Facts

Hutchison Group of Companies (Hong Kong) had acquired interest in the Indian telecom business in the year 1992, when the group invested in Hutchison Max Telecom Limited (HTML) (later known a Hutchison Essar Limited (HEL), which acquired a cellular license in Mumbai circle in the year 1994 and commenced     its operation in the year 1995. Hutchison Group, with the commercial purpose       of consolidating its interest in various countries, incorporated CGP Investments Holding Limited (for short “CGP”) in Cayman Islands as a WOS on 12.01.1998       as an Exempted Company for offshore investments. CGP held shares in two subsidiary companies, namely Array Holdings Limited (for short Array) and Hutchison Teleservices (India) Holding Ltd. [HTIH(M)] both incorporated in Mauritius. CGP(India) Investment (CGPM) was incorporated in Mauritius in December 1997 for the purpose of investing in Telecom  Investment (India) Pvt. Limited (for short TII), an Indian Company. CGPM acquired interests in  four Mauritian Companies and entered into a  Shareholders’ Agreement (SHA)  on 02.05.2000 with Essar Teleholdings Limited (ETH), CGPM, Mobilvest, CCII (Mauritius) Inc. and few others, to regulate shareholders’ right inter se. Agreement highlighted the share holding pattern of each composition of Board of Directors, quorum, restriction on transfer of ownership of shares, Right of First Refusal (ROFR), Tag Along Rights (TARs) etc.

HTIL, a part of Hutchison Whampoa Group, incorporated in Cayman Islands in   the year 2004 was listed in Hong Kong  (HK) and New York  (NY) Stock Exchanges.  In the year 2005, as contemplated in the Term Sheet Agreement dated 05.07.2003, HTIL consolidated its Indian business operations through six companies in a single holding company HMTL, later renamed as Hutchison Essar Ltd.(HEL).

HEL shareholding was then restructured through TII and an Shareholder’s agreement (SHA) was executed on 01.03.2006 between Centrino Trading Company Pvt. Ltd. (Centrino), an Asim Ghosh (Group) [for short (AG)], ND Callus Info Services Pvt. Ltd. (NDC), an Analjit Singh (Group) [for short (AS)], Telecom Investment India Pvt. Ltd. (TII), and CGP India (M). Further, two Framework Agreements (FWAs) were also entered into with respect to the restructuring.

 

 

Vodafone Group Plc. came to know of the possible exit of Hutch from Indian telecom business and on behalf of Vodafone Group made a non-binding offer on

22.12.06. Vodafone and HTIL then entered into a Share and Purchase Agreement (SPA) on 11.02.2007 where under HTIL had agreed to procure the transfer of share capital of CGP by HTIBVI, free from all encumbrances and together with      all rights attaching or accruing together with assignments of loan interest. HTIL    on 11.02.2007 issued a side letter to Vodafone inter alia stating that, out of the purchase consideration, up to US$80 million could be paid to some of its Indian Partners. On 11.02.2007, HTIL also sent a disclosure letter to Vodafone in terms    of Clause 9.4 of SPA – Vendor warranties relating to consents and approvals, wider group companies, material contracts, permits, litigation, arbitration and governmental proceedings to limit HTIL liability.

Vodafone on 20.02.2007 filed an application with Foreign Investment Promotion Board (FIPB) requesting it to take note of and  grant approval under Press  note no. 1 to the indirect acquisition by Vodafone of 51.96% stake in HEL through an overseas acquisition of theentire share capital of CGP from HTIL.

The Joint Director of Income Tax (International Taxation), in the meanwhile, issued a notice dated 15.03.2007 under Section 133(6) of the Income Tax Act calling for certain information regarding sale of stake of Hutchison group HK in HEL, to Vodafone Group Plc.

HEL on 22.3.2007 replied to the letter of 15.03.2007, issued by the Joint Director    of Income Tax (International Taxation) furnishing requisite information relating to HEL clarifying that it was neither a party to the transaction nor would there be    any transfer of shares of HEL.

