SC: Capital Gains from Indirect Share Transfer Taxable; DTAA protection denied

The Supreme Court in Authority For Advance Rulings (Income Tax) And Others Vs Tiger Global International II Holdings set aside the Delhi High Court judgment and upheld the Authority for Advance Rulings’ (AAR) rejection of advance ruling applications concerning capital gains from the sale of shares of a Singapore company whose value was substantially derived from Indian assets. The Court held that the AAR was justified in invoking the jurisdictional bar under Section 245R(2) by recording a prima facie finding that the structure was designed for tax avoidance. It ruled that a Tax Residency Certificate, while relevant, is not conclusive where facts show lack of commercial substance and effective control outside the treaty jurisdiction. Applying the “substance over form” principle, the Court found that the Mauritian entities were conduit vehicles interposed primarily to obtain treaty benefits. It further held that indirect transfer provisions under Section 9(1)(i) and GAAR can apply notwithstanding treaty claims or grandfathering, and that abusive arrangements are not protected by the India–Mauritius DTAA.

Facts:

• The present batch of civil appeals arose out of a common judgment and final order dated 28.08.2024 passed by the Hon’ble Delhi High Court. The respondent assessees, “Tiger Global International II Holdings, Tiger Global International III Holdings, and Tiger Global International IV Holdings” are private companies limited by shares, incorporated under the laws of Mauritius. Each of the assessees was established as an investment holding entity with the primary object of undertaking investment activities for the purpose of earning long-term capital appreciation.
• The assessees were regulated by the Financial Services Commission, Mauritius, and were granted Category I Global Business Licences (GBL-I) under the Financial Services Act, 2007. They maintained office premises in Mauritius, employed local personnel, maintained bank accounts and accounting records in Mauritius, and caused their financial statements to be prepared and audited therein. Each assessee was issued a valid Tax Residency Certificate (TRC) by the Mauritius Revenue Authority, certifying them as tax residents of Mauritius.
• In the course of their investment activities, the assessees acquired shares in Flipkart Private Limited, Singapore, a company incorporated under the laws of Singapore. The acquisitions were made over different periods between the years 2011 and 2015, all prior to 1.04.2017. Flipkart Singapore, in turn, held substantial investments in operating companies located in India, as a result of which the value of its shares was derived substantially from assets situated in India.
• In the year 2018, pursuant to a global transaction involving the acquisition of Flipkart by Walmart Inc., the assessees transferred part of their shareholding in Flipkart Singapore to Fit Holdings S.à.r.l., Luxembourg, for substantial consideration running into several thousand crores of rupees. The sale of shares by the assessees formed part of a larger, multi-jurisdictional acquisition structure and was not a standalone or isolated transaction.
• Prior to consummation of the transfer, the assessees approached the Indian tax authorities u/s 197 of the Income Tax Act, 1961, seeking certificates for nil or lower withholding of tax on the capital gains arising from the proposed sale. By certificates dated 17.08.2018, the Assessing Officer (AO) rejected the claim for nil withholding and instead directed deduction of tax at varying rates, on the premise that the assessees were not entitled to benefits under the India–Mauritius Double Taxation Avoidance Agreement (DTAA) and that the transactions were liable to tax in India.
• Aggrieved by the withholding directions, the assessees filed applications before the Authority for Advance Rulings (AAR) u/s 245Q(1) of the Act, seeking a ruling on whether the capital gains arising from the transfer of shares of Flipkart Singapore were chargeable to tax in India under the Income Tax Act read with the India–Mauritius DTAA.
• During the proceedings, the Revenue contended that the assessees were mere conduit entities, that their real control and management lay outside Mauritius, and that the transaction was designed primarily for tax avoidance. Reliance was placed on the doctrine of substance over form and on the principles recognised in Vodafone International Holdings BV v. Union of India ((2012) 6 SCC 613), wherein it was held that treaty benefits could be denied where an arrangement was found to be a sham or colourable device.
• By order dated 26 March 2020, the AAR rejected the applications at the threshold, invoking the bar contained in clause (iii) of the proviso to Section 245R(2) of the Act, on the ground that the transaction was prima facie designed for the avoidance of income tax. The AAR recorded findings to the effect that the head and brain of the assessees was not located in Mauritius, that effective control over financial and investment decisions rested with individuals based outside Mauritius, and that the structure had been interposed solely to avail treaty benefits, observations which drew upon principles earlier discussed in Vodafone case as well as the distinction between permissible treaty shopping and impermissible tax avoidance.
• Challenging the AAR’s order, the assessees filed writ petitions before the Hon’ble Delhi High Court, contending that the AAR had exceeded its jurisdiction by returning conclusive findings at the stage of maintainability, that valid TRCs could not be disregarded in the absence of fraud or sham, and that investments made prior to 1.04.2017 were expressly grandfathered under the amended India–Mauritius DTAA. The assessees placed reliance on Union of India v. Azadi Bachao Andolan ((2004) 10 SCC 1), wherein it was held that treaty shopping by itself was not illegal and that a TRC constituted sufficient evidence of residence.
• The Hon’ble High Court allowed the writ petitions, quashed the AAR’s order, and held that the assessees were entitled to treaty protection and that the capital gains in question were not chargeable to tax in India. The Hon’ble High Court concluded that the AAR had erred in invoking the jurisdictional bar u/s 245R(2) and that the transactions stood grandfathered under the DTAA. The Revenue preferred the present appeals before the Hon’ble Supreme Court against this judgment of the Hon’ble High Court.

