mandated by lenders as a commercial necessity to enable direct pledge of shares to lenders, which was not permissible when shares were held by ETIL due to RBI restrictions. The Tribunal found that the liquidation was a shareholder function duly approved by the boards of ECL and ETIL and not an artificial step solely for tax avoidance. The Tribunal observed that the assessee companies had undertaken legitimate business activities, including holding valid licenses, maintaining offices, conducting board meetings, and complying with regulatory requirements in Mauritius. The Tribunal recognized that the use of Special Purpose Vehicles ("SPVs") and holding companies in tax-efficient jurisdictions is a common and accepted business practice, as affirmed in Vodafone and other judicial precedents. The Tribunal rejected the Revenue's reliance on the Authority for Advance Rulings' ("AAR") non-binding observations, noting that the High Court had directed the tax authorities to independently examine the facts. The Tribunal found no credible evidence to demonstrate that the assessee companies lacked commercial substance or were mere conduits. It held that the burden was on the Revenue to prove fraudulent or dishonest purpose, which was not discharged.

5. Application of Judicial Anti-Avoidance Principles and "Substance over Form" Doctrine: The Tribunal acknowledged the applicability of judicial anti-avoidance rules, including the "substance over form" doctrine and the principle of lifting the corporate veil, as laid down in McDowell, Vodafone, and other precedents. However, it emphasized that these doctrines apply only where there is clear evidence of colourable or sham transactions designed to evade tax. The Tribunal found that the transactions in question were undertaken for genuine commercial reasons, including financing arrangements, compliance with regulatory requirements, and strategic investment decisions. The Tribunal noted that the mere presence of complex group structures or inter-company arrangements does not ipso facto render them abusive. The Tribunal applied the "look at" test from Vodafone, considering the entire transaction holistically, and found that the assessee's activities satisfied the tests of investment participation, duration of holding, business operations in India by the investee, generation of taxable revenues, timing of exit, and continuity of business. The Tribunal held that the transactions did not amount to tax avoidance or abuse of the treaty.

6. Treatment of Competing Arguments and Evidence: The Tribunal carefully considered the Revenue's contentions regarding control and management being in India, the role of the Ruia family and Essar group executives, discrepancies in board minutes, non-utilization of loan funds by the Mauritius companies, and the flow of funds within the group. It juxtaposed these against the assessee's detailed rebuttals, documentary evidence including board minutes, financial statements, TRCs, regulatory approvals, and explanations of commercial rationale. The Tribunal noted that the Revenue's allegations were largely based on conjecture, suspicions, and unsubstantiated inferences without concrete evidence. It also observed that many of the Revenue's fresh contentions were not raised at earlier stages and thus were impermissible. The Tribunal gave due weight to the legal presumption in favour of the assessee's bona fide commercial activities and the statutory and treaty provisions. It also noted that the Revenue's reliance on foreign case law and commentaries was misplaced in the Indian statutory and treaty context.

7. Taxability of Interest Income and Other Miscellaneous Issues: The Tribunal briefly noted the Revenue's contention regarding taxability of interest income earned by the assessee during the year and other related issues, but the primary focus remained on the capital gains tax and treaty benefits. The Tribunal's detailed findings on these ancillary issues were not elaborated in the available text but were considered within the overall adjudication.

Significant Holdings:

"The residential status of an assessee company is to be ascertained each year considering the control and management of the company during the previous year. If any part of the control and management is situated outside India, the company cannot be considered resident in India under section 6(3)(ii) of the Act."

"The control and management of the assessee companies were situated wholly in Mauritius as all board meetings were held there, the majority of directors were Mauritian residents, and statutory records and financial statements were maintained in Mauritius."

"The issuance of Tax Residency Certificates by the Mauritius Revenue Authority constitutes sufficient evidence of the assessee's residency and beneficial ownership for the purpose of claiming benefits under the India-Mauritius DTAA as per CBDT Circular No. 789 dated 13 April 2000, upheld by the Supreme Court."

"The absence of a Limitation on Benefits clause in the India-Mauritius DTAA for the relevant assessment year precludes denial of treaty benefits on grounds of lack of commercial substance or principal purpose test."

"The liquidation of the Indian subsidiary ETIL was a commercial necessity mandated by lenders to enable direct pledge of shares, and not a colourable device for tax avoidance."

"The assessee companies are genuine investment holding companies engaged in legitimate business activities, and the complex group structures and inter-company transactions do not per se constitute tax avoidance or sham arrangements."

"The 'substance over form' doctrine and judicial anti-avoidance principles apply only where there is clear evidence of abuse or colourable device, which was not established by the Revenue in this case."

"The 'look at' test enunciated by the Supreme Court in Vodafone applies, requiring a holistic examination of the transaction. The tests of investment participation, duration of holding, business operations of the investee, generation of taxable revenues, timing of exit, and continuity of business were satisfied."

"The execution of documents by Indian personnel under authority delegated by the board of directors in Mauritius does not imply that control and management is situated in India."

"The Tribunal rejects the Revenue's reliance on the non-binding observations of the Authority for Advance Rulings and directs that the tax authorities must independently examine the facts."

"The capital gains arising from the sale of shares of Vodafone Essar Limited by the assessee companies are not liable to tax in India under Article 13(4) of the India-Mauritius DTAA for the assessment year 2012-13."

Accordingly, the Tribunal allowed the appeals of the assessee companies.