From The Judiciary

Can exemption be given to a Mauritius-based investment company on the disposal of shares that arose from the Conversion of Cumulative Convertible Preference shares (CCPS), which took place after 1 April 2017?

Sarva Capital LLC TS-467-ITAT-2023(DEL)

Facts

The taxpayer, a resident of Mauritius, was incorporated for making investments in India in education, agriculture, healthcare, etc. The taxpayer had made certain investments in India before 1 April 2017 in equity shares and CCPS of certain companies in India. In its return of income, the taxpayer claimed exemption from capital gains under Article 13(4) of the India-Mauritius tax treaty.

The Revenue contended that the taxpayer is a conduit company and since it has been incurring losses in Mauritius and its income is not being taxed there, it cannot be regarded as a resident as per Article 4, and thus, the tax treaty benefit cannot be provided.

For its income from the sale of CCPS, the taxpayer filed a revised return and offered the capital gains to tax as per Article 13(3B) of the tax treaty. However, it claimed before the Tribunal that the capital gains should be exempt as per Article 13(4) as the CCPS were acquired prior to 1 April 2017.

Held

The Delhi Tribunal allowed exemption under the India-Mauritius tax treaty to the taxpayer on disposal of shares that arose from conversion of CCPS where CCPS was issued prior to 1 April 2017, but conversion took place after the said date as there was no substantial change in the rights of the taxpayer.

The Tribunal relied on the Supreme Court ruling in Azadi Bachao⁷, the jurisdictional High Court ruling in Blackstone⁸ and the Co-ordinate Bench ruling in MIH India⁹ upholding the validity of Circular No. 789 of 2000 and observing that Tax Residency Certificate (TRC) is sufficient evidence to claim not only the tax residency and legal ownership but also treaty eligibility. It also observes that SC in Azadi Bachao held that ‘liable to taxation’ and ‘actual payment of tax’ are two different aspects, and merely because tax exemption is granted under the domestic tax laws of Mauritius, it cannot lead to the conclusion that the entities availing such exemption are not liable to tax.

The Tribunal also opined that Article 13(4) of the tax treaty speaks about ‘shares’ and shares here are to be construed in a broader sense, and it will take within its ambit all types of shares, including preference shares. Thus, the tax treaty benefit was granted to the taxpayer.

Our Comments

Despite the taxpayer revising its return to offer the capital gains to tax as per Article 13(3B) of the tax treaty, the Tribunal held that this should not stop the Revenue from granting tax treaty benefits to the taxpayer under Article 13(4) of the treaty as the shares were acquired prior to 1 April 2013.

Whether reimbursement of software license fee from Indian AEs is taxable as “Income from other sources” or “business income?”

GE Precision Healthcare LLC TS-456-ITAT-2023(DEL)

Facts

The taxpayer, a tax resident of US, operates in the healthcare sector as a global medical device provider under the General Electric (GE).

The taxpayer purchased certain standard commercial software licenses from third party and sublicensed to its affiliates in India to aid in their smooth business operations. The same was sublicensed on cost to cost basis.

The taxpayer treated such sub-licensed fee as business income under Article 7 of India-USA Double Taxation Avoidance Agreement (DTAA), since there is no Permanent Establishment (PE), and did not offer the same to tax in India. However, the Revenue disregarded this approach and considered such income as income from other sources under the Act and Article 23(3) of the Treaty as the same was not taxable as per Article 12 of the tax treaty.

Held

The Delhi Tribunal quashed the Revenue’s approach of addition of reimbursement of software license fee received by a taxpayer from its Indian AEs and held that receipt by way of sublicensed amount could have been characterized either as royalty income or business income, not as other income under Article 23(3) of the Treaty.

The Tribunal opined that the taxability of a particular income falling under any Article of a tax treaty is subject to fulfillment of the conditions laid down in the applicable Article. However, if the income is not taxed due to non-fulfillment of such conditions, the same cannot automatically be re-characterized as other income.

Our Comments

The Tribunal held that since the reimbursement of software fee can be classified under other Articles of the tax treaty (i.e., Article 7 and 12), it cannot be treated as a residuary income as per Article 23 of the tax treaty.

Transfer Pricing provisions are not applicable in the absence of income from a transaction

WNS Global Services Pvt Ltd ITA No. 2450 & 2451/Mum/2022

Facts

The taxpayer is engaged in providing ITeS services. During the years under appeal, the taxpayer acquired equity shares from its AE at the value determined based on a valuation report issued by an independent valuer [weighted average of two approaches, namely, Markets Multiple Method (MMM) and Discounted Cash Flow method (DCF)].