Issue:

• Whether the AAR was right in rejecting the applications for Advance Ruling on the ground of maintainability, by treating the capital gains arising out of a transaction of sale of shares of a Singapore Co., which holds the shares of an Indian company, by a Mauritian company controlled by an American company, to be prima facie an arrangement for tax avoidance, and hence, whether it can be enquired into to ascertain whether the capital gains would be taxable in India under the Income Tax Act read with the relevant provisions of the Mauritius Treaty or not?

Observation:

• The Hon’ble Supreme Court noted that Article 1(e) of the DTAA defines the term “person” expansively so as to include companies and other entities treated as taxable units under the taxation laws of the Contracting States. The Hon’ble Supreme Court further observed that Article 4 constitutes the gateway provision for treaty applicability, as it determines tax residence by reference to liability to taxation under the domestic law of the Contracting State by reason of domicile, residence, place of management, or any other criterion of similar nature. In the case of persons other than individuals, residence is determined by the place of effective management.
• The Hon’ble Supreme Court emphasised that a DTAA does not create tax liability but merely allocates taxing rights between Contracting States. Consequently, the entitlement to treaty benefits must be examined in conjunction with domestic law, particularly when allegations of tax avoidance arise. The Hon’ble Supreme Court observed that treaty interpretation must be undertaken in good faith and in a manner that furthers the object and purpose of the agreement, while simultaneously ensuring that treaty provisions are not abused to achieve unintended tax advantages.
• Turning to the nature of the transaction, the Hon’ble Supreme Court noted that the assessees, though incorporated in Mauritius, had transferred shares of a Singapore-incorporated company whose value was derived substantially from assets located in India. Such a transaction squarely attracted the indirect transfer provisions u/s 9(1)(i) of the Income Tax Act, as clarified by Explanations 4 and 5 introduced by the Finance Act, 2012. The Hon’ble Supreme Court rejected the contention that the DTAA operated in isolation from these domestic provisions, holding that once income is deemed to accrue or arise in India under domestic law, the question of treaty relief arises only thereafter.
• The Hon’ble Supreme Court then addressed the assessee’s reliance on TRC issued by the Mauritius Revenue Authority. While acknowledging that a TRC constitutes relevant evidence of residence, the Hon’ble Supreme Court held that it is not conclusive where the surrounding facts demonstrate that the entity lacks real commercial substance. In this context, the Hon’ble Supreme Court relied upon its earlier decisions in Union of India v. Azadi Bachao Andolan (supra) and Vodafone International Holdings BV v. Union of India (supra), reiterating that while treaty shopping per se is not impermissible, treaty benefits may be denied where the structure is found to be a sham or a colourable device designed solely to avoid tax.
• Applying the “substance over form” principle, the Hon’ble Supreme Court undertook a detailed examination of the control and management of the assessees. It concurred with the findings of the AAR that the real decision-making authority in respect of high-value transactions vested with Mr. Charles P. Coleman, a non-resident individual based outside Mauritius, who exercised effective control over banking operations and investment decisions. The Hon’ble Supreme Court found that although board resolutions were formally passed in Mauritius, the material on record demonstrated that the boards functioned in a largely perfunctory manner, with substantive control resting outside the jurisdiction.
• The Hon’ble Supreme Court rejected the argument that mere compliance with the formal requirements of Mauritian law and possession of a Global Business Licence sufficed to establish commercial substance. It held that the test is not one of legal formality but of actual conduct, control, and purpose. The assessees had no independent investment activity apart from the single investment in the Singapore company, and that the structure had been interposed primarily to avail treaty benefits under the India–Mauritius DTAA.