HEL received a letter dated 23.3.2007 from the Additional Director Income Tax (International Taxation) intimating that both Vodafone and Hutchison Telecom Group announcements/press releases/declarations had revealed that HTIL had made substantive gains and consequently HEL was requested to impress upon HTIL/Hutchison Telecom Group to discharge their liability on gains, before they ceased operations in India. HEL attention was also drawn to Sections 195, 195(2) and 197 of the Act and stated that under Section 195 obligations were both on     the payer and the payee.

HEL on 5.4.2007 wrote to the Joint director of Income Tax stating that it has no liabilities accruing out of the transaction, also the department has no locus standi to invoke Section 195 in relation to non-resident entities regarding any purported tax obligations.

The Income Tax Department on 06.08.2007 issued a notice to VEL under Section 163 of the Income Tax Act to show cause why it should not be treated as a representative assessee of Vodafone. The notice was challenged by VEL in Writ Petition No. 1942 of 2007 before the Bombay High Court. The Assistant Director

 

 

of Income Tax (Intl.) Circle 2(2), Mumbai, issued a show cause notice to Vodafone under Section 201(1) and 201(1A) of the I.T.  Act as to why Vodafone  should not  be treated a assessee-in-default for failure to withhold tax. Vodafone then filed        a Writ Petition 2550/2007 before the Bombay High Court for setting aside the notice dated 19.09.2007. Vodafone had also challenged the constitutional validity  of the retrospective amendment made in 2008 to Section 201 and 191 of the

I.T. Act. On 03.12.2008 the High Court dismissed the Writ Petition No.2550 of 2007 against which Vodafone filed SLP No.464/2009 before this Court and this Court on 23.01.2009 disposed of the SLP directing the Income Tax Authorities to determine the jurisdictional challenge raised by Vodafone as a preliminary issue. On 30.10.2009 a 2nd show cause notice was issued to Vodafone under Section    201 and 201(1A) by the Income Tax authorities. Vodafone replied to the show cause notice on 29.01.2010. On 31.05.2010 the Income Tax Department passed an order under Section 201 and 201(1A) of the I.T. Act upholding the jurisdiction of the Department to tax the transaction. A show cause notice was also issued under Section 163(1) of the I.T.  Act to Vodafone as to why it should not be treated as     an agent/representative assessee of HTIL.

Vodafone then filed Writ Petition No. 1325 of 2010 before the Bombay High Court  on 07.06.2010 challenging the order dated 31.05.2010 issued by the Income Tax Department on various grounds including the jurisdiction of the Tax  Department  to impose capital gains tax to overseas transactions. The Assistant Director of Income Tax had issued a letter on 04.06.2010  granting  an opportunity to Vodafone to address the Department on the question of quantification of liability under Section 201 and 201(1A) of the Income Tax Act. Notice was also challenged by Vodafone in the above writ petition by way of an amendment. The Bombay High Court dismissed the WritPetition on 08.09.2010 against which the SLP was filed.

The High Court upheld the jurisdiction of the Revenue to impose capital gains tax  on Vodafone as a representative assessee after holding that the transaction between the parties attracted capital gains in India.

 

Issue

The issue before the Supreme court was whether acquisition by Vodafone International Holdings BV  [for short “VIH”], a company resident for tax purposes  in the Netherlands, of the entire share capital of CGP Investments (Holdings) Ltd. [for short “CGP”],a company resident for tax purposes in the Cayman Islands [“CI” for short], which gave acquisition of 67% controlling interest in HEL, being    a company resident for tax purposes in India gave rise to a taxable event. In other words, can capital gains arising from  the sale of the share  capital  of CGP be taxed in India?

 

 

View

1.              Conflict between

The Department had argued that decision Union of India v. Azadi Bachao Andolan (2003) 263 ITR 706 (SC) be reconsidered as  it  was  in  conflict with the decisions of  McDowell and Co. Ltd. v.  CTO (1985) 154 ITR 148) (SC).The Court referring to certain tests laid down in the judgments of the English Courts subsequent to Commissioners of Inland Revenue v.  His Grace the Duke   of Westminster 1935 All E.R. 259 and W.T. Ramsay Ltd. v. Inland Revenue Commissioners [1981] 1 All E.R. 865, held that there is no conflict between McDowell and Azadi Bachao. Court referred to decisions of Furniss (Inspector  of Taxes) v. Dawson (1984) 1 All E.R. 530 and Craven (Inspector of Taxes) v. White (Stephen) (1988) 3 All. E.R. 495.

