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It would be necessary to recount some
salient facts in order to appreciate the plethora of legal
contentions urged.
FACTS
A: The Agreement
The Government of India has entered into
various Agreements (also called Conventions or Treaties)
with Governments of different countries for the avoidance of
double taxation and for prevention of fiscal evasion.
One such Agreement between the Government of India and
the Government of Mauritius dated April 1, 1983, is the
subject matter of the present controversy. The purpose
of this Agreement, as specified in the preamble, is “avoidance
of double taxation and the prevention of fiscal evasion with
respect to taxes on income and capital gains and for the
encouragement of mutual trade and investment”. After
completing the formalities prescribed in Article 28 this
agreement was brought into force by a Notification dated
6.12.1983 issued in exercise of the powers of the Government
of India under Section 90 of the Act read with Section 24A of
the Companies (Profits) Surtax Act, 1964. As
stated in the Agreement, its purpose is to
avoid double taxation and to encourage mutual trade and
investment between the two countries, as also to bring an
environment of certainty in the matters of tax affairs in both
countries.
Some of the salient provisions of the Agreement need to be
noticed at this juncture. The Agreement defines a number
of terms used therein and also contains a residuary clause.
In the application of the provisions of the Agreement by the
contracting States any term not defined therein shall, unless
the context otherwise requires, have the meaning which it has
under the laws in force in that contracting State, relating to
the words which are the subject of the convention.
Article 1(e) defines ‘person’ so as to include an individual,
a company and any other entity, corporate or non-corporate
“which is treated as a taxable unit under the taxation
laws in force in the respective contracting States”. The
Central Government in the Ministry of Finance (Department of
Revenue), in the case of India, and the Commissioner of Income
Tax in the case of Mauritius, are defined as the “competent
authority”. Article 4 provides the scope of
application of the Agreement. The applicability of the
Agreement is determined by Article 4 which reads as under;
“Article 4 Residents
1. For the purposes
of the Convention, the term “resident of a Contracting State”
means any person who under the laws of that State, is liable
to taxation therein by reason of his domicile,
residence, place or management or any other criterion of
similar nature. The terms “resident of India” and “resident of
Mauritius” shall be construed accordingly.
2. Where by reason
of the provisions of paragraph 1, an individual is a resident
of both Contracting States, then his residential status
for the purposes of this Convention shall be determined in
accordance with the following rules:
(a) he shall be deemed to
be a resident of the Contracting State in which he has a
permanent home available to him; if he has a permanent home
available to him in both Contracting States, he shall be
deemed to be a resident of the Contracting State with which
his personal and economic relations are closer (hereinafter
referred to as his “centre of vital interests”);
(b) if the Contracting
State in which he has his centre of vital interest cannot be
determined, or if he does not have a permanent home available
to him in either Contracting State he shall be deemed to
be a resident of the Contracting State in which he has an
habitual abode;
(c) if he has an habitual
abode in both Contracting States or in neither of them, he
shall be deemed to be a resident of the Contracting
State of which he is a national;
(d) if he is a national of
both Contracting States or of neither of them, the competent
authorities of the Contracting States shall settle the
question by mutual agreement.
3. Where by reason
of the provision of paragraph 1, a person other than an
individual is a resident of both the Contracting States, then
it shall be deemed to be a resident of the Contracting State
in which its place of effective management is situated.”
The Agreement provides for
allocation of taxing jurisdiction to different contracting
parties in respect of different heads of income.
Detailed rules are stipulated with regard to taxing of
Dividends under Article 10, interest under Article 11,
Royalties under Article 12, Capital Gains under Article
13, income derived from Independent Personal Services in
Article 14, income from Dependent Personal Services in Article
15, Directors’ Fees in Article 16, income of Artists and
Athletes in Article 17, Governmental Functions in Article 18,
income of students and Apprentices in Article 20, income
of Professors, Teachers and Research Scholars in Article 21,
and other income in Article 22.