The Transfer Pricing Officer

The Transfer Pricing Officer (TPO) rejected the benchmarking done by the taxpayer and reworked the Fair Value using DCF Method by replacing the projections with actuals. Furthermore, the TPO proceeded to treat the securities premium over and above the value determined by the TPO as deemed loan and proposed TP adjustment imputing interest at the rate of 2.74% on the said deemed loan. The Dispute Resolution Panel (DRP) partially upheld the adjustment made by the TPO by applying an interest rate at six months LIBOR (+) 100 bps and, accordingly, reduced the TP adjustment.

Held by the ITAT

On perusal of the material on record and hearing submission from both sides, the ITAT noted that an identical issue of purchase of equity shares had come up for consideration before the Co-ordinate Bench in the taxpayer’s own case for an earlier year wherein it was clarified by the Tribunal that ‘projections can’t be substituted by actuals and hindsight ought not to affect a valuation report’. The Co-ordinate Bench further opined that reference to TPO in this case is bad in law as the transaction of purchase of shares, in the absence of income, does not constitute an international transaction.

Our Comments

The judgment reiterates and confirms the earlier pronounced decisions of Hon’ble High Court¹⁰ that TP provisions cannot be invoked in the absence of an income element in a transaction. The decision also highlights the importance of the rule of consistency, which should not be overlooked.

PLI of assessee qua PLI of comparable – Berry ratio or OP/OC

ADM Agro Industries Kota & Akola P. Ltd TS-355-ITAT-2023(DEL)-TP

Facts

The assessee is engaged in trading activity (physical trading of agricultural commodities, such as sorghum, barley, wheat, oilseeds, yellow peas, etc.) and merchanting trades [in agricultural commodities under the Foreign Exchange Management Act and guidelines issued by the Director General of Foreign Trade (DGFT)].

The TPO accepted the Arm’s Length Price (ALP) of the trading segment but rejected the ALP of the merchanting trades segment on the basis that Profit Level Indicator (PLI) selected for a tested party,i.e., Operating profit (OP)/ Value added Cost (VAC) (Berry Ratio) is different from the PLI of the comparable companies,i.e., OP/Operating Costs (OC). TPO held that the PLI adopted by the assessee is not in conformity with Rule 10(B)(1)(e).

Held by the ITAT

ITAT reiterated the relevant rules and explained the following:

• If operating expenses are considered as a relevant base, there would be no difficulty in using the Berry Ratio as a PLI in terms of Rule 10(B)(1)(e).
• That Berry Ratio can be applied only in case of stripped-down distributors with no financial exposure and risk, placing reliance on High Court Judgement¹¹.
• Berry ratio is not appropriate PLI where the assessee has substantial fixed assets or uses intangible assets as part of its business.
• Rejected the TPO contention of adding the cost of goods to the denominator as the comparable companies are business auxiliary service providers.

Our Comments

ITAT clarifies that if the functionalities of the assessee are comparable to that of the comparable service providers earning fixed margins basis the limited functions and risks, the Berry Ratio can be adopted as the appropriate PLI to determine the ALP.

Whether the purchasing dealer can be denied the benefit of Input Tax Credit (ITC) in cases where the supplier fails to pay the tax so collected?

Astha Enterprises vs. State of Bihar and Another TS-407-HC(PAT)-2023-GST

Facts

The petitioner was denied ITC on the purchase of goods on the ground that the supplier had defaulted in payment of tax liability.

Having failed to file an appeal within the prescribed due date, the petitioner assailed the assessment order under the writ jurisdiction of Patna HC.

As per the petitioner, the recovery sought now had the character of double taxation. Instead, the Department should have proceeded against the selling dealer to recover the collected amount of tax.

Ruling

HC observed that the conditions of Section 16(2) of the Bihar GST/CGST Act are to be satisfied together and not separately or in isolation.

ITC, by the very nomenclature, contemplates credit being available to the purchasing dealer by way of payment of tax by the supplier to the government.

Referring to the SC judgment in the case of Ecom Gill Coffee Trading Pvt. Ltd. [TS-99-SC-2023-VAT], HC added that even if the petitioner had produced invoices, account details and documents evidencing transportation of goods, this did not absolve them from the rigor provided under Section 16(2)(c) of the Bihar GST/CGST Act.

The benefit (of ITC) is one conferred by the statute and if the conditions prescribed therein are not complied with, no benefit flows to the claimant, held the Court.

It rejected the petitioner’s contention of double taxation while also refusing to absolve the liability of the recipient in the presence of statutory measures to recover tax from the selling dealer.

