The law is settled that when a foreign company holding shares in an Indian company, sells the shares of the Indian company to another non-resident, the capital gains on such sale will be chargeable to tax in India. In such a situation, the transfer of shares would take place outside India. The transfer deed would also be executed outside India and the consideration for transfer would also arise outside India. Nevertheless, since the transaction would involve the transfer of shares of an Indian company, the resulting income shall be deemed to accrue or arise in India by virtue of Section 9(1)(i) of the I-T Act. Hence the same would be taxable as capital gains in India.
The aforesaid position is however subject to the provisions of the applicable Double Taxation Avoidance Agreement.
There may be a situation when the shares of the Indian company are transferred by a non-resident to another non-resident without any monetary consideration. This can happen in case of reorganization within the same group companies. It is quite common in developed countries to reorganize the capital structure of the group companies. Whereas there are provisions in the Indian Income-tax Act dealing with merger, demerger and amalgamation, there is no direct provision dealing with general reorganization of the capital structure of the group companies.
In this context, the recent decision of the Hon’ble Authority for Advance Ruling in the case of Goodyear Tire and Rubber Company dated 02.05.2011 is worth consideration. In this case, the applicant, a company incorporated in USA, is holding 100% shares of a company incorporated in Singapore and is the promoter of an Indian company holding 76% of its shares.
As part of its global corporate strategy, the applicant is contemplating a reorganization of its investment in its Indian arm. The applicant proposes to enter into a Share Contribution Deed to contribute voluntarily the entire 74% shares of Indian company to Singaporean company, without any consideration.
The applicant sought ruling of the Authority as to whether in the absence of any monetary consideration payable on account of such transfer, the Applicant is liable to pay capital gains tax in India.
The applicant submitted that it voluntarily proposes to transfer/contribute shares in Indian company without any monetary consideration. The shares of Indian company are capital assets and any profits or gains arising from its transfer are chargeable to tax under the head ‘Capital gains’. However, as the full value of consideration received or accruing as a result of the transfer is nil, the mechanism to charge the capital gains to tax fails.
Considering the aforesaid facts and the legal position discussed in other cases, the Authority held “we have no hesitation in holding that no consideration would accrue or arise to the applicant by the transfer of shares and the applicant cannot be said to have derived any profit or gain from the transaction. We are of the view that as the ‘consideration’ is incapable of being valued in definite terms or it remains unascertainable on the date of occurrence of taxable event, the question of applying section 45 read with section 48 of the Act would not arise.”
Further, the issue of transfer pricing was also referred to the Authority. The issue of transfer pricing was raised because section 92 of the Income-tax Act provides that any income arising from an international transaction shall be computed having regard to the Arm’s Length Price. Further, international transaction has been defined to mean a transaction between two associated enterprises either or both of whom are non-residents. In the instant case, the transaction is between two non-resident associated enterprises.
Therefore, the applicant raised this question before the Authority. The Authority held that the provisions of transfer pricing will not be applicable in the absence of liability to pay tax.
Thus, in case of re-organisation there may be no tax liability in India. Further, the transfer pricing provisions will also not apply.
H.P.Agrawal (Author is a Sr. Partner in S.S. Kothari Mehta & Co.) firstname.lastname@example.org