Article 13 deals with the manner of
taxation of capital gains. It provides that gains from the
alienation of immovable property may be
taxed in the Contracting State in which such
property is situated. Gains derived by a resident of a
Contracting State from the alienation of
movable property, forming part of the business property of a
permanent establishment which an enterprise of a Contracting
State has in the other Contracting State, or of
movable property pertaining to a fixed base
available to a resident of a Contracting State in the
other Contracting State for the purpose of performing
independent personal services, including such gains from the
alienation of such a permanent establishment, may be
taxed in that other State. Gains from the alienation of ships
and aircraft operated in international traffic and
movable property pertaining to the operation of such ships and
aircraft, shall be taxable only in the Contracting State in
which the place of effective management is situated.
With respect to capital gain derived by a resident in the
Contracting State from the alienation of any property other
than the aforesaid is concerned, it is taxable only in the
State in which such a person is a ‘resident’.
Article 25 lays down the Mutual Agreement
Procedure. It provides that where a resident of a
Contracting State considers that the actions of one or both of
the Contracting State result or will result for him in
taxation not in accordance with this Convention, he may,
notwithstanding the remedies provided by the national
laws of those States, present his case to the competent
authority of the Contracting State of which he is a resident.
This case must be presented within three years of the date of
receipt of notice of the action which gives rise to taxation
not in accordance with the Convention. Thereupon, if the
objection appears to be justified, the competent authority
shall attempt to resolve the case by mutual agreement with the
competent authority of the other Contracting State so as to
avoid a situation of taxation not in accordance with the
convention. This Article also provides for
endeavour by the competent authorities of the
Contracting States to resolve by mutual agreement any
difficulties or doubts arising as the interpretation or
application of the convention. For this purpose,
the convention contemplates continuous or periodical
communication between the competent authorities of the
Contracting States and exchange of views and opinions.
B : The Circulars
By a Circular No.682 dated 30.3.1994
issued by the CBDT in exercise of its powers under Section 90
of the Act, the Government of India clarified that
capital gains of any resident of Mauritius by alienation of
shares of an Indian company shall be taxable only in Mauritius
according to Mauritius taxation laws and will not be liable to
tax in India. Relying on this, a large number of Foreign
Institutional Investors s (hereinafter referred to as
“the FIIs”), which were resident in Mauritius, invested large
amounts of capital in shares of Indian companies with
expectations of making profits by sale of such shares without
being subjected to tax in India. Sometime in the year
2000, some of the income tax authorities issued show
cause notices to some FIIs functioning in India calling
upon them to show cause as to why they should not be taxed for
profits and for dividends accrued to them in India. The
basis on which the show cause notice was issued was that the
recipients of the show cause notice were mostly
‘shell companies’ incorporated in Mauritius, operating through
Mauritius, whose main purpose was investment of funds in
India. It was alleged that these companies were controlled and
managed from countries other than India or Mauritius and as
such they were not “residents” of Mauritius so as to
derive the benefits of the DTAC. These show cause
notices resulted in panic and consequent hasty withdrawal of
funds by the FIIs. The Indian Finance Minister issued a Press
note dated April 4, 2000 clarifying that the views taken
by some of the income-tax officers pertained to specific
cases of assessment and did not represent or reflect the
policy of the Government of India with regard to denial of tax
benefits to such FIIs.
Thereafter, to further clarify the
situation, the CBDT issued a Circular No.789 dated 13.4.2000.
Since this is the crucial Circular, it would be worthwhile
reproducing its full text. The Circular reads as under:
“Circular No.789
F.No.500/60/2000-FTD
GOVERNMENT OF INDIA
MINISTRY OF FINANCE
DEPARTMENT OF REVENUE
CENTRAL BOARD OF DIRECT TAXES
New Delhi, the 13th April, 2000
To
All the Chief Commissioners/
Directors
General of Income-tax
Sub: Clarification regarding taxation of income
from dividends and capital gains under the Indo-Mauritius
Double Tax Avoidance Convention (DTAC) - Reg.
The provisions of
the Indo-Mauritius DTAC of 1983 apply to ‘residents’ of
both India and Mauritius . Article 4 of the DTAC
defines a resident of one State to mean any person who, under
the laws of that State is liable to taxation therein by reason
of his domicile, residence, place of management or any other
criterion of a similar nature. Foreign Institutional Investors
and other investment funds etc. which are operating from
Mauritius are invariably incorporated in that country.