HC remarked the government could use its machinery to recover the amounts from the selling dealer and the purchasing dealer could possibly seek a refund; however, “as long as the tax paid by the purchaser to the supplier, is not paid up…the purchaser cannot raise a claim of Input Tax Credit under the statute”.

Moreover, HC found that Madras HC’s decision in DY Beathel Enterprises had ignored the provision of Section 16(2)(c).

Our Comments

This decision should further tighten the noose for taxpayers as they would now be required to verify the GST registration as well as GST returns, viz. GSTR-1 and GSTR-3B filing status of all suppliers/ vendors since the inception of GST regime to enable smooth ITC availment.

Going forward, the businesses may revisit their vendor agreement clauses to provide for indemnity against loss of ITC in the event of failure on the supplier’s part to comply with GST provisions.

Whether the GST Department could initiate audit of a prior period after the closure of business and cancellation of GST registration?

Tvl. Raja Stores vs. The Assistant Commissioner (ST) TS-421-HC(MAD)-2023-GST

Facts

Audit proceedings under Section 65 of the CGST Act were sought to be initiated against the petitioner after the closure of business and cancellation of GST registration on the ground that the petitioner had failed to pay the collected tax during the period FY 2017-18 to FY 2021-22.

The petitioner challenged the show cause notice before the Madras HC.

Ruling

Perusing the said Section, HC observed, “When the Section specifically states ‘any registered person,’ then it ought to be construed as existence concern, and the unregistered person is exempted from the purview of the said Section.”

When a Section provides for a periodical audit, the Revenue, having failed to conduct an audit for all these years, suddenly cannot wake up and conduct an audit.

However, it clarified that this will not preclude the Revenue from initiating assessment proceedings for the said concern under Sections 73 and 74.

Accordingly, it quashed the impugned notice while granting liberty to the Revenue to initiate assessment proceedings against the petitioner.

Our Comments

In recent times, we have witnessed a surge in notices being issued to taxpayers seeking to initiate scrutiny of returns/assessments/audits for the first five years of the GST regime.

While cancellation of GST registration may not absolve any person from the liabilities for the past period and action can be taken against him at a future date, it would be a good trade facilitation measure to have a proper verification process in place at the Department’s end to ascertain any possible liabilities before approving the surrender application.

As a corollary, it would be equally imperative for the taxpayers to look at all probable risks and applicable compliances before applying for cancellation of registration.

Mumbai ITAT allows set off of brought forward losses pursuant to change in shareholding inter-se shareholders

Hiranandani Healthcare Private limited TS-434-ITAT-2023(Mum)

The Mumbai Bench of the Income Tax Appellate Tribunal (ITAT) has held that Section 79 would not restrict setting off of brought forward losses if the shares of the company carrying not less than 51% of the voting power were beneficially held by the “very same persons” in the years in which the losses were incurred and the years in which the said loss was sought to be set off.

In the given case, taxpayer’s shareholding pattern underwent a change due to the fresh issue of shares, prior to which the shareholding pattern stood at 40:60. After the issue, the shareholding pattern changed to 85:15, while the shareholders remained unchanged. The taxpayer claimed set off of brought forward losses. The tax authority rejected taxpayer’s claim of set-off of brought forward losses by invoking Section 79 on the premise that the shareholding of the individual who was holding 85% fell below 51%.

However, ruling in favor of the taxpayer, ITAT has observed that after the issue of fresh equity shares, there were only two shareholders, which forms a group having 51% of the voting power in the year in which loss was incurred and the year in which the loss was sought to be set off, i.e., there was no change in the shareholding pattern of the group even though there is an increase in shareholding of one of the shareholders.

Our Comments

Section 79 of the Act prohibits the carry forward of losses in case the shareholding pattern of the persons who beneficially held the company falls below 51% vis-à-vis the shareholding pattern in the relevant previous year in which such business loss is incurred.

The object of this provision is to curb the practice of profitable companies acquiring loss-making companies for the sole purpose of utilizing tax losses through the set-off of such losses against the profits. Considering the shareholding continued to remain with the same set of shareholders, the eligibility to continue to carry forward the loss was upheld.

This decision would be pertinent in the case of corporate restructuring exercises amongst group companies with common shareholders and family-owned businesses, wherein change in shareholding takes place as part of management strategies and appropriation of family wealth inter-se family members.

Supreme Court holds classification of item as stock in trade in books of accounts is not indicative of tax treatment

Commissioner of Income-tax v. Glowshine Builders & Developers (P.) Ltd. [2023] 150 taxmann.com 111 (SC)

The taxpayer was engaged in the business of building and developing properties. During the year, the taxpayer Development Rights (TDR). The taxpayer offered the sale income as business income. However, the tax authority treated the same as short-term capital gains. The Tribunal held the sale to be considered as business income.

