An investment vehicle set up in a tax friendly jurisdiction is not a sham entity - Tax treaty benefits cannot be denied to it

Under the India-Mauritius tax treaty, erstwhile Article 13(4) provided that gains from sale of shares in a company would be taxed in the State where the transferor is resident. The provisions of Article 13 were modified subsequently to provide that if the investment in shares were made on or after April 1, 2017 such gains would be taxable in the source State. Therefore, where shares of an Indian company were acquired on or after April 1, 2017 by a resident of Mauritius, such gains would be taxable in India in the hands of the transferor. However, if the shares were acquired prior to April 1, 2017 such gains would continue to be taxed in Mauritius on account of the grandfathering clause.

Now the questions are : If a Mauritian company’s shares are held by resident of other countries, can the said company be regarded as a resident of Mauritius? What are the preconditions to be fulfilled by the company to be regarded as resident of Mauritius? Is TRC issued by Mauritian tax authorities a sufficient condition? These issues were dealt by the Delhi High Court in the case of Tiger Global Mauritious (‘TG’) in a judgment pronounced last month.

Facts of the case:

TG was a privately held company incorporated in Mauritius with the primary objective of undertaking investment activities. It raised funds from over 500 investors across 30 jurisdictions globally. TG United States (parent entity of the Group) was not a shareholder in TG. It had acquired shares of Flipkart Singapore which in turn held shares in Flipkart India. The shares in Flipkart Singapore were acquired between October 2011 and April 2015. In May 2018, TG sold the shares held in Flipkart Singapore to Walmart. TG claimed benefit of grandfathering provisions of Article 13 and was of the view that since the shares were acquired prior to 1 April 2017, the gains are not taxable in India. It produced the TRC issued by Mauritian tax authorities in support of its claim that it is a tax resident of Mauritius.

Delhi High Court's observations:

When the matter was brought before the Authority for Advance Ruling (‘AAR’), the AAR held against TG. Pursuant to TG’s application before the High Court of Delhi, the High Court held as follows:

1. Under the facts and circumstances of the case, TG cannot be held to be a sham entity and lacking economic substance. TG used to hold regular Board meetings in Mauritiusand the Board was involved in active decision-making.
2. Just because an entity (an investment vehicle) is set up in a tax-friendly jurisdiction (in this case, Mauritius), it does not ipso facto mean that the entity is involved in treaty shopping.
3. A tax treaty is an agreement between two Sovereign States and where such treaty provides for a grandfathering clause, the same needs to be respected. Domestic tax law provisions cannot override provisions of a tax treaty.
4. General Anti Avoidance Rules (‘GAAR’) is applicable only where transaction is designated for tax avoidance. Where a transaction is carried out to achieve the objectives in Memorandum and is part of a larger global transaction, it cannot be regarded as sham and intended for tax avoidance.
5. Payment of service fee to a group entity does not imply that the recipient entity is involved in control and management of the paying entity.

Comments:

It is hearting to note that the legacy of Supreme Court's decisions in Azadi Bachao Andolan and Vodafone are being continued by High Courts while interpreting tax treaties. AP High Court’s decision in Sanofi and the current decision in Tiger Global are testimony to this fact. Supreme Court’s decisions in Blackstone Capital Partners?is expected to provide more clarity in this matter.