These entities are ‘liable to tax’ under the Mauritius Tax law
and are therefore to be considered as residents of Mauritius
in accordance with the DTAC.
Prior to 1st
June, 1997, dividends distributed by domestic companies were
taxable in the hands of the shareholder and tax was deductible
at source under the Income-tax Act, 1961. Under the DTAC,
tax was deductible at source on the gross dividend paid out at
the rate of 5% or 15% depending upon the extent of
shareholding of the Mauritius resident. Under the
Income-tax Act, 1961, tax was deductible at source at the
rates specified under section 115A etc. Doubts have been
raised regarding the taxation of dividends in the hands
of investors from Mauritius. It is hereby clarified that
wherever a Certificate of Residence is issued by the Mauritian
Authorities, such Certificate will constitute sufficient
evidence for accepting the status of residence as well
as beneficial ownership for applying the DTAC accordingly.
The test of
residence mentioned above would also apply in respect of
income from capital gains on sale of shares. Accordingly, FIIs
etc., which are resident in Mauritius would not be taxable in
India on income from capital gains arising in India on sale of
shares as per paragraph 4 of article 13.
The aforesaid
clarification shall apply to all proceedings which are pending
at various levels.”
C: The Writ Petitions
Circular No. 789 was challenged before the High Court of
Delhi by two writ petitions, both said to be by way of Public
Interest Litigation. The petitioner in CWP 2802 of 2000 (Azadi
Bachao Andolan) prayed for quashing and declaring as illegal
and void Circular No.789 dated 13.4.2000 issued by the CBDT.
The petitioner in CWP 5646 of 2000 sought an appropriate
direction/order or writ to the Central Government and made the
following prayers:
“(a) issue such appropriate direction /order / writ as the Court
deem proper, under the circumstances brought to the
knowledge of the Hon’ble Court, to the Central Government to
initiate a process whereby the terms of the
Indo-Mauritius Double Taxation Avoidance Agreement are
revised, modified, or terminated and /or effective steps taken
by the High Contracting Parties so that the NRIs and FIIs and
such other interlopers do not maraud the resources of the
State.
(b) declare and delimit the powers of the Central Government under
section 90 of the Income Tax Act, 1961 in the matter of
entering into an agreement with the Government of any country
outside India;
(c) declare and delimit the powers of the Central Board of Direct
Taxes in the matter of the issuance of instructions through
circulars to the statutory authorities under the Income
tax Act, specially through such circulars which are
beneficial to certain individual taxpayers but injurious to
Public Interest.
(d) declare the illegality of Circular No.789 of April 13, 2000
issued by the Central Board of Direct Taxes and to quash it as
a matter of consequence;
(e) issue mandamus so that the respondents discharge their
statutory duties of conducting investigation and collection of
tax as per law;
(f) issue appropriate direction / order or writ of the nature of
mandamus, as the Court deem fit, so that all remedial actions
to undo the effects of the acts done to the prejudice or
Revenue in pursuance of Circular No.789 are taken by the
authorities under the Income tax Act, 1961”
D : High Court’s findings
The High Court has quashed the circular on the following broad
grounds:
(A) Prima
facie, by reason of the impugned circular no direction has
been issued. The circular does not show that it has been
issued under section 119 of the Income-tax Act, 1961 and as
such it would not be legally binding on the Revenue;
(B) The
Central Board of Direct Taxes cannot issue any instruction,
which would be ultra vires the provisions of the Income-tax
Act, 1961. Inasmuch as the impugned circular directs the
income-tax authorities to accept a certificate of residence
issued by the authorities of Mauritius as sufficient evidence
as regards status of resident and beneficial ownership, it is
ultra vires the powers of the CBDT;
(C) The
Income-tax Officer is entitled to lift the corporate veil in
order to see whether a company is actually a resident of
Mauritius or not and whether the company is paying income-tax
in Mauritius or not and this function of the Income-tax
Officer is quasi-judicial. Any attempt by the CBDT to
interfere with the exercise of this quasi-judicial power is
contrary to intendment of the Income-tax Act.
