2019 (10) TMI 1163 - AT - Income Tax

Income accrued in India - receipt of income on account of gain on foreign exchange transaction - nature of income from capital gain as per article 14(6) of the India Spain treaty, and not taxable in India - PE in India - Whether assessee, being a foreign institutional investor, is refrained from undertaking any other business activity and accordingly the receipt on account of foreign exchange fluctuation will be in the nature of income from other sources or other income taxable in India or other income taxable in India as per article 23(3) of DTAA between India and Spain? - HELD THAT - In view of our detailed analysis earlier and in our humble understanding, that fact, by itself, cannot make the gains taxable under article 7 when the assessee does not have a PE in India, or under article 14 when the gains are not covered by any of the exception clauses in article 14(1) to 14(5). It is not, in a way, even the case of the AO that these gains of the assessee are taxable in India under article 7 or article 14; his case is that these gains, admittedly outside the scope of article 7 and 14, are covered by article 23 as such. The question thus remains as to what is the scope of taxation in the source jurisdiction under article 23- an aspect which has not left intact by the judicial precedents relied upon and which, in fact, is the foundational issue raised in this appeal. Our decision is based on our analysis of these aspects, and our conclusion is that, under the Indo Spanish tax treaty, the assessee does not have any tax liability in respect of the transactions in question. We approve the conclusions arrived at by the learned CIT(A) and decline to interfere in the matter. Capital loss on sale of shares of companies engaged in real estate development activities classified under BSE Realty Index as exempt under Article 14(6) of the India-Spain DTAA - HELD THAT - In the present case, while the assessee has sold no more than 2% shares in any of the six realty companies, namely Anant Raj Limited, DLF Limited, Indiabulls Real Estate Limited, Mahindra Lifespace Developers Ltd, Shobha Developers Ltd and Unitech Limited, as an investor. There is no question of holding any controlling interest or even significant interest in these companies. These holdings therefore cannot give, or be even part of an effort to get, controlling right or any other right to occupy the property. It has not even be the case of the Assessing Officer that the assessee had significant holdings in these companies. That apart, it is also important to note that all these companies are engaged in the business of real estate development rather than in the business of holding real estate as investments. The business model of realty companies is focussed on gains from real estate development rather than gains from holding the immovable properties. Viewed in the context of the purpose for which article 14(4) finds place in the Indo Spanish tax treaty, and unambiguous thrust of such provisions in the tax treaty literature, article 14(4) is to be read alongwith and to supplement article 14(1), the gains on sale of such shares cannot indeed be taxed in the source state under article 14(4). Secondly, while the expression principally is not specifically defined in the Indo Spanish tax treaty, as evident from the subsequent clarifications in the model convention commentaries, and in the absence of anything to suggest there was a different intention at an earlier point of time, the threshold test can be safely applied at fifty percent of total assets. What essentially follows that the sale of shares in only such companies are covered as hold, directly or indirectly, at least fifty percent of the aggregate assets consisting of immovable property. Just because a company is dealing in real estate development does not imply, or even suggest, that over fifty percent of its aggregate assets consist of immovable properties. It is not the case before us that predominant part, or fifty percent, of aggregate of assets of these companies consist of immovable properties. AO has made no efforts whatsoever to demonstrate, or even indicate, that the assets held by these companies constituted principally the immovable properties. AO has apparently proceeded on the presumption that just because these companies are dealing in real estate development, the assets of these companies principally consist of immovable properties. Such an approach cannot get any judicial approval. We approve the conclusions arrived at by the learned CIT(A) on this point as well and decline to interfere in the matter. On this issue also, our reasoning is different than the reasoning adopted by the coordinate bench, but then our conclusions are the same.

Summary

Issues Involved:

1. Taxability of gains on foreign exchange transactions.
2. Taxability of capital gains on the sale of shares of real estate companies under Article 14(4) of the Indo-Spanish DTAA.

Issue-wise Detailed Analysis:

1. Taxability of Gains on Foreign Exchange Transactions:

The primary issue is whether the gain of ?12,60,01,800 from foreign exchange transactions by a foreign institutional investor (FII) domiciled in Spain is taxable in India. The Assessing Officer (AO) argued that such gains should be treated as "income from other sources" under Article 23(3) of the Double Taxation Avoidance Agreement (DTAA) between India and Spain, as the FII is restricted from undertaking other business activities. The AO dismissed the assessee's claim of these gains being capital gains under Article 14(6) of the DTAA, or alternatively, business income not taxable in India due to the absence of a Permanent Establishment (PE).

The Tribunal noted that the AO's contention was based on the non-fulfillment of conditions for taxability under Articles 7 (Business Profits) and 14 (Capital Gains). The Tribunal emphasized that Article 23 applies only when income is not expressly dealt with in Articles 6 to 22 of the DTAA. Since the gains in question could be classified under Articles 7 or 14, Article 23 would not apply. The Tribunal concluded that irrespective of whether the gains were capital or business income, they were not taxable in India under the DTAA provisions, as the FII had no PE in India and the gains were not covered by the exception clauses of Article 14(1) to 14(5).

2. Taxability of Capital Gains on Sale of Shares of Real Estate Companies:

The AO contended that the capital gains of ?11,31,51,216 from the sale of shares of companies engaged in real estate development should be taxable in India under Article 14(4) of the Indo-Spanish DTAA. The AO argued that these companies' value derived principally from immovable properties, and thus, the gains should be taxed in the source jurisdiction.

The Tribunal referred to Article 14(4), which states that gains from the alienation of shares of a company whose property consists principally of immovable property situated in a contracting state may be taxed in that state. The Tribunal highlighted that the AO failed to provide evidence that the companies' properties consisted principally of immovable properties. The Tribunal also noted that the companies were engaged in real estate development, not merely holding immovable properties as investments. Therefore, the gains from the sale of shares were not taxable in India under Article 14(4).

The Tribunal emphasized that the onus was on the AO to prove that the conditions of Article 14(4) were met, which was not done. The Tribunal also considered the purpose and intent of Article 14(4), which aims to tax gains from indirect transfers of immovable property. Since the assessee's shareholding was minimal and did not result in any control or right to occupy the properties, the gains were not taxable in India.

Conclusion:

The Tribunal dismissed the AO's appeal, holding that the gains from foreign exchange transactions and the sale of shares in real estate companies were not taxable in India under the respective provisions of the Indo-Spanish DTAA. The gains from foreign exchange transactions were either capital gains or business income, not taxable in India due to the absence of a PE. The gains from the sale of shares did not meet the criteria under Article 14(4) for taxation in the source jurisdiction.