2020 (1) TMI 1470 - AAR - Income Tax

Capital gains earned from transfer of shares of an Indian company by a tax resident of the Netherlands - allocable portion of income earned in India - Benefit of treaty - representative assessee u/s 160(1) - India-Netherlands Double Taxation Avoidance Agreement - proportionate share of income earned by participants assessable in their hands as the transferor (in terms of section 61 read with section 63(a) of the Act) from the sale of shares of the Indian company by PQR and STU and would remain taxable only in the Netherlands as per the provisions of article 13 of the India-Netherlands treaty - whether custodian acts as a trustee of the fund and accordingly, is assessable as a representative assessee of PQR and STU for and on behalf of the participants of these funds? - HELD THAT - It is a fact that the participants who are tax residents of Netherlands, have not directly invested in India but the investment has come through two funds. These funds are registered entities with Securities and exchange Board of India and income accrues to them on their own. Whether the said income is passed on to the participants in its entirety is a separate issue and stage 2 of transaction and has nothing to do with accrual of income in India. On the one hand we have participants who have not directly invested in India and on the other hand there are funds who are not legal and taxable entities of Netherlands. The treaty benefits are admissible if the stipulations contained in the convention are fulfilled by the entities. For claiming treaty benefits, the entity has to satisfy the definition of person and resident under the treaty articles. In the cases before us, articles 1, 3 and 4 read together clearly point that treaty benefit is not available to fiscally transparent entity as it is not a taxable entity in Netherlands. In order to qualify as resident of a contracting State one needs to qualify as person as per the definition given in the tax treaty. Here the funds are neither persons nor residents of Netherlands. Secondly India has not concurred with the view in OECD commentary and has elucidated by stating that there is need for enabling provision in treaty to allow the treaty benefit to beneficiaries of transparent entities. It is also relevant to point out that India-US treaty (Art. 4) provides for benefit for firms or trusts if partners or beneficial owners are taxed on same income but similar enabling provision is missing from India-Netherlands treaty. In the alternative India can enter into competent authority agreement with Netherlands to allow treaty benefit to transparent entity. This is in line with similar arrangements Netherlands have with some other countries. Ruling - (Questions 1 to 5) No, it will be assessed in the hands of PQR and STU and benefit under article 13 of the India-Netherlands Double Taxation Avoidance Agreement is not admissible to these funds. Other queries raised i. e. whether the contribution made by participants to the fund will be considered as revocable transfer under section 61 or whether the funds are assessable under section 161 are in the nature of alternate pleas have become infructuous in view of the specific finding that the income is assessable in the hands of the funds. (Questions 1 to 6) No, JKL cannot be considered as a responsible entity of PQR and STU funds and benefit under article 13 of the India-Netherlands Double Taxation Avoidance Agreement is not admissible to JKL. Other queries without prejudice are thus infructuous.

Summary

Issues Involved:
1. Taxability of income from investments in securities in India.
2. Applicability of India-Netherlands Double Taxation Avoidance Agreement (DTAA).
3. Classification of contributions as revocable transfers under Section 61 of the Income-tax Act.
4. Assessment under Section 161 of the Income-tax Act.
5. Eligibility of JKL as a resident under the India-Netherlands DTAA.
6. Taxability of income earned by JKL on behalf of PQR and STU.

Detailed Analysis:

Issue 1: Taxability of Income from Investments in Securities in India
The applicants, companies incorporated in the Netherlands, invested in Indian securities through funds PQR and STU. The primary question was whether the income arising from these investments should be assessed in the hands of the applicants (ABC, DEF, GHI) as revocable transfers under Section 61 of the Income-tax Act. The ruling concluded that the income is assessable in the hands of PQR and STU, not the applicants, as these funds are independent entities registered with SEBI as sub-accounts of a Foreign Institutional Investor (TFAM BV).

Issue 2: Applicability of India-Netherlands Double Taxation Avoidance Agreement (DTAA)
The applicants contended that, as tax residents of the Netherlands, the income should be taxable only in the Netherlands under Article 13 of the India-Netherlands DTAA. However, the ruling determined that PQR and STU are not considered residents of the Netherlands for treaty purposes, as they are not taxable entities under Dutch law. Consequently, the treaty benefits under Article 13 are not applicable to these funds.

Issue 3: Classification of Contributions as Revocable Transfers under Section 61
The applicants argued that the contributions made to PQR and STU should be considered revocable transfers, making the income taxable in their hands. The ruling found that the arrangement does not qualify as a revocable transfer under Section 63(a) because the participants cannot withdraw their investments at will due to practical market constraints. Therefore, the income is not assessable in the applicants' hands under Section 61.

Issue 4: Assessment under Section 161 of the Income-tax Act
The applicants suggested that PQR and STU should be treated as specific trusts under Section 161, making JKL a representative assessee. The ruling rejected this argument, stating that PQR and STU are not trusts under Indian or Dutch law. JKL, being the custodian and legal titleholder, is not a trustee and thus cannot be assessed as a representative assessee under Section 161.

Issue 5: Eligibility of JKL as a Resident under the India-Netherlands DTAA
The applicants posited that JKL, as the custodian and legal owner of the funds, should qualify as a resident under Article 4 of the India-Netherlands DTAA. The ruling concluded that JKL is not the entity to whom the income accrues in India; the income accrues to PQR and STU. Since these funds are not residents of the Netherlands, JKL cannot claim treaty benefits on their behalf.

Issue 6: Taxability of Income Earned by JKL on Behalf of PQR and STU
The ruling emphasized that the income from investments in Indian securities accrues to PQR and STU, not JKL. Therefore, JKL cannot claim the benefit of capital gains exemption under Article 13(5) of the treaty. The funds, being non-taxable entities in the Netherlands, do not qualify for treaty benefits, and the income is taxable in India.

Conclusion:
The ruling concluded that the income from investments in Indian securities is assessable in the hands of PQR and STU, not the applicants or JKL. The benefits of the India-Netherlands DTAA are not applicable to these funds or JKL. The arguments regarding revocable transfers and representative assessee status were deemed infructuous.