(D)
Conclusiveness of a certificate of residence issued by the
Mauritius Tax Authorities is neither contemplated under the
DTAC, nor under the Income-tax Act; whether a statement is
conclusive or not, must be provided under a legislative
enactment such as the Indian Evidence Act and cannot be
determined by a mere circular issued by the CBDT;
(E) “Treaty
Shopping”, by which the resident of a third country takes
advantage of the provisions of the Agreement, is illegal and
thus necessarily forbidden;
(F) Section
119 of the Income-tax Act, 1961 enables the issuance of a
circular for a strictly limited purpose. By a circular issued
thereunder, neither can the essential legislative
function be delegated, nor arbitrary, uncanalized
or naked power be conferred;
(G)
Political expediency cannot be a ground for not fulfilling the
constitutional obligations inherent in the Constitution of
India and reflected in section 90 of the Act. The
circular confers power to lay down a law which is not
contemplated under the Act on the ground of political
expediency, which cannot but be ultra vires.
(H) Any
purpose other than the purpose contemplated by section 90 of
the Act, however bona fide it be, would be ultra vires the
provisions of section 90 of the Income tax Act.
(I)
While political expediency will have a role to play in terms
of Article 73 of the Constitution, the same is not true when a
Treaty is entered into under the statutory provision like
section 90 of the Act.
(J)
Avoidance of double taxation is a term of art and means that a
person has to pay tax at least in one country; avoidance of
double taxation would not mean that a person does not
have to pay tax in any country whatsoever.
(K) Having regard to the law laid down by
the Supreme Court in McDowell & Company v C.T.O[1],
it is open to the Income-tax Officer in a given case to lift
the corporate veil for finding out whether the purpose of the
corporate veil is avoidance of tax or not. It is one of the
functions of the assessing officer to ensure that there is no
conscious avoidance of tax by an assessee, and such function
being quasi-judicial in nature, cannot be interfered with or
prohibited. The impugned circular is ultra vires as it
interferes with this quasi judicial function of the assessing
officer.
(L) By
reason of the impugned circular the power of the
assessing authority to pass appropriate orders in this
connection to show that the assessee is a resident of a third
country having only paper existence in Mauritius, without any
economic impact, only with a view to take advantage of
the double taxation avoidance agreement, has been taken away.
THE SUBMISSIONS
The learned Attorney General and Mr. Salve, for the
appellants, have assailed the judgment of the Delhi High Court
on a number of grounds, while the respondents through
Mr.Bhushan, and in person, reiterated their submissions made
before the High Court and prayed for dismissal of these
appeals.
Purpose and consequence of Double
Taxation Avoidance Convention
To appreciate the contentions urged, it would be necessary to
understand the purpose and necessity of a Double Taxation
Treaty, Convention or Agreement, as diversely called.
The Income–tax Act, 1961, contains a special Chapter IX which
is devoted to the subject of ‘Double Taxation Relief”.
Section 90, with which we are primarily
concerned, provides as under:
“90. Agreement with foreign countries.
(1) The Central Government may enter into an agreement with the
Government of any country outside India-
(a) for the granting of relief in respect of income on which
have been paid both income-tax under this Act and income-tax
in that country, or
(b) for the avoidance of double taxation of income under this Act
and under the corresponding law in force in that country, or
(c) for exchange of information for the prevention of evasion or
avoidance of income-tax chargeable under this Act or under the
corresponding law in force in that country, or investigation
of cases of such evasion or avoidance, or
(d) for recovery of income-tax under this Act and under the
corresponding law in force in that country,
and may, by notification in the Official Gazette, make
provisions as may be necessary for implementing the agreement.
(2) Where the Central Government has entered into an agreement
with the Government of any country outside India under
sub-section (1) for granting relief of tax, or as the case may
be, avoidance of double taxation, then, in relation to the
assessee to whom such agreement applies, the provisions of
this Act shall apply to the extent they are more beneficial to
that assessee.”
