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TMI Blog2001 (3) TMI 1035X X X X Extracts X X X X X X X X Extracts X X X X ..... (whether long-term or short-term) arising from the transfer of securities it holds in companies incorporated in India (hereinafter referred to as "the portfolio companies") ? 3. Whether, on the facts and circumstances of the case, the activities of the investment adviser will not constitute a permanent establishment of the applicant in India ? 4. Whether, on the facts and circumstances of the case, the activities of the custodian will not constitute a permanent establishment of the applicant in India ? 5. Whether, on the facts and circumstances of the case, would the employees of the investment adviser appointed as "nominee directors" on the board of directors of the portfolio companies on behalf of the applicant constitute the permanent establishment of the applicant in India ? 6. Whether, on the facts and circumstances of the case, if for any reason the activities of the applicant were to constitute a permanent establishment in India, even then, since the securities held by it in India would not form part of the business property of its permanent establishment, the applicant would not be subject to tax on capital gains (whether long-term or short-term) arising from the t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tax payable by it is with held in India under the Treaty provisions and as per the rates prescribed in the Treaty ? 15. Whether, on the facts and circumstances of the case, would there be any penal consequences under the Income-tax Act if the applicant fails to file a tax return provided the entire tax payable by it has been withheld at source ? 16. Whether, on the facts and circumstances of the case, if for any reason, the applicant is found to have a permanent establishment in India, will the profits attributable to such permanent establishment be taxable at the rate of 35 per cent. instead of 45 per cent. based on the provisions of article 24 of the Treaty ? The applicant has stated in the petition before us that it is a private equity fund (similar to a venture capital fund). It has allotted a large number of shares on a private placement basis to a limited number of prospective investors spread over Belgium, France, Germany, Hong Kong, Japan, Kuwait, the Netherlands, Singapore, Switzerland, the United Kingdom and the United States of America. The case of the applicant is that it is a close-end fund (i.e., there will be no continuous fresh issuance of redemption of share ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ch of the investors in the applicant would have to obtain, XYZ and ABC decided to invest in India through a single entity set up outside India. Organising a single entity in India for the purposes of making venture capital investments requires certain regulatory and tax approvals. The guidelines for setting up venture capital funds or companies in India are also very restrictive. Some of the restrictions are briefly set out hereinbelow. Venture capital entities cannot invest in more than 40 per cent. of the paid-up capital of a single company. Furthermore, they cannot invest more than 20 per cent. of their own total paid-up capital in any single company. If the objective of a mutual fund is to invest in the shares of listed companies then all the funds are collected at one go from the investors. In such cases it would be possible to invest 20 per cent. or less than 20 per cent. of the paid-up equity capital in a single company. However, in the case of private equity funds, initially only commitments from global investors are obtained, and a small amount is collected from them up front to meet the preliminary/set-up costs of the fund. Since private equity funds predominantly inves ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... services companies. According to these guidelines, if the foreign equity holding in a non-banking financial company were to exceed 75 per cent. the Indian company would need to have a minimum capitalisation of US $50 million of which US $7.5 million is to be invested up front and the balance within 24 months. Since the applicant would be making a call for investment from its subscribers as and when it is able to find an investment opportunity, which may not necessarily fall within a period of 24 months, these guidelines would cause the applicant great difficulties. In addition to investing in India, the applicant may invest in companies/entities outside India. Accordingly, if the applicant was organized in India, it would be difficult to invest in companies set up outside India as such investments would require the prior approval of the RBI and the RBI regulations for investments abroad, which are quite stringent would have to be complied with. To date, the applicant has made four investments. Three of the companies are located in India and one is based in the United States of America. While the investments in three of the companies in which investment is made are of the form of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... properties and the custodian shall in such cases keep the company informed about such action. The company agrees to keep the custodian idemnified and to hold the custodian harmless against all losses, damages, claims, penalties, expenses, suits or proceedings of whatsoever nature made or suffered or incurred consequent to or arising out of the initiation of such proceedings, provided that the same is not suffered or incurred due to the bad faith, wilful default or negligence of the custodian. The services to be provided by the custodian include the duty to transfer or exchange the deliverance of securities purchased on behalf of the applicant-company- (i) upon sales of such securities and receipt by the custodian of payment, therefore, in accordance with instructions ; (ii) upon receipt by the custodian of payment when in connection with any repurchase agreement related to such securities ; (iii) for receipt by the custodian of payment when such securities are called, redeemed, cancelled, retired or otherwise become payable ; (iv) For the purpose of collecting all income and other payments with respect to the securities ; (v) The custodian shall be entitled to undertake ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Records and inspections : The custodian shall keep or cause to be kept such records and statements as may be necessary to give a complete record of all properties held and transactions carried out by it on behalf of the company. Such records may be maintained in the form of computer