 "Tax shadow over deals with unhelpful jurisdictions")
The Madras High Court last week delivered a significant judgment with potentially wide-reaching consequences on tax treaties with tax havens. Dismissing a writ petition challenging the validity of Section 94A of the Income Tax Act, 1961, the judgment declares Cyprus as a non-cooperative jurisdiction for the purposes of Indian taxation.
According to Sunil Shah, partner, Deloitte Haskins & Sells LLP, Section 94A of the Act was enacted in the Income Tax Act in 2011, enabling the government to declare any country as non-cooperative if there was no effective exchange of information with that country. "Once a country is notified, several consequences follow such as the application of transfer pricing compliances, documentation requirements for deduction for payments to such country or outright denial of deductions, requirements to prove the source of inbound receipts and higher withholding tax," Shah said.
In October 2014, a tri-partite agreement was signed between the petitioners, a Cyprus-based company, Skyngelor, and an Indian company, Kovai Real Estate, for sale of equity shares and compulsorily convertible debentures owned by Skyngelor in Kovai Real Estate. After three months of the agreement and sale, the petitioners received showcause notices from the income-tax authorities, drawing their attention to Section 94A of the Act, and a notification dated November 1, 2013, for default of non-withholding of tax.
Appearing before the assessing officer, the petitioners contended that there was no liability for them to deduct tax at source. Negating the contentions made, the assessing officer directed the petitioners to pay tax and interest. The petitioners, thereafter, filed a writ petition in the Madras High Court challenging the validity of Section 94A of the Act.
The main contention of the petitioners was that the government had previously entered into a taxation treaty with the Republic of Cyprus under Section 90(1) of the Act on December 21, 1994. That being the case, neither Parliament nor the government could act contrary to the treaty as long as it was in force, even if it were inconsistent with the rest of the Act.
The petitioners also contended that the power of the government under Section 94A should be limited to only those jurisdictions with whom no such treaty exists.
After hearing the case, the Madras High Court dismissed the petition. The court held that Section 90 of the Act does not, explicitly or by necessary implication, say that it shall eclipse other provisions of law. International treaties would only apply to the extent that it is not inconsistent with domestic laws of the state. The court also mentioned that the powers delegated to the government under Sections 90(1) and 94A of the Act were not interdependent.
The court held that it was impossible to think the supremacy of Parliament could be compromised by the government entering into a treaty as no such provision existed in the Constitution. Even according to Article 26 of the Vienna Convention, which has not been ratified by India, there was an obligation on both parties to act in good faith, and provide necessary information, failing which the treaty in its essence stood breached by conduct of the defaulting party.
The court also referred to the resolution of the G20 nations in April 2009 to take action against non-co-operative jurisdictions and 'tax-havens' and highlighted the necessity of Section 94A to rectify such issues calling it the 'need of the hour' while upholding the validity of the section.
It will now have to be seen whether this matter approaches the doors of the Supreme Court in due course and how the court appreciates and adjudicates the same. If the views of the Madras High Court are anything to go by, cross-border transactions with Cyprus will be a complex situation for a while to come.
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