(Explanation omitted as not relevant)
Section 4 provides for Charge of
Income-tax. Section 5 provides that the total income of a
resident includes all income which : (a) is received, deemed
to be received in India or (b) accrues, arises or deemed to
accrue or arise in India, or (c) accrues or arises outside
India, during the previous year. In the case of a
non-resident, the total income includes “all income from
whatever source derived” which (a) is received or is deemed to
be received or, (b) accrues or is deemed to accrue in India,
during such year. A person ‘resident’ in India would be
liable to income-tax on the basis of his global income
unless he is a person who is ‘not ordinarily’ resident within
the meaning of section 6(b). The concept of residence in
India is indicated in section 6. Speaking broadly, and with
reference to a company, which is of concern here, a
company is said to be ‘resident’ in India in any previous
year, if it is an Indian company or if during that year
the control and management of its affairs is situated wholly
in India.
Every country seeks to tax the income generated within
its territory on the basis of one or more connecting factors
such as location of the source, residence of the taxable
entity, maintenance of a permanent establishment, and so on. A
country might choose to emphasise one or the other of
the aforesaid factors for exercising fiscal jurisdiction to
tax the entity. Depending on which of the factors is
considered to be the connecting factor in different countries,
the same income of the same entity might become liable to
taxation in different countries. This would give rise to harsh
consequences and impair economic development. In order
to avoid such an anomalous and incongruous
situation, the Governments of different countries enter into
bilateral treaties, Conventions or agreements for granting
relief against double taxation. Such treaties,
conventions or agreements are called double taxation avoidance
treaties, conventions or agreements.
The power of entering into a treaty is an
inherent part of the sovereign power of the State. By
article 73, subject to the provisions of the Constitution, the
executive power of the Union extends to the matters with
respect to which the Parliament has power to make laws. Our
Constitution makes no provision making legislation a
condition for the entry into an international treaty in time
either of war or peace. The executive power of the Union
is vested in the President and is exercisable in accordance
with the Constitution. The Executive is qua the State
competent to represent the State in all matters international
and may by agreement, convention or treaty incur obligations
which in international law are binding upon the State. But the
obligations arising under the agreement or treaties are not by
their own force binding upon Indian nationals. The power to
legislate in respect of treaties lies with the Parliament
under entries 10 and 14 of List I of the Seventh Schedule. But
making of law under that authority is necessary when the
treaty or agreement operates to restrict the rights of
citizens or others or modifies the law of the State. If the
rights of the citizens or others which are justiciable are not
affected, no legislative measure is needed to give effect to
the agreement or treaty.[2]
When it comes to fiscal treaties
dealing with double taxation avoidance, different countries
have varying procedures. In the United States such
a treaty becomes a part of municipal law upon
ratification by the Senate. In the United Kingdom
such a treaty would have to be endorsed by an order
made by the Queen in Council. Since in India such a
treaty would have to be translated into an Act of Parliament,
a procedure which would be time consuming and cumbersome, a
special procedure was evolved by enacting section 90 of the
Act.
The purpose of section 90 becomes clear by
reference to its legislative history. Section 49A of the
Income-tax Act, 1922 enabled the Central Government to enter
into an agreement with the government of any country
outside India for the granting of relief in respect of income
on which, both income-tax (including super-tax) under the Act
and income-tax in that country, under the Income-tax Act and
the corresponding law in force in that country, had been paid.
The Central Government could make such provisions as necessary
for implementing the agreement by notification in the Official
Gazette. When the Income-tax Act, 1961 was introduced,
section 90 contained therein initially was a reproduction of
section 49A of 1922 Act. The Finance Act, 1972 (Act 16
of 1972) modified section 90 and brought it into force with
effect from 1.4.1972. The object and scope of the
substitution was explained by a circular of the Central Board
of Taxes (No.108 dated 20.3.1973) as to empower the Central
Government to enter into agreements with foreign countries,
not only for the purpose of avoidance of double taxation of
income, but also for enabling the tax authorities to exchange
information for the prevention of evasion or avoidance of
taxes on income or for investigation of cases involving tax
evasion or avoidance or for recovery of taxes in foreign
countries on a reciprocal basis. In 1991, the existing
section 90 was renumbered as sub-section(1) and sub-section(2)
was inserted by Finance Act, 1991 with retrospective
effect from April 1, 1972. CBDT Circular No. 621 dated
19.12.1991 explains its purpose as follows:
“Taxation of foreign companies and other non-resident
taxpayers –
43. Tax treaties generally contain a provision to the
effect that the laws of the two contracting States will govern
the taxation of income in the respective State except when
express provision to the contrary is made in the treaty.
