The Hindu Business Line : Vodafone: A case of taxman lifting ‘the corporate veil’ Detaxification

In the case under discussion, the transfer is of shares of an investment company situated outside India and, as such, should not be liable to tax in India.

DR SURESH SURANA, CHARTERED ACCOUNTANT, AND FOUNDER OF RSM-ASTUTE GROUP, MUMBAI.

The ongoing Vodafone-taxman tussle raises may key questions, says Dr Suresh Surana, a Mumbai-based chartered accountant and founder of RSM-Astute Group.

“The first question is whether a non-resident seller is liable to tax in India on sale of shares of the foreign investment company,” lists Mr Surana, in an email interaction with Business Line. “Next, is a non-resident purchaser liable for deduction of tax on purchase of shares of the foreign investment company while making payment to the non-resident seller?”

And the third question, as the taxman would like to know, is “whether the Indian company can be treated as ‘agent’ of the non-resident purchaser and held liable for deduction of tax?”

Excerpts from the interview:

What is the transaction that is under the taxman’s lens? And why the controversy?

The recent notice (for a potential $2 billion tax claim, as reports say) issued by the Indian income-tax authorities is about Vodafone’s purchase of stake of Hutchison Telecom International (HTIL) in Hutchison Essar. The controversy that it has stirred is about the taxability of such transfers. In this case, it appears that HTIL (the non-resident seller and parent company) sold its stake in the foreign investment company, which in turn held shares of Hutchison Essar (the Indian company), to Vodafone (the non-resident purchaser).

Isn’t such transfer a common practice?

True, it is a common practice among multinational corporations (MNC) to establish an investment company in tax-efficient countries such as Mauritius or Cayman Islands for holding their stake in an Indian company. Generally, it has been well accepted that any transfer of shares of such an investment company established outside India by the MNC is not taxable in India, as the transfer pertains to shares of a foreign company by a non-resident.

Our tax law is clear about non-resident taxation, isn’t it?

The Income-Tax Act, 1961 specifies the scope of taxable income of a non-resident. As per Section 5(2) of the Act, the taxable income of a non-resident includes income “received or deemed to be received in India” and income that “accrues or arises or deemed to accrue or arise in India”. It does not include income that accrues or arises or is deemed to accrue or arise outside India.

Does the location of asset make a difference?

Taxability on the basis of asset located in India is spoken of in Section 9(1)(i). It says that income is deemed to accrue or arise in India if it is from transfer of an asset situated in India or through or from business connection in India and, hence, liable to tax in India.

Wouldn’t that apply to the Vodafone-Hutch situation?

In the case under discussion, the transfer is of shares of investment company situated outside India and, as such, should not be liable to tax in India. However, the income-tax authorities seem to be taking a view that this transfer effectively represents transfer of the beneficial interest in the shares of the underlying Indian company and, hence, it would attract tax in India.

Are there points that can support the taxman’s stand?

The fact that Hutchison and Vodafone had to take approval from the Indian authorities such as the FIPB (Foreign Investment Promotion Board), as the underlying asset is in India, has compounded the issue. This seems to be a clear case of tax authorities attempting to lift the corporate veil, an extreme measure generally taken in cases of fraud and legal violation.

Can the DTAA offer clarity?

In the case of investment from certain countries such as Mauritius, Cyprus and Singapore, capital gains are not liable to tax in India under the DTAAs (double taxation avoidance agreements). However, it appears that in the instant case, the non-resident seller of shares is a Hong Kong-based company. As India does not have any DTAA with Hong Kong, no treaty benefit could be availed of.

Do TDS (tax deduction at source) provisions come into play?

Section 195 of the I-T Act casts an obligation on a person responsible for paying any sum — which is chargeable to tax in India — to a non-resident to deduct income-tax at source at the time of payment or credit. It is well established that the liability to deduct tax applies to non-residents as well as residents. Thus, in our view, a non-resident purchaser (that is, the payer) is liable to deduct the tax at source if the transaction is liable to tax in India. Liability for deduction of tax is, therefore, on the transferee company.

Is the Indian company an agent as the taxman would like to believe?

According to Section 160(1) of the I-T Act, ‘agent’ of the non-resident is ‘representative assessee’, and Section 161 discusses the liability of representative assessee. Section 163 defines agent to include a person who has a business connection with the non-resident. In our view, it is difficult to consider the Indian company as an agent, merely because it is a subsidiary of the non-resident.

The road ahead, as you see it…

It is clear that resolution of the above issues may entail a long drawn litigation and several MNCs would keenly await the final view adopted by the Indian tax administration in this respect.

D. MURALI

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