The Income-Tax Act extends to the whole of India, that is, the territory of India mentioned in the Constitution and the territorial waters, continental shelf, etc (Section 2(25A) of the Income-Tax Act, 1961). If two persons who are residing outside India and are not Indian citizens, enter into transactions covering property in India, will they be affected by the provisions of our tax law? This is not an academic issue. The matter came up before the Authority for Advance Ruling (AAR) last month.According to the facts of the case (2007 295 ITR AAR), Trinity Advance Software Labs (P) Ltd is a company registered in Hyderabad.
One of the shareholders of the company was Jeff Slosar, an American citizen, resident in the US. He entered into an agreement with Trinity Corporation, US, in September 2006 to transfer his shares in the Hyderabad-based company.
The purchaser of the shares, Trinity Corporation, US, approached the AAR for advice regarding liability for capital gains tax on the transfer of shares of the Indian company by the American citizen. It was pleaded that the share transfer had taken place outside India and the transaction was between two non-residents.
A further question was also posed with regard to the problem of fixing the agent of the non-resident for making the assessment and collecting the tax.
The Revenue argued that there was business connection between the non-resident seller and the Indian resident company attracting Sections 160 and 163 of the Act.
According to Revenue, the Indian company was the agent of the seller.
The AAR analysed Section 9. It found that the capital asset transferred was the share in the Indian company situate in India. Section 9(1)(i) brings to tax any income accruing through or arising from, whether directly or indirectly, any business connection in India or through the transfer of a capital asset situate in India. Such income is deemed to accrue or arise in India.
Section 9(1)(i) is designed to bring in its fold any capital gains that a non-resident may make by transfer of any capital asset situated in India. “Capital asset” is defined in Section 2(14) and “transfer”, in Section 2(47).
Situated in India
In the generality of the cases, the sale price is paid outside India and, accordingly, capital gains will escape charge on “receipt basis”. Nevertheless, as per the existing provisions of the Act, the capital gains become chargeable on an alternative basis, namely, accrual or on having arisen in India, as the capital asset happens to be situated in India. The situs of the capital asset being in India, situations like transactions between two non-residents taking place outside India are very well taken care of by the statute.
Even if the transaction related to the capital asset takes place outside India but if the capital asset is situated in India, the profits and gains thereon, accrue or arise in India in consonance with the Section 9(1)(i) and are thus assessable under the head “capital gains”.
Capital gains should be deemed to have accrued or arisen in the hands of the non-resident transferor Jeff Slosar.
It may be noted that in all such cases, if the Double Taxation Avoidance Agreement (DTAA) confers a benefit on the non-resident taxpayer, then that provision has to be preferred against the Indian tax law. In the case of the American non-resident transferor, it was seen that Article 13 of the Double Taxation Avoidance Agreement (DTAA) between India and the US was specific and laid down that each contracting state may tax capital gains in accordance with the provisions of its domestic law.
Thus even the DTAA could not bail out the transferee from the chargeability of capital gains under Section 9(1)(i) read with Section 45(1).
The AAR pointed out that as per the inclusive definition given in Section 163, where the income in question is capital gains arising to the non-resident by reason of his having transferred a capital asset situated in India, the transferee applicant may be assessed as a representative assessee of the transferor.
Role of DTAA
Parliament has devised the method of deeming the capital gains as having accrued or arisen in India so that on the basis of such deeming provision, the operation of Section 160(1)(i) read with Section 163(1) would enable the authorities to levy tax on the transferee (purchaser) as a representative assesee and the tax has to be realised from the transferee. The AAR also directed that Trinity Corporation, US, deduct tax in respect of capital gains accruing to Jeff Slosar under Section 195 of the Act.
This ruling has come at a time when the Indian tax authorities are seriously considering reviewing the DTAA with Mauritius. As per the Indo-Mauritian DTAA, capital gains from sale of shares is taxable in the country of residence of the shareholder and not in the country of residence of the company whose shares have been sold.
Thus, a company resident in Mauritius and selling shares of the Indian company would not pay tax in India. There is no capital gains tax in Mauritius. The gain from the Indian share market completely escapes taxation because of the agreement. The treaty with the US is stringent and different from the one with Mauritius.