Capital gains on sale of foreign subsidiary shares
April, 09th 2007
When a foreign company or any other non-resident holds shares in an Indian company, and such shares are sold by the foreign shareholder to another non-resident person outside India, will the capital gain on sale will be chargeable to tax in India or not?
In such a situation, the transfer of shares would take place outside India. The transfer deed would also be executed outside India and the consideration for transfer would also arise outside India. Nevertheless, since the transaction would involve the transfer of shares of an Indian company, the resulting income shall be deemed to accrue or arise in India by virtue of Section 9(1)(i) of the I-T Act. Hence the same would be taxable as capital gains in India.
In the above context, if reference is made to Section 9(1)(i) of the I-T Act, any income accruing or arising, whether directly or indirectly, through the transfer of a capital asset situated in India, the same is liable to tax in India. In this case, the capital asset which is in the form of shares of an Indian company is undoubtedly situated in India. Therefore, any income as a result of transfer of such capital asset would be liable to tax in India irrespective of the fact that the transaction is taking place wholly outside India.
However, certain double taxation avoidance agreements (DTAAs) which India has signed with a large number of countries contain a specific provision dealing with tax on capital gains arising from transfer of shares of an Indian company. For example, in case of DTTA with Netherlands, Article 13 deals with capital gains. Clause (5) of Article 13 specifies that in case of transfer of shares of a company in pursuance of a corporate reorganisation, where the buyer or the seller owns at least 10% of the capital of the other, the resulting capital gains shall be taxed only in the State of which the transferor is resident.
In a recent case before the Authority for Advance Rulings (Vanunburg Group B.V. 289 ITR 464), the foreign company incorporated in Netherlands owns 100% share capital of its Indian subsidiary; the foreign company proposes to reorganise its holding pattern in its group company. In the process of reorganisation, the foreign company would transfer its entire shareholding in the Indian company to another group company in Netherlands. On the face of the above facts, the question before the Authority was as to whether capital gains arising on transfer of shares of the Indian company would be liable to tax in India or not?
The Authority ruled that as per Section 9(1)(i) the income by way of capital gains shall be deemed to accrue or arise in India. Hence the same would be taxable as capital gains in India. But the transaction would also attract the provisions of Double Taxation Avoidance Agreement between India and Netherlands. As per Article 13(5) of the said DTAA, if capital gains are realised in the course of a corporate organisation/reorganisation, amalgamation, division etc. such gains shall be taxable only in the State in which the alienator is resident. In the instant case, the provision of Article 13(5) would be directly applicable. Therefore, capital gains arising on transfer of shares of the Indian company would not be liable to tax in India.