• The Hon’ble Supreme Court proceeded to examine the applicability of Article 13 of the DTAA. It held that the exemption from capital gains taxation contemplated under the treaty was originally intended to apply to gains arising from the alienation of shares of an Indian company, and not to indirect transfers involving shares of foreign companies. The Hon’ble Supreme Court observed that even after the 2016 Protocol, the scheme of Articles 13(3A), 13(3B), and 13(4) makes a clear distinction between direct and indirect transfers, and that the grandfathering provisions were not intended to shield impermissible avoidance arrangements.
• The Hon’ble Supreme Court rejected the assessee’s reliance on the grandfathering clause, holding that grandfathering cannot be invoked to legitimise a structure that is, in substance, abusive and held that the introduction of Chapter X-A (GAAR) represents a conscious legislative response to aggressive tax planning, and that GAAR applies to income-earning transactions occurring after 1.04.2017, irrespective of when the underlying investment was made, if the arrangement lacks commercial substance or is designed primarily to obtain a tax benefit.
• The Hon’ble Supreme Court relied upon settled principles articulated in McDowell & Co. Ltd. v. Commercial Tax Officer ((1985) 3 SCC 230), clarifying that while legitimate tax planning is permissible, colourable devices and artificial arrangements fall outside the protection of law. It further reiterated the “look at” principle affirmed in Vodafone case, holding that the transaction must be examined as a whole and not dissected into isolated steps to mask its true nature.
• The Hon’ble Supreme Court also examined the legislative competence to neutralise judicial interpretations through statutory amendments, referring to decisions such as Shri Prithvi Cotton Mills Ltd. v. Broach Borough Municipality ((1969) 2 SCC 283), State of Tamil Nadu v. Arooran Sugars Ltd. ((1997) 1 SCC 326), and Goa Foundation v. State of Goa ((2016) 6 SCC 602), to underline that Parliament is empowered to alter the legal basis of prior judicial decisions by amending the law, provided such amendments operate within constitutional limits. The Hon’ble Supreme Court held that the indirect transfer provisions and GAAR represent valid exercises of legislative power aimed at protecting India’s tax base.
• On the scope of the AAR jurisdiction, the Hon’ble Supreme Court held that the AAR was justified in rejecting the applications at the threshold under the proviso to Section 245R(2), having prima facie found the transaction to be designed for tax avoidance. It observed that once such a prima facie finding is recorded, the AAR is not required to undertake a detailed adjudication on merits. The Hon’ble Supreme Court found that the Hon’ble High Court had erred in substituting its own findings on merits in a matter where the jurisdictional bar itself was attracted.
• The Hon’ble Supreme Court also explained that the significance of fiscal and economic sovereignty as an integral facet of the State’s sovereign functions, particularly in the contemporary context of cross-border transactions and globalized capital flows. emphasizing that the power to tax is central to national sovereignty, he observed that international tax arrangements and treaties cannot be permitted to erode a nation’s legitimate taxing rights through artificial or abusive structures.
• The Hon’ble Supreme Court concluded that the cumulative facts unmistakably pointed to an impermissible avoidance arrangement. The interposition of Mauritian entities, the absence of independent commercial substance, the concentration of control outside Mauritius, and the timing and structuring of the exit transaction collectively established that the arrangement was designed to avoid capital gains tax in India.
• Accordingly, the Hon’ble Supreme Court held that capital gains arising from the impugned transfers effected after 1.04.2017 were taxable in India under the Income Tax Act read with the applicable provisions of the DTAA. It further held that the Hon’ble High Court’s judgment was unsustainable in law and liable to be set aside, while affirming the correctness of the AAR’s rejection of the applications on the ground of maintainability.