AAR declines ruling to a Mauritius

Mauritian entities have found it difficult to benefit from the capital gains tax exemption under the India- Mauritius double taxation avoidance agreement (DTAA) upon exit from Indian investments with the tax department questioning the said benefits. Recently, the Authority for Advance Ruling (AAR), declined to give a ruling on taxability of a Mauritian resident in India, on the grounds that the transaction was prima facie designed for avoidance of tax.[1]

Brief Facts

In the said case, Tiger Global International II Holdings, Tiger Global International III Holdings and Tiger Global International IV Holdings (Applicants), were companies incorporated in Mauritius, with the primary objective of undertaking investment activities and earning investment income. The Applicants had transferred shares in Flipkart Private Limited (Flipkart), a company incorporated and listed in Singapore, to a Luxembourg-based buyer. Flipkart had in turn invested in multiple Indian companies and its shares derived substantial value from assets situated in India[2]. Thus, under the Income-tax Act, 1961 (IT Act), the gains arising to the Applicants on sale of shares of Flipkart would be taxable in India.

The Applicants had approached the tax authorities to obtain a ‘nil’ withholding certificate, prior to the consummation of the said transaction, on the basis that they were entitled to exemption from Indian capital gains tax under the DTAA. However, the tax authorities denied benefit of the DTAA to the Applicants on the ground that the control and management of the decision regarding the sale or purchase of the shares did not vest with the Applicants. The Applicants then approached the AAR, seeking clarification on the availability of the benefit of DTAA, resulting in exemption of capital gains from taxation in India.

Key Arguments before the AAR

Amongst other technical objections, the tax department argued that the control and management of the Applicants was in the hands of persons based in the United States of America (USA), and that the transaction was designed merely to avoid taxes. As per the tax department, the Applicants were not acting independently, but only as a conduit for the real beneficial owners who were based in the USA. The department also relied on the summary of meetings to support their claim that the control and management of the Applicants vested with the US beneficiaries by referring to the fact that a US resident Director (who was also the General Counsel of the US shareholder of the Applicants) had attended all the board meetings of the Applicants in which crucial decisions were taken and that the Mauritius Directors were in effect mere spectators or took advice from the said US resident Director. Additionally, the department also relied upon the fact that the financial control and signing authority in respect of the Applicants vested with another individual who was not a part of the board of directors of the Applicants. This individual was also a signatory to the bank accounts of the US parent entity. Accordingly, the tax department sought to invoke section 245R(2)(iii) of the IT Act, under which the AAR is prevented from entertaining an application, if the application pertains to a transaction which is prima facie for tax avoidance. The Applicants on the other hand argued that the impugned transaction was a sale of share simpliciter between two unrelated parties and cannot be considered a transaction for tax avoidance.

Ruling of the AAR

The AAR rejected the application on the grounds that it is related to a transaction or issue which was prima facie undertaken for avoidance of income-tax. The AAR observed that it is required to look at the entire transaction starting from acquisition of shares till the point of sale of the shares as a whole and that it could not adopt a dissecting approach by examining merely the sale of shares in order to determine if the transaction was undertaken to avoid taxes.

In the facts of this case, the AAR opined that the holding structure, coupled with prima facie management and control of the structure, including the management and control of the Applicants would be relevant factors for determining whether the structure was a design for tax avoidance. The AAR enumerated several facts in support of its eventual conclusion that the Applicants were merely ‘see through entities’, which were established to avail the DTAA benefit, and hence under section 245R(iii) of the IT Act the AAR considered it inappropriate to rule on the questions raised in the application. The facts relied on by the AAR included the minutes of the board meetings where it emerged that key decisions were taken by non-resident directors; a US-based person, Mr. X, had the authority to operate the Mauritius bank accounts for amounts above a certain limit and that the Applicants could not provide a cogent enough reason as to why a US-based person, rather than a person based in Mauritius, was authorised to operate a Mauritian bank account. This Mr. X was the beneficial owner of one of the Applicants, as per the filings made with the Mauritian authorities and he was also the authorised signatory of the immediate parent companies of the Applicant. Thus, the AAR opined that Mr. X exercised significant influence over the group. The AAR therefore held that even though the decision to sell the shares was taken by the board of directors, Mr. X exercised the real control over such decisions. Additionally, the fact that the Applicants were established to make investments and that they had only made investments in Flipkart, further supported their view that the Applicants were merely a device to avail the benefit of the DTAA and there was a fit case to invoke the provision of section 245R(iii) .