 

2.              Ownership Structure

It cannot be said that all tax planning is illegal/illegitimate/impermissible. Every strategic foreign direct investment coming to India, as an investment destination, should be seen in a holistic manner. While doing so, the Revenue/Courts should keep in mind the following factors:

1. the concept of participation in investment,
2. the duration of time during which the Holding Structure exists;
3. the period of business operations in India;
4. the generation of taxable revenues in India;
5. the timing of the exit;
6. the continuity of business on such

The onus will be on the Revenue to identify the scheme and its dominant purpose. The corporate business purpose of a transaction is evidence of the fact that the impugned transaction is not undertaken as a colourable or artificial device. The stronger the evidence of a device, the stronger the corporate business purpose must exist to overcome the evidence of a device.

 

3.              Whether Section 9 is a “look through” provision as submitted on behalf of the Revenue?

One of the arguments of the revenue was income from the sale of CGP share would nonetheless fall within Section 9 of the IncomeTax Act, 1961 as that Section provides for a “look through”. In this connection, it was submitted that    the word “through” in Section 9 inter alia means “in consequence of”. It was, therefore, argued that if transfer of a capital asset situate in India happens “in

 

 

consequence of” something which has taken place overseas (including transfer of   a capital asset), then all income derived even indirectly from such transfer, even though abroad, becomes taxable in  India. That, even if  control over HEL  were   to get transferred in consequence of transfer of the CGP Share outside India, it would yet be covered by Section 9. The Court did not find merits in the above submission of the Revenue. Last sub-clause of section 9(1)(i) refers to income arising from “transfer of a capital asset situate in India”. The said sub-clause consists of three elements, namely, transfer, existence of a capital asset, and situation of such asset in India. All three elements should exist in order to make  the last sub-clause applicable. In the case of a non-resident, unless the place of accrual of income is within India, he  cannot be  subjected to tax. In other  words,  if any income accrues or arises to a nonresident, directly or indirectly, outside  India is fictionally deemed to accrue or arise in India if such income accrues or arises as a sequel to the transfer of a capital asset situate in India. A legal fiction  has a limited scope. A legal fiction cannot be expanded by giving purposive interpretation particularly if the result of such interpretation is to transform the concept of chargeability which is also there in Section 9(1)(i), particularly when one reads Section 9(1)(i) with Section 5(2)(b) of the Act.  Section 9(1)(i) cannot by   a process of interpretation be extended to cover indirect transfers of capital assets/ property situate in India.

 

4.              Transfer of HTIL’s property rights by Extinguishment?

The department argued that HTIL had, under the SPA, directly extinguished its rights of control and management, which are property rights, over HEL and its subsidiaries and, consequent upon such  extinguishment, there was  a  transfer of capital asset situated in India. As a holder of 100% shares of downstream subsidiaries, HTIL possessed de facto control over such subsidiaries. Such de facto control was the subject matter of the SPA.  The Court was of the view that   the issue was sale of  shares and not sale of  assets. The Court was in  favour   of applying “look at” test instead of “dissecting approach” as forwarded by the Department, The Court observed that the structure existed for a considerable length of time generating taxable revenues right from 1994 and the transaction satisfies all the parameters of “participation in investment”. In such a case there was no need to delve upon the questions such as defacto control vs. legal control, legal rights vs. practical rights, etc. However, the Court went further to observe that the fact that the parent company exercises shareholder’s influence     on its subsidiaries cannot obliterate the  decision-making power  or  authorityof its (subsidiary’s) directors. They cannot be reduced to be puppets. The decisive criteria is whether the parent company’s management has such steering interference with the subsidiary’s core activities that subsidiary can no longer be regarded to perform those activities on the authority of its own executive  directors.   It also appreciated the reason for execution of the SPA. Exit is an important  right of an investor in every strategic investment, and the present case concerns

 

 

transfer of investment in entirety.  The Court held that under the HTIL structure,   as it existed in  1994, HTIL occupied only a persuasive position/influence over the downstream companies qua manner of voting, nomination of directors and management rights. That, the minority shareholders/investors had  participative and protective rights (including RoFR/TARs, call and put options which provided for exit) which flowed from the CGP share. That, the entire investment was sold    to the VIH through the investment vehicle (CGP). Consequently, there was no extinguishment of rights as alleged by the Revenue.