It may so happen that the tax treaty with a foreign country
may contain a provision giving concessional treatment to any
income as compared to the position under the Indian law
existing at that point of time. However, the Indian law may
subsequently be amended, reducing the incidence of tax to a
level lower than what has been provided in the tax treaty.
43.1. Since the tax treaties are intended to grant
tax relief and not put residents of a contracting country at a
disadvantage vis-à-vis other taxpayers, section 90 of the
Income-tax Act has been amended to clarify that any beneficial
provision in the law will not be denied to a resident of a
contracting country merely because the corresponding provision
in the tax treaty is less beneficial.”
The provisions of Sections 4 and 5 of the Act are
expressly made “subject to the provisions of this Act”, which
would include Section 90 of the Act. As to what would happen
in the event of a conflict between the provision of the
Income-tax Act and a Notification issued under Section 90, is
no longer res-integra.
The Andhra Pradesh High Court in Commissioner of
Income Tax v. Visakhapatnam Port Trust[3] held that provisions of section 4 and 5 of
Income-tax Act are expressly made ‘subject to the provisions
of the Act’ which means that they are subject to provisions of
section 90. By necessary implication, they are
subject to the terms of the Double Taxation Avoidance
Agreement, if any, entered into by the Government of
India. Therefore, the total income specified in
Sections 4 and 5 chargeable to income tax is also subject to
the provisions of the agreement to the contrary, if any.
In Commissioner of Income Tax v. Davy Ashmore India Ltd.[4],
while dealing with the correctness of a circular no.333 dated
April 2, 1982, it was held that the conclusion is
inescapable that in case of inconsistency between the terms of
the Agreement and the taxation statute, the Agreement alone
would prevail. The Calcutta High Court expressly
approved the correctness of the CBDT circular No.333
dated April 2, 1982 on the question as to what the
assessing officers would have to do when they found that the
provision of the Double Taxation was not in conformity
with the Income-tax Act, 1961. The said circular
provided as follows (quoted at p.632):
“The correct legal position is that
where a specific provision is made in the Double Taxation
Avoidance Agreement, that provision will prevail over the
general provisions contained in the Income-tax Act, 1961.
In fact the Double Taxation Avoidance Agreements which have
been entered into by the Central Government under section 90
of the Income-tax Act, 1961, also provide that the laws in
force in either country will continue to govern the assessment
and taxation of income in the respective country except where
provisions to the contrary have been made in the Agreement.
Thus, where a Double Taxation Avoidance Agreement provided for
a particular mode of computation of income, the same should be
followed, irrespective of the provisions in the Income-tax
Act. Where there is no specific provision in the
Agreement, it is the basic law, i.e, the Income-tax Act, that
will govern the taxation of income.”
The Calcutta High Court held that the circular reflected
the correct legal position inasmuch as the convention or
agreement is arrived at by the two Contracting States
“in deviation from the general principles of taxation
applicable to the Contracting States”. Otherwise, the double
taxation avoidance agreement will have no meaning at all.[5]
In Commissioner of Income Tax v. R.M. Muthaiah[6]
the Karnataka High Court was concerned with the DTAT
between Government of India and Government of Malaysia.
The High Court held that under the terms of agreement, if
there was a recognition of the power of taxation with the
Malaysian Government, by implication it takes away the
corresponding power of the Indian Government. The
Agreement was thus held to operate as a bar on the power of
the Indian Government to tax and that the bar would operate on
Sections 4 and 5 of the Income Tax Act, 1961, and take away
the power of the Indian Government to levy tax on the income
in respect of certain categories as referred to in certain
Articles of the Agreement. The High Court summed up the
situation by observing (at p.512-513):
“The effect of an “agreement” entered into by virtue of
section 90 of the Act would be : (1) If no tax liability is
imposed under this Act, the question of resorting to the
agreement would not arise. No provision of the agreement can
possibly fasten a tax liability where the liability is not
imposed by this Act; (ii) if a tax liability is imposed
by this Act, the agreement may be resorted to for negativing
or reducing it; (iii) in case of difference between the
provisions of the Act and of the agreement, the provisions of
the agreement prevail over the provisions of this Act
and can be enforced by the appellate authorities and the
court.”