records and the company agrees that the custodian is entitled to produce copies or reproductions of each computer records and documents during the course of any legal proceedings or as required by any statutory or regulatory authority. The custodian's records and documents pertaining to their actions under this agreement and the securities shall be open to inspection by the company, at reasonable periods. The custodian will perform a physical verification and reconciliation of holdings at least quarterly and more regularly in relation to certain property against the records kept pursuant to the custodian's duties hereunder. These are the basic facts. We shall now examine the questions raised. There is no dispute on the first question that the applicant is entitled to be treated as a "resident" of Mauritius as defined in the Agreement for Avoidance of Double Taxation (hereinafter referred to as "the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e to a Mauritius-based company in India for the purpose of performing independent personal services may also be taxed in India. But if the shares are not of the kind mentioned in paragraph 2 then gains derived from transfer of such shares by the Mauritius-based company could only be taxed in Mauritius under the residuary provisions of paragraph 4. The crux of the question, in this case, is whether the petitioner-company comes within the ambit of paragraph 2 or is exempt from tax in India by virtue of the provisions of paragraph 4 of article 13. Before we deal with this question in detail a subsidiary question raised on behalf of the Revenue has to be noted. It has been contended that there is no tax on capital gains in Mauritius and, therefore, the benefit of article 13 is not available to the applicant. In support of this proposition reliance has been placed on the judgment of this authority in the case of Cyril Eugene Pereira, In re [1999] 239 ITR 650 (AAR). In that case, the relief from double taxation tax was sought by an individual residing in the U. A. E. The prayer for relief from double taxation was not granted on a number of grounds. One of the grounds was the special de ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hen- (a) it has been earned or has accrued ; or (b) it has been dealt with in his interest or on his behalf, whether or not it has become due or receivable. (3) Earned income derived from outside Mauritius shall be deemed to be derived by a person when- (a) it is received in Mauritius by him or on his behalf ; or (b) it is dealt with in Mauritius in his interest or on his behalf." By virtue of section 5(1)(b), the income received by a person at a point of time when he was resident in Mauritius will be deemed to be derived by him even if the income was actually derived elsewhere. That means the applicant-company being a resident of Mauritius will be liable to pay tax on the income which was derived in India. The next question is the scope and meaning of "income" as provided in the Mauritius Act. The word "income" has not been defined in the Act but a definition is provided of "gross income" under section 2 which is as under : " 'gross income' means- (a) the aggregate amount of all income- (i) in the case of an individual, specified in Sub-Part A of Part III ; or (ii) in any other case, specified in Sub-Part B of Part IV, other than exempt income, or (b) the amo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sum or benefit, in money or money's worth, derived from the sale of any immovable property or interest in immovable property, where the property was acquired in the course of a business the main purpose of which is the acquisition and sale of immovable property ; (d) any increase in the value of trading stock on hand at the time of transfer by sale or otherwise of a business or on the reconstruction of a company ; and (e) any subsidy derived in the carrying on of a business." From all these provisions it is abundantly clear that a company has to pay tax on its "gross income derived from any business" and also "any other income derived from any other source". The phrase "any other income derived from any other source" is of widest amplitude. It cannot be confined to "income from other sources" as enumerated in sections 56 to 59 under Chapter IV-F of the Income-tax Act. Any income other than income derived from business will come under the scope of this phrase. For example, if a company apart from business income has income from house property which is taxable under section 22 of the Income-tax Act and which comes under Chapter IV-C of the Income-tax Act. The income will be taxa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... res had ventured into a business transaction. On the other hand, if a man having surplus fund employs it in shares instead of keeping it in the bank, profit from sale of such shares may be capital gain. Here we have a company which has been formed with an object of purchasing and selling of shares. The very objects clause of the memorandum of association of the company lists the objects for establishment of a company as : (a) To carry on business as an investment company and to acquire, invest in and hold securities of all kinds (including units) created, issued or guaranteed by any Government, sovereign, ruler, commissioner, public body or authority, supreme, municipal, local or otherwise, in any part of the world, or by any company, organisation, bank, association or partnership, constituted or carrying on business in any part of the world, trust, scheme sponsored by a trust, mutual fund, investment corporation or collective investment scheme in any part of the world, currencies and any rights and interests to or in any of the foregoing (whether issued or to be issued), and from time to time to sell, deal in, vary or dispose of any of the foregoing ; and to advance, deposit or ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l such other things as the company may deem incidental or conducive to the attainment of any of the aforesaid objects of the company. Having regard to the objects clauses of the memorandum there is little doubt that the purchase of shares of the company in India was part of the company's business operations. The business of the applicant-company is "to carry on business as an investment company and acquire, investment in and hold securities of all kinds . . . and from time to time to sell, deal in, vary or dispose of any of the foregoing." Therefore, the company has been formed with the object of carrying on the business of acquiring and investing in and holding securities of all kinds and ultimately