 

5.              Role of CGP in the transaction

The main contention of the Revenue was that CGP stood inserted at a late stage     in the transaction in order to bring in a tax-free entity (or to create a transaction     to avoid tax) and thereby avoid capital gains. Refuting this argument raised by Revenue, the Court observed that, firstly, the tier I (Mauritius companies) were    the indirect subsidiaries of HTIL who could have influenced the former to sell     the shares of Indian companies in which event the gains would have arisen to the Mauritius companies, who are not liable to pay capital gains tax under the Indo- Mauritius DTAA. That, nothing prevented the Mauritius companies from declaring dividend on gains made on  the sale of  shares. There is  no  tax on  dividends  in Mauritius. Thus, the Mauritius route was available but it was not opted for because that route would not have brought in the control over GSPL. Secondly,      if the Mauritius companies had sold the shares of HEL, then the Mauritius companies would have continued to be the subsidiaries of HTIL, their accounts would have been consolidated in the hands of HTIL and HTIL would have accounted for the gains in exactly  the same way as it has accounted for the gains  in the hands of HTIHL (CI) which was the nominated payee. Thus, in our view,  two routes were available, namely, the CGP route and the Mauritius route. It was open to the parties to opt for any one of the two routes. Thirdly,  as stated above,    in the present case, the SPA  was entered into inter alia for a smooth transition       of business on divestment by HTIL. As stated, transfer of the CGP share enabled VIH to indirectly acquire the rights and obligations of GSPL in the Centrino and NDC Framework Agreements. Apart from the said rights and obligations under the Framework Agreements, GSPL also had a call centre business. VIH intended    to take over from HTIL the telecom business. It had no intention to acquire   the business of call centre. Moreover, the FDI norms applicable to the telecom business in India were different and distinct from the FDI norms applicable to     the call centre business. Consequently, in order to avoid legal and regulatory objections from Government of India, the call centre business stood hived off. In our view, thisstep was an integral part of transition of business under SPA.

 

Held

Applying the look at test in order to ascertain the true nature and character of the transaction, the Court held that the Offshore Transaction i.e. sale of shares, was a

 

 

bonafide structured FDI investment into India which fell outside India’s territorial tax jurisdiction, hence not taxable. The said Offshore Transaction evidences participative investment and not a sham or tax avoidant preordained transaction. The said Offshore Transaction was between HTIL (a Cayman Islands company)  and VIH (a company incorporated in Netherlands). The subject matter of the Transaction was the transfer of the CGP (a company incorporated in Cayman Islands). Consequently, the Indian Tax Authority had no territorial tax jurisdiction  to tax the said Offshore Transaction. (CA No. 733 of 2012 dt. 20-1-2012)

Editorial: Review petition is dismissed, UOI v. Vodafone International Holding (Review Petition) (SC)

Amendment to section 9(1) and other sections with regards to taxability of Indirect transfer of shares;

Retrospective amendment made for taxability of indirect transfer of shares along with the following consequent amendments to other sections:-

• Amendment to definition of the words ‘transfer’ under section 2 (Refer Explanation 2 to section 2(47)) – Finance Act, 2012
• Meaning of the word through used in section 9(1) – Introduction of Explanation 4 to section 9(1) by Finance Act, 2012r.e.f. 1.4.1962
• Deemed location of asset in India – Introduction of Explanation 5 to section 9(1) by Finance Act, 2012 r.e.f. 1.4.1962
• Definition of the word substantial – Explanation 6 to section 9(1) inserted by Finance Act, 2015
• Section 195 for applicability of withholding on such transactions – Explanation 2 to section 195 inserted by Finance Act,2012

Accordingly, as on date such indirect transfer will also be taxable in India under  the Act subject to Treaty provision applicable (including the protocol and the MFN clause if any available)

“Do not judge others. Be your own judge and you will be truly happy.

If you will try to judge others, you are likely to burn your fingers.”

– Mahatma Gandhi