AAR reiterates applicability of India-Mauritius tax treaty to foreign investors

The Hon’ble Authority for Advance Rulings (AAR), in its latest ruling delivered on Wednesday, 18 July 2012, in the case of a Foreign Venture Capital Investor (FVCI) based in Mauritius, has granted benefit of capital gains tax exemption in India under the India-Mauritius Tax Treaty (Mauritius Treaty).

Under the Mauritius Treaty, capital gains arising to a resident of Mauritius from sale of shares of an Indian Company are exempt from tax in India under Article 13(4) of the Mauritius Treaty.

Dynamic India Fund I (Applicant), a company incorporated in Mauritius, was holding a valid Tax Residency Certificate (TRC) issued by the Mauritius Revenue Authority (MRA) and was registered as an FVCI with the Securities and Exchange Board of India.

The Applicant did not have a ‘permanent establishment’ in India. It had invested in shares of different Indian companies and proposed to sell some of those shares on which it expected to realise capital gains.

It applied for an advance ruling before the Hon’ble AAR on the question whether capital gains arising on sale of shares of the Indian companies would be exempt from tax in India under Article 13(4) of the Mauritius Treaty and consequently, the buyer would not be required to withhold any tax.

While allowing the benefit of capital gains tax exemption in India, the Hon’ble AAR has followed and applied the landmark ruling of the Supreme Court of India (SC) in the case of Azadi Bachao Andolan (SC Ruling). As is widely known, in order to provide certainty and clarity to foreign investors, the Central Board of Direct Taxes (CBDT), Ministry of Finance, Government of India had issued Circular No 789 dated 13 April 2000 (Circular) to the effect that where a TRC is issued by the MRA, such certificate will constitute sufficient evidence for accepting the status of residence of the Mauritius entity as well as the ‘beneficial ownership’ of the shares for applying the Treaty. The validity of this Circular was later upheld by the SC Ruling.

Advance Ruling

The Hon’ble AAR ruled that capital gains arising on sale of shares of the Indian companies would be exempt from tax in India under Article 13(4) of the Mauritius Treaty read with the SC Ruling.

While ruling on the availability of tax exemption in India, the Hon’ble AAR rejected the following arguments of the Tax Authorities:

–        Treaty benefit is to be denied as it is a case of treaty shopping since majority of investors of the Applicant are not from Mauritius

The AAR observed that in light of the SC Ruling, treaty shopping is not prohibited under Mauritius Treaty[1]

–        Since no capital gains tax is actually levied in Mauritius, benefit of a Tax Treaty is not to be allowed

The AAR observed that this aspect of law is already dealt with in the SC Ruling and therefore, is not open to this Authority to entertain this argument of the Tax Authorities. The SC Ruling is binding on this Authority and therefore, if desired, the Tax Authorities will have to canvass such questions before the SC.

–        Some of the members on the board of the Applicant were Indian residents and therefore, the Mauritius Company was controlled from India

The AAR noted that apart from some Indian residents being on the board of the Applicant, there were two local resident directors in Mauritius and a few other non-resident directors. Therefore, it cannot be said that the Applicant was controlled from India. It also observed that the Tax Authorities did not produce adequate material to support their contention that the control of the Mauritius Company was really in India to deny them treaty benefit.

–        General Anti Avoidance Rules (GAAR) provisions would apply to deny treaty benefit in cases of treaty shopping

–        The amendment to Indian tax laws by the Finance Act, 2012, that a TRC should contain prescribed details and particulars for a non-resident to claim benefit of tax treaty in India, will also come into force from the next financial year (FY), i.e. FY 2013-14[2].

The AAR observed that the GAAR provisions have no relevance here as they would come into effect only from 1 April 2013 and it will be open to the Tax Authorities to consider these aspects as and when they come into force notwithstanding this ruling.

Accordingly, the AAR concluded that capital gains arising in India from the proposed sale of shares of Indian companies would be exempt from tax in India under Article 13(4) of the Mauritius Treaty and accordingly, there will be no obligation on the buyer to withhold any tax in India.

Concluding Comments

This is a welcome ruling which has followed the settled legal position on applicability of the Mauritius Treaty based on the SC Ruling. This AAR ruling will be reassuring for foreign investors and will help clearing any uncertainty surrounding application of the Mauritius Treaty based on the current law. The AAR has taken a consistent view on applicability of the Mauritius Treaty in various cases like E*TRADE Mauritius, Ardex Investments, etc.

From the perspective of M&A transactions, deal structuring, etc, with one more such ruling in place, where a judicial forum has once again reiterated the applicability of the Mauritius Treaty to foreign investors, one hopes that such rulings consistently restating the legal position on the subject, should give added comfort to buyers while making payment to Mauritius companies for not having to withhold any tax in India.