It also approved of the correctness of the Circular No. 333
dated April 2, 1982 issued by the Central Board of Direct
Taxes on the subject.
In Arabian Express Line Ltd. of United Kingdom and Others
v. Union of India[7]
the Gujarat High Court, interpreting section 90, in the
light of circular No.333 dated April 2, 1982 issued by
the CBDT, held that the procedure of assessing the income of a
NRI because of his occasional activities in establishing
business in India would not be applicable in a case where
there is a convention between the Government of India and the
foreign country as provided under Section 90 of the Income-tax
Act, 1961. In case of such an agreement, section 90 would have
an overriding effect. Interestingly, in this case
a certificate issued by the H.M. Inspector of Taxes
certifying that the company was a resident of the United
Kingdom for purposes of tax and that it had paid advance
corporate tax in the office of the English Revenue Accounts
Office, was held to be sufficient to take away the
jurisdiction of the Income-tax Officer.
A survey of the aforesaid cases makes it clear that the
judicial consensus in India has been that section 90 is
specifically intended to enable and empower the Central
Government to issue a notification for implementation of the
terms of a double taxation avoidance agreement. When that
happens, the provisions of such an agreement, with respect to
cases to which where they apply, would operate even if
inconsistent with the provisions of the Income-tax Act.
We approve of the reasoning in the decisions which we have
noticed. If it was not the intention of the legislature
to make a departure from the general principle of
chargeability to tax under section 4 and the general principle
of ascertainment of total income under section 5 of the
Act, then there was no purpose in making those sections
“subject to the provisions” of the Act”. The very
object of grafting the said two sections with the said clause
is to enable the Central Government to issue a notification
under section 90 towards implementation of the terms of the
DTAs which would automatically override the provisions
of the Income-tax Act in the matter of ascertainment of
chargeability to income tax and ascertainment of total income,
to the extent of inconsistency with the terms of the DTAC.
The contention of the respondents, which weighed with the High
Court viz. that the impugned circular No.789 is inconsistent
with the provisions of the Act, is a total non-sequitur.
As we have pointed out, Circular No.789 is a circular
within the meaning of section 90; therefore, it must have the
legal consequences contemplated by sub-section (2) of section
90. In other words, the circular shall prevail even if
inconsistent with the provisions of Income-tax Act, 1961
insofar as assessees covered by the provisions of the DTAC are
concerned.
Though a number of interconnected and diffused arguments were
addressed, broadly the argument of the respondents appears to
be as follows: By reason of Article 265 of the
Constitution, no tax can be levied or collected except by
authority of law. The authority to levy tax or grant
exemption therefrom vests absolutely in the Parliament and no
other body, howsoever high, can exercise such power.
Once Parliament has enacted the Income-tax Act, taxes
must be levied and collected in accordance therewith
and no person has power to grant any exemption therefrom.
The treaty making power under Article 73 is confined
only to such matters as would not fall within the province of
Article 265. With respect to fiscal treaties, the
contention is that they cannot be enforced in contravention of
the provisions of the Income-tax Act, unless Parliament has
made an enabling law in support. The respondents
highlighted the provisions of the OECD models with regard to
tax treaties and how tax treaties were enunciated, signed and
implemented in America, Britain and other countries.
Placing reliance on the observations of
Kier and Lawson[8]
, it was contended that in England it has been recognised
that “there are, however, two limits to its capacity; it
cannot legislate and it cannot tax without the
concurrence of the Parliament”. It is urged that the
situation is the same in India; that unless there is a
specific exemption granted by the Parliament, it is not open
for the Central Government to grant any exemption from the tax
payable under the Income-tax Act.