Interestingly, and with all due respect, erroneously, the AAR also noted that as per Article 13 of the India-Mauritius DTAA, only the capital gains arising from sale of shares of Indian companies are intended to be exempt from Indian taxation. Accordingly, it held that the gains arising to the Applicants from sale of shares of Flipkart (Singapore), which substantially derived value from Indian assets, would not be exempt under the India-Mauritius DTAA.

Concluding Remarks

It is crucial to note that despite the grandfathering provisions, both under the DTAA and general anti avoidance rules (GAAR), it has been noticed that the tax department has been looking to deny the capital gains tax exemption to Mauritius resident entities, who have invested in India prior to April 1, 2017, and whose parent companies or ultimate investors are in other jurisdictions, e.g. in the US. The tax department has been questioning the bona fide of such investments. The AAR in another recent ruling[3] had also declined to allow the application of two Mauritian entities, seeking clarification on the eligibility to claim capital gains tax exemption under the DTAA, by invoking section 245R(2)(iii) of the IT Act. In that case, the AAR noted that the Mauritian entities (applicants) acquired the shares of the Indian company through the funding arranged by their Indian group entities. It was also noted that the Indian group entities had complete control over the applicants, as the applicants were pledging the shares of the Indian companies for the benefit of the group entities, the proceeds from the sale of shares were utilised as per the instruction of the group entities, etc. Thus, it held that the applicants were merely see-through entities and actual control of the shares was with the Indian entities.

This is a worrying trend in as much as it seems to go beyond the intent of the grandfathering provisions. It is also interesting to observe that these very same arguments advanced by the tax department were raised in 2010 in the case of E*Trade Mauritius[4] before the AAR, where the AAR had rightly accepted to be bound by the law laid down by the Supreme Court (SC) of India in the case of Azadi Bachao Andolan[5] and concluded that “treaty shopping” was not prohibited especially in case of investments in India via Mauritius. The two states had negotiated the DTAA with a specific objective and that objective needed to be upheld. Despite the renegotiation of the DTAAs, the law laid down by the SC in the Azadi Bachao Andolan case remains unchanged at least as far as grandfathered investments are concerned. It seems that despite the grandfathering provisions, the investors would be well advised to ensure that their facts on ground in Mauritius (as well as Singapore and Cyprus, which are also under the same category) need to demonstrate robustness of residence, control and management being situated in those jurisdictions. Such taxpayers whose applications are rejected by the AAR on the grounds of tax avoidance, may seek relief by invoking the writ jurisdiction of the courts.

It is also surprising that in this case the AAR has denied the capital gains tax exemption under the India-Mauritius DTAA in case of indirect transfer of shares of Indian companies. The saving grace is that this was merely an obiter, as the AAR had rejected the application based on the preliminary objection itself. It appears that the AAR has not appreciated the residual clause in Article 13(4) of the DTAA, which provides that the transfer of assets (which is not specifically dealt with in the preceding paragraphs) by a Mauritian resident would only be subject to tax in Mauritius. As a result, shares of a foreign company, which derive substantial value from Indian assets would fall in this residual category of Article 13(4) of the DTAA and should not be subject to tax in India. It is relevant to note that there are judgments of the Andhra Pradesh High Court[6] and the Delhi High Court[7] where benefit of exemption from capital gains tax was allowed to a taxpayer residing in jurisdictions that have same or similar residual capital gains tax article in the DTAA with India. While it appears that these favourable cases were not discussed or referred to by the AAR, this observation of the AAR is likely to unnerve foreign investors looking to invest into India indirectly due to the general uncertainty that it brings with it.


[1] Application No. AAR 4,5&7 of 2019

[2] Share of a foreign company is deemed to derive substantial value from the assets (whether tangible or intangible) located in India, if, on the specified date, the value of such assets exceeds INR 100 Million (USD 1.5 Million) and the assets represent at least 50% of the value of all the assets owned by the foreign company.

[3] “AAR: Declines ruling on India-Mauritius treaty benefit, finds ‘prima-facie’ tax avoidance, suppression of facts”, October 14,2019, Taxsutra

[4] In re E*Trade Mauritius (2010) 324 ITR 1 (AAR)

[5] Union of India vs. Azadi Bachao Andolan (2003) 263 ITR 706 (SC)

[6] Sanofi Pasteur Holding SA v. Department of Revenue (2013) 30 taxmann.com 222 (Andhra Pradesh HC)

[7] DIT (International Tax) v. Copal Research Limited TS-509-HC-2014 (Delhi HC)

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