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1. Grandfathering Clause – Grandfathering clause means an old provision in law continues to apply on certain existing situations corresponding to new provisions which has been introduced to apply to all the future situations.

2. Circular issued by CBDT in order to clarify regarding Certificate of Residence issued by Mauritius Tax Authorities

a) As per the circular no. 789 dated 13.04.2000, provisions of India – Mauritius Double Taxation Avoidance Convention [“DTAC”] applies to residents of both India and Mauritius. Further, as per article 4 of DTAC resident of one state means any person who, under the laws of that State is liable to taxation therein by reason of his domicile, residence, place of management or any other criterion of a similar nature which includes Foreign Institutional Investors (FII) and other investment funds etc.

b) Further, as per the circular it is hereby clarified that wherever a certificate of residence is issued by Mauritius tax authorities, such certificate shall constitute sufficient evidence for accepting the status of residence as well as beneficial ownership for applying the DTAC accordingly.

3. Union of India v/s Azadi Bachao Andolan [SC] [2003] [263 ITR 706]

Following are the observation of Apex Court while passing the judgment:

a) Apex Court held that circular no. 789 dated 13.04.2000 issued by CBDT providing that a Tax Residency Certificate [“TRC’] issued by the Mauritius tax authorities is a conclusive proof for an entity to avail the benefits under India – Mauritius DTAA overruled the judgment of High Court which held that the circular should be quashed as it was issued not under the explicit power of authorities u/s 119 of the Income-tax Act was ultra vires the power of central government and Income Tax Authorities and provides for excessive delegation of legislative power, which cannot be permissible.

b) Further, the Apex court held that section 90 of the Income-tax Act give specific powers to the Government under Article 73 of the Constitution of India to issue notifications with respect to tax treaties entered with various countries. Under the said powers, government can grant tax exemptions to the person availing benefit under the tax treaties.

c) Further, the Apex Court held that the benefit under India – Mauritius tax treaty could not be denied merely on account of susceptibility of treaty shopping by residents of third countries. The Apex court further observed that the term ‘resident’ as used in the treaty was for the purpose of limitation so as to prevent a person who may not be liable to tax in the Contracting state, to take benefit of the same.

d) Apex Court held that what was relevant was the “liability to tax” not the actual tax payment.

4. Treaty Shopping

a) Treaty shopping basically refers to a situation when the use of a tax treaty by a person who is not a resident in either of the treaty countries to minimize tax costs.

b) Further, as per the judgment of Apex Court in the case of Union of India v/s Azadi Bachao Andolan (supra), “Treaty shopping” defined as a term which is a graphic expression used to describe the act of a resident of a third country taking advantage of a fiscal treaty between two Contracting States.

According to Lord McNair, “provided that any necessary implementation by municipal law has been carried out, there is nothing to prevent the nationals of “third States”, in the absence of any expressed or implied provision to the contrary, from claiming the right or becoming subject to the obligation created by a treaty”. [Lord McNair, The Law of Treaties, p. 336 (Oxford, at the Clarendan Press, 1961)]

c) As part of the Base Erosion Profit Shifting [“BEPS”] package, Action 6 (Preventing the granting of Treaty Benefits in Inappropriate Circumstances) report sets out one of the four BEPS minimum standards which is that members of the BEPS inclusive framework commit to include in their tax treaty, provisions relating to treaty shopping to ensure minimum level of protection against treaty abuse.

5. Limitation of Benefit Clause under India – Mauritius Tax Treaty

a) Limitation of benefit clause in tax treaties relates to prevent the use of tax treaty by specifying a set of circumstances under which certain persons may not qualify for the treaty benefits.

b) Article 27A relating to Limitation of Benefits inserted by notification no. 68/2016 dated 10.08.2016 in India – Mauritius Tax Treaty w.e.f. 01.04.2017.

c) As per Article 27A, a resident of contracting state shall not be entitled to benefits of Article 13(3B) if the affairs are arranged in such a way that the primary purpose is to avail the benefit of Article 13(3B). Article 13(3B) was inserted to eliminate resident based taxation with source based taxation.

Grandfathering clause under India – Mauritius Tax Treaty

6. Press Release issued by CBDT in relation to amendment made by Protocol to India – Mauritius Tax Treaty

a) Main issue that arose after the ruling of Union of India v/s Azadi Bachao Andolan, capital gains arises on sale of shares of Indian companies in the hands of shareholders who are resident of Mauritius are taxable in Mauritius as per Article 13 of tax treaty and in order to avail treaty benefits, TRC issued by Mauritius tax authorities are considered as sufficient evidence. Basically, the taxation on capital gains is residence based not source based.

b) Capital Gains tax rate in Mauritius is NIL and the corporate tax rate is also low in comparison to India which encouraged various corporate giants to incorporate a company in Mauritius and through that company they hold shares in Indian company in order to prevent the taxation of capital gains and make the investment as tax efficient.

c) CBDT vide its press release dated 10.05.2016 issues protocol for amendment in tax treaty between India and Mauritius in relation to taxes on income from capital gains.

d) Following are the brief points in relation to protocol issued :

i. Source based taxation of capital gains on shares : Following are the three types under which taxability on transfer of shares of Indian company will be determined :

Type Date of Acquisition Taxability
I Shares acquired before 1st April 2017 Tax Exempt
II Shares acquired after 1st April 2017 and sold before 1st April 2019 Taxable at 50% of the tax rate
III Shares acquired after 1st April 2017 and sold after 1st April 2019 Taxable at full tax rate

ii. Limitation of Benefit – The benefit of taxability at 50% of tax rate for shares acquired after 1st April 2017 and sold after 1st April 2019 shall not be available to Mauritius residents if they fail the main purpose test and bonafide business test. A resident is deemed to be a shell/ conduit company, if its total expenditure on operations in Mauritius is less than Rs. 2,700,000 (Mauritian Rupees 1,500,000) in the immediately preceding 12 months.

iii. Source based taxation of interest income of banks – Interest arising to Mauritius banks in India are taxable at 7.5% in respect of debt claims or loans made after 31st March 2017. Interest Income is exempt in case of debt claims made on or before 31st March 2017.

7. Conclusion – After the ruling in the case of Azadi Bachao Andolan & circular issued by CBDT, there are various case laws under which treaty benefits are still denied on the ground that companies incorporated in Mauritius is a “see through entity” & it is incorporated solely for the purpose of avoidance of tax, the right management & control, the right of sale or alienation of shares is in the different country. Further, General Anti Avoidance Rules [“GAAR”] has also been introduced w.e.f. 1st April 2017 in order to curb the tax avoidance. To conclude, the assessee has to prove the substance of the transaction to the Assessing Officer in order to take the relief under tax treaty even after obtaining the sufficient documentation including TRC etc.

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Disclaimer – Above article is only meant for educational purpose. Kindly consult a competent person before taking any view on the basis of above article and the author is not responsible for any views taken on the basis of above article.

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