2019 (10) TMI 1593 - AT - Income Tax

Taxability of income in India - Income deemed to accrue or arise in Indi - receipt of income on account of gain on foreign exchange transaction - India Spain Treaty - as per revenue Assessee being a Foreign Institutional Investor is refrained from undertaking any other business activity and accordingly the receipt on account of foreign exchange transaction will be in the nature of income from other source or other income taxable in India as per Article 23(3) of the DTAA between India and Spain - HELD THAT - As decided in own case for the assessment year 2013-14 2019 (10) TMI 1163 - ITAT MUMBAI we 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. 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 - As decided in own case 2019 (10) TMI 1163 - ITAT MUMBAI the assessment year 2013-14 in the present case, while the assessee has sold no more than 2% shares in any of the six realty companies, 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.

Summary

Issues Involved:

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

Issue-wise Detailed Analysis:

1. Taxability of Gains from Foreign Exchange Transactions:

The primary issue revolved around whether the gains from foreign exchange transactions by the assessee, a Foreign Institutional Investor (FII), should be classified as income from capital gains under Article 14(6) of the India-Spain Treaty or as 'Other Income' under Article 23(3) of the Double Taxation Avoidance Agreement (DTAA) between India and Spain. The Assessing Officer argued that the gains should be taxed as 'Other Income' in India, given that the FII is restricted from engaging in business activities.

The Tribunal noted that Article 23 applies only when the income is not expressly dealt with in Articles 6 to 22 of the treaty. The Tribunal emphasized that the nature of the income, rather than its non-taxability under other articles, determines its classification under Article 23. Since the gains could be classified under Article 7 (Business Profits) or Article 14 (Capital Gains), Article 23 was deemed inapplicable. The Tribunal concluded that the gains were not taxable in India as the conditions for taxability under Articles 7 and 14 were not met, specifically the absence of a Permanent Establishment (PE) in India for business profits and the non-fulfillment of conditions under Article 14 for capital gains.

2. Taxability of Capital Gains from the Sale of Shares in Real Estate Companies:

The second issue concerned whether the capital gains from the sale of shares in real estate companies should be taxed in India under Article 14(4) of the Indo-Spanish Tax Treaty. The Assessing Officer contended that these gains should be taxable in India as the companies' properties primarily consisted of immovable property, invoking Article 14(4).

The Tribunal analyzed Article 14, which generally allocates taxing rights for capital gains to the residence jurisdiction, with exceptions for gains related to immovable property. The Tribunal emphasized that the onus was on the Assessing Officer to demonstrate that the companies' properties consisted principally of immovable property. The Tribunal found no evidence supporting the Assessing Officer's assumption that the companies' assets principally consisted of immovable properties, as these companies were engaged in real estate development rather than holding immovable properties as investments.

The Tribunal further highlighted that the interpretation of Article 14(4) should align with its object and purpose, which is to prevent tax avoidance through corporate structures holding immovable properties. The Tribunal concluded that the gains from the sale of shares in these companies, which did not result in control or enjoyment of the underlying immovable properties, were not taxable in India under Article 14(4).

In both issues, the Tribunal upheld the CIT(A)'s decision, dismissing the Assessing Officer's appeal and confirming that the gains in question were not taxable in India under the respective treaty provisions. The appeal was dismissed in its entirety.