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DATE: (Date of pronouncement)
DATE: December 20, 2010 (Date of publication)
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Click here to download the judgement (vodafone_essar_merger-tax_planning.pdf)


Transaction in the nature of “Gift” not within ss. 391 – 394 of Cos Act. Scheme designed to avoid taxes cannot be sanctioned

Vodafone Essar Gujarat Ltd (“transferor”) filed a Petition u/s 391 to 394 of the Companies Act, 1956 to transfer its ‘Passive Infrastructure Assets’ to Vodafone Essar Infrastructure Ltd (“transferee”) free of liabilities and encumbrances. The corresponding liabilities were not to be transferred. No consideration was payable by the transferee nor were any shares to be allotted to the members of the transferor. Post de-merger, the transferee was to be made a substantially owned company of a new company to be formed by all or some of the shareholders of the transferee. Thereafter, the transferee was to be amalgamated/ merged into Indus Towers Ltd. The application was opposed by the income-tax department on the ground that since no consideration was involved, the transaction was ultra vires. It was also claimed that the transaction did not fall within the anbit of ss. 391 to 394 but was a simple transfer between two separate entities to evade legitimate taxes which would be payable if the transaction was effected as a simplicitor transfer. It was also claimed that the Scheme was solely for purposes of avoiding tax. HELD upholding the challenge and dismissing the Petition:

(i) S. 391 does not contemplate all kinds of schemes but only schemes that are either a compromise or an arrangement with creditors or members or any class of them. The transaction being in the nature of a “gift” is not an “arrangement”. The expression ‘arrangement’ contemplates give and take between the parties as against something in nature of gift which has to be without consideration. The transaction is also not a “reconstruction” because the important criterion for “restructuring” is that the same persons carry on the same business. In the present case, the transferee is not to carry on the business of the transferor;

(ii) A “Gift” which is a transfer of property made voluntarily is not contemplated by s. 391 because the main purpose of s. 391 is to foist the decision of the statutory majority upon the dissenting minority. S. 391 contemplates a forced agreement on the dissenting minority which is contrary to the basic requirement of the gift being a voluntary action;

(iii) The scheme being an agreement without consideration may be void u/s 25 of Contract Act. The court cannot exercise jurisdiction to sanction an agreement which may otherwise to be held as void in law and non-enforceable between parties;

(iv) The transferee shall be claiming benefit u/s 80IA once again on same block of assets on which the transferor had already claimed the benefit u/s 80IA in future once it becomes “eligible undertaking”, which is likely to happen in light of the recommendations in the working committee report;

(v) The scheme appears to be a camouflage to circumvent the mandatory provisions of the Income-tax Act and may be held to be void u/s 281 and if it is so, the court will not exercise jurisdiction to sanction a transaction which is pointed out to be void under law;

(vi) Since no liabilities are transferred including the employees relating to the Passive Infrastructure assets, the expenses will continue to be borne by the transferor which would artificially deplete the taxable profit and will not give a true and fair view of the accounts, thus affecting adversely the taxable profits;

(vii) The transaction is a “conduit” to avoid capital gains because had it been entered into directly with Indus Towers, exemption u/s 2(19AA) & 47(iii) would not be available and tax of about Rs. 3500 crores would be payable;

(viii) The transaction seeks to avoid stamp duty to the tune to Rs. 600 cr because if it had been entered into as a sale to Indus stamp duty @ 6% is payable while in the guise of a demerger, stamp duty @ 1% is payable;

(ix) No VAT shall be payable on the movable assets transferred under the scheme if the same is sanctioned u/s 391 which otherwise would have been payable;

(x) Considering all these aspects, it is foregone conclusion that the avoidance of tax is taking place only if the present scheme is sanctioned by the Court, otherwise not. The transferee is nothing but a paper company being only intermediate for transferring Passive Infrastructure assets from transferor companies to Indus for the purpose of tax evasion. This is clear from the fact that it has only paid up capital of Rs. 5 lacs especially when it is to hold assets worth Rs. 15,000 cr post sanction of the scheme. (Wood Polymer Ltd 47 Comp Cases 597 (Guj) and McDowell & Co 154 ITR 148 (SC) followed).

Note: Though Banyan & Berry 222 ITR 831 (Guj), Azadi Bachao Andolan 263 ITR 706 (SC) and other judgements on tax planning were cited, they have not been considered.

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