Ultimate Holding Company should not be considered as beneficial owner of gains arising to Subsidiary Company on sale of investments held by such Subsidiary Company

Facts

• The applicant, a Dutch company was incorporated on 11 August 2008. On 6 November 2008, it acquired all the shares of an existing Indian company from another group company located in Germany. The shares were acquired for a consideration of INR 100 million.
• Post acquisition, the applicant made a further investment of INR 1100 million in the Indian subsidiary company. Both the companies (Dutch Company and German Company) are ultimately held by another German company with extensive manufacturing operations in Europe.
• The applicant is now proposing to sell the shares of the Indian subsidiary to another non-resident. The issue before the Authority is whether terms of the India – Netherlands Tax Treaty capital gains arising on transfer of shares of the Indian subsidiary to another non-resident is liable to tax in India.

Contentions of the Applicant

• The applicant contended that in terms of Article 13(5) of the tax treaty, sale of shares of the Indian company is not liable to tax in India if such sale is made to a person who is not resident of India. Therefore, capital gain arising on the proposed sale will not be liable to tax in India.

Contentions of the Revenue

• The beneficial owner of the capital gains arising on transfer of Indian company’s shares is the ultimate German holding company. Hence, the provisions of the India-Germany tax treaty will apply and not the India-Netherlands Tax Treaty. The India-Germany Tax Treaty do not provide for any exemption.
• Before acquisition, shares of the Indian company were held by a German company. The interpolation of the Dutch company in November 2008 was a part of the scheme for the avoidance of India tax liability on capital gains.

Ruling of the AAR

• The applicant, though a subsidiary of German holding company, is a distinct legal entity having its own board of directors and management systems.
• The shares of Indian company were acquired by the applicant company at a price determined under the Indian foreign exchange regulation. Moreover, post the initial acquisition the applicant had made substantial investments to the tune of INR1 ,1 00 million in the Indian subsidiary. It is not possible to assume that the applicant was merely a conduit to siphon off gains to the ultimate holding company by means of colorable device contrary to its corporate status and the stake in Indian company.
• There is no factual basis to hold that the German company is the real beneficial owner of the shares and the capital gains that accrue.
• The applicant is not liable to pay tax on the capital gains by virtue of Article 13(5) of the India-Netherlands tax treaty.

Conclusion

Based on the facts, the AAR held that ultimate holding company cannot automatically become beneficial owner of gains arising to a subsidiary company, if such subsidiary has its own board of directors and management system.

Source: KSPG Netherlands Holding B. V., AAR No. 818/2009 (Authority for Advance Ruling) dated 25 February 2010