Remanding the matter back to Tribunal for fresh examination, the Supreme Court has held that all relevant aspects/ relevant factors need consideration while considering a transaction as the sale of stock-intrade/ business income or sale of capital asset. The Court observed that the tax authority had specifically recorded the findings on examining the balance sheet that there was not even a single sale during preceding previous years, there were negligible expenses, and the transaction in question was the only transaction, i.e., transfer of development rights in respect of land and consequently. It was held that the transaction was one of transfer of capital assets and not one of transfer of stock-in-trade. Merely based on the recording of the inventory in the books of the transaction in question would not become transfer of stock-in-trade. As per the settled position of law, to examine whether a particular transaction is the sale of capital assets or of stock in trade, multiple factors like frequency of trade and volume of trade, nature of transaction over the years, etc., are required to be examined.

Our Comments

This decision reiterates the position that mere disclosure of an item in the books of accounts does not determine its tax treatment. Classification in books of accounts is not conclusive but could be one of the factors. While the classification of items in the books of accounts is generally in line with the principal business objectives of the entity, several factors are to be examined in conjunction to assess the treatment.

SEBI Listing Regulations

SEBI introduces a stricter delisting framework for voluntary delisting of non-convertible debt securities and non-convertible redeemable preference shares

The SEBI has notified the SEBI (Listing Obligations and Disclosure Requirements) (Third Amendment) Regulations, 2023, which has come into force from 23 August 2023. Vide this notification, a new Chapter VIA has been inserted, which provides the framework for voluntary delisting of non-convertible debt securities or non-convertible redeemable preference shares and obligations of the listed entity on such delisting. The provisions of this Chapter VIA shall be applicable to the voluntary delisting of all listed non-convertible debt securities or non-convertible redeemable preference shares from all or any of the stock exchanges where such non-convertible debt securities or non-convertible redeemable preference shares.

As per the revised regulations, listed entities with more than 200 non-QIB (qualified institutional buyers) holders of non-convertible debt securities will not be allowed to delist voluntarily. Unlike equity, wherein approval by a threshold majority is sufficient for approval of delisting, in the new framework, approval of 100% of the debt security holders has been mandated for the delisting of debt securities. Further, the delisting proposal shall be considered to have failed if non-receipt of in-principle approval from the stock exchange, non-receipt of no-objection certificate from the debenture trustee, and non-receipt of approval from all the holders of non-convertible debt securities.

Our Comments

In a bid to protect investors, market regulator SEBI has proposed tighter norms for the delisting of non-convertible debt securities. It has specified a well-defined framework for the delisting of non-convertible debt securities by listed entities, which will augment the ease of doing business for listed entities proposing to delist their non-convertible debt securities.

LLP Regulations

MCA introduces new LLP Amnesty Scheme

The Ministry of Corporate Affairs (MCA) has issued a general circular no. 8/2023 dated 23 August 2023 and granted one-time relaxation in additional fees to those LLPs who could not file Form 3, Form 4 and Form 11 within the due date and provided an opportunity to update their filings and details in Master-data for future compliances.

Salient features are mentioned below:

• Form 3 and Form 4 will be processed under the Straight Through Process (STP) mode, except for cases involving changes in business activities. Furthermore, stakeholders are advised to file these forms sequentially.
• These forms will provide the facility to edit the pre-filled master data, which is available as the existing master database of the LLP. However, the onus of filing the correct data would be on the stakeholders.
• The filing of Form 3 and Form 4 without additional fees shall be applicable for the event dates 1 January 2021 onwards. For the events prior to the aforesaid period, these forms can be filed with two times and four times the normal fees as additional fees for small LLPs and other than small LLPs, respectively.
• The filing of Form 11 without additional fees shall be applicable for the FY 2021-22 onwards
• These forms shall be available for filing from 1 September 2023 onwards till 30 November 2023.
• The LLPs availing the Scheme shall not be liable for any action for the delayed filing of aforesaid forms.

Our Comments

The introduction of the LLP Amnesty Scheme by the Ministry of Corporate Affairs marks a significant step towards easing compliance for LLPs. By offering condonation of delay and simplifying the filing process for form-3, form-4, and form-11, the Scheme aims to enhance the ease of doing business and promote timely regulatory adherence. LLPs now have the opportunity to rectify past delays and ensure accurate filings, contributing to a more transparent and compliant corporate ecosystem.