selling them at a profit. For this purpose, the company has raised share capital and acquired money from other sources with which it has acquired very large blocks of shares in fledgling Indian companies. This indicates a large, systematic activity for making profits. The entire object is to sell these shares at profit when the value of the shares appreciates in the market. The gain from such transaction is business profit. Even if a loss is suffered that will be business loss. It is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ming land. All these properties were let by the company to the tenants at rents which were its only income. The company was treated as an investment company up to 1946- 47. During the years 1945-47 the company sold two houses, 13 acres of land and also a farm. The profits made by the company were assessed as trading profits on the ground that the company was a trading company. The Court of Appeal declined to interfere with the finding made by the Commissioner that the company was a trading company which had made trading profits. Whether the company's activities will amount to trading is basically a question of fact. In this case, we find a very intricate and complete system of investment has been devised by the petitioner-company in collaboration with other companies including an Indian company. Elaborate provisions have been made as to how the investment will be done ; how the advisers will decide upon the investments to be made, the sale proceeds of the shares if and when shares are sold will be kept in the custody of the Custodian who will have to receive and maintain an account on behalf of the Mauritius company. There are various other facets of this elaborate system which ca ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ntation or other place where agricultural, forestry, plantation or related activities are carried on ; (i) a building site or construction or assembly project or supervisory activities in connection therewith, where such site, project or supervisory activity continues for a period of more than nine months. 3. Notwithstanding the preceding provisions of this article, the term 'permanent establishment' shall be deemed not to include : (a) the use of facilities solely for the purpose of storage or display or merchandise belonging to the enterprise ; (b) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage or display ; (c) the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise ; (d) the maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise or for collecting information for the enterprise ; (e) the maintenance of a fixed place of business solely- (i) for the purpose of advertising, (ii) for the supply of information, (iii) for scientific research, or (iv) for similar activities, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rs he may be said to have a "permanent establishment" in India. But, in this case, the petitioner is not providing storage facilities. At the most it can be said that it is availing of or using storage facilities provided by others. Therefore, the petitioner's case will not come within the mischief of sub-clause (f) of clause 2. The other subclauses (g), (h) and (i) are clearly not attracted in the facts of this case. Therefore, the petitioner-company cannot be treated as having a "permanent establishment" in India because of the provisions of clause 2. Clause 3 deals with certain negative features which will not be treated as amounting to having a permanent establishment. Clause 4 is a deeming provision by which it is deemed that a person acting in a Contracting State on behalf another enterprise of the other Contracting State shall be treated a permanent establishment of the non-resident enterprise in certain situations. One of the situations mentioned in sub-clause (i) of clause 4 is that if a person residing in one State has and habitually exercises in that State authority to conclude contracts in the name of the non-resident enterprise unless its activities are limited to pur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed not file a return of income in India. We find no basis for these arguments. Section 139(1) of the Income-tax Act requires every person to file a return of income in the prescribed form before the due date if his total income during the relevant previous year exceeded the maximum amount which is not chargeable to income-tax. "Total income" is to be computed in accordance with the provisions of the Income-tax Act. According to section 5 of the Act, total income of a nonresident includes all income from whatever source derived which is received or is deemed to be received in India in a given year or accrues or arises or is deemed to accrue or arise to the non-resident in India during such year. Therefore, if the income received by or on behalf of the nonresident exceeds the maximum amount which is not chargeable to income-tax a return of income has to be filed. It may be that in the final computation after all deductions and exemptions are allowed, it will turn out that the assessee will be not liable to pay any tax. The exemptions and deductions cannot be taken by the assessee on his own. He is obliged to file his returns showing his income and claiming the deductions and exemptio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... conclude any contracts on behalf of the applicant and they do not constitute a permanent establishment of the Mauritius company in India. The role and functions of the nominee director will have to be examined in depth. Why was this interlinking between various companies necessary or is this a colourable device to avoid payment of tax are questions which must be examined in depth. Therefore, we decline to answer question No. 5. Question No. 6 also cannot be answered. This also requires a detailed investigation and in the absence of full details we decline to answer this question also. Question No. 7 cannot be answered unless a detailed investigation is made on the capacity and role of the nominee director, we decline to answer this question also. Question No. 8 interest received by the applicant will be taxable in accordance with article 11 of the Treaty. A higher rate of interest will not be any different from the usual rate of interest. The applicant is not carrying on any business of money-lending through any permanent establishment in India. On the facts as stated both the interest and penal interest should be taxed in accordance with the provisions of article 11 of the Tre ..... X X X X Extracts X X X X X X X X Extracts X X X X
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