In our view, the contention is wholly
misconceived. Section 90, as we have already
noticed (including its precursor under the 1922 Act),
was brought on the statute book precisely to enable the
executive to negotiate a DTAC and quickly implement it.
Even accepting the contention of the respondents that the
powers exercised by the Central Government under section 90
are delegated powers of legislation, we are unable to see as
to why a delegatee of legislative power in all cases has no
power to grant exemption. There are provisions galore in
statutes made by Parliament and State legislatures wherein the
power of conditional or unconditional exemption from the
provisions of the statutes are expressly delegated to the
executive. For example, even in fiscal legislation like
the Central Excise Act and Sales Tax Act, there are provisions
for exemption from the levy of tax.[9]
Therefore we are unable to accept the contention that the
delegate of a legislative power cannot exercise the power of
exemption in a fiscal statute.
The niceties of the OECD model of tax
treaties or the report of the Joint Parliamentary Committee on
the State Market Scam and Matters Relating thereto, on
which considerable time was spent by Mr. Jha, who
appeared in person, need not detain us for too long, though we
shall advert to them later. This Court is not
concerned with the manner in which tax treaties
are negotiated or enunciated; nor is it concerned with
the wisdom of any particular treaty. Whether the
Indo-Mauritius DTAC ought to have been enunciated in the
present form, or in any other particular form, is none of our
concern. Whether section 90 ought to have been placed on
the statute book, is also not our concern. Section 90,
which delegates powers to the Central Government, has not been
challenged before us, and, therefore, we must proceed on the
footing that the section is constitutionally valid. The
challenge being only to the exercise of the power emanating
from the section, we are of the view that section 90 enables
the Central Government to enter into a DTAC with the foreign
Government. When the requisite notification has been issued
thereunder, the provisions of sub-section (2) of section 90
spring into operation and an assessee who is covered by the
provisions of the DTAC is entitled to seek benefits
thereunder, even if the provisions of the DTAC are
inconsistent with the provisions of Income-tax Act, 1961.
STARE DECISIS
The learned Attorney General justifiably
relied on the observations of this Court in Mishri Lal
v. Dhirendra Nath (Dead) by Lrs. and Others[10]
in which this Court referred to its earlier decision in
Muktul v. Manbhari[11]
on the scope of the doctrine of stare decisis with reference
to Halsbury’s Law of England and Corpus Juris Secundum,
pointing out that a decision which has been followed for a
long period of time, and has been acted upon by persons in the
formation of contracts or in the disposition of their
property, or in the general conduct of affairs, or in legal
procedure or in other ways, will generally be followed by
courts of higher authority other than the court establishing
the rule, even though the court before whom the matter arises
afterwards might be of a different view. The
learned Attorney General contended that the interpretation
given to section 90 of the Income-tax Act, a Central Act, by
several High Courts without dissent has been uniformally
followed; several transactions have been entered into based
upon the said exposition of the law; that several tax treaties
have been entered into with different foreign Governments
based upon this law, hence, the doctrine of stare decisis
should apply or else it will result in chaos and open up a
Pandora’s box of uncertainty.
We think that this submission is sound and
needs to be accepted. It is not possible for us to say
that the judgments of the different High Courts noticed have
been wrongly decided by reason of the arguments presented by
the respondents. As observed in
Mishrilal[12]
even if the High Courts have
consistently taken an erroneous view, (though we do not say
that the view is erroneous) it would be worthwhile to let the
matter rest, since large numbers of parties have modulated
their legal relationship based on this settled position of
law.
Effect of circular under Section 119
Much of the argument centred around the
effect of the circular issued by the CBDT under Section 119 of
the Act and its binding nature.
Section 119, strategically placed in
Chapter XIII which deals with ‘Income-Tax Authorities’
is an enabling power of the CBDT, which is recognised as an
authority under the Income-tax Act under section 116(a).
The CBDT under this section is empowered to issue
such orders instructions and directions to other
income-tax authorities “as it may deem fit for proper
administration of this Act”. Such authorities and
all other persons employed in the execution of this Act are
bound to observe and follow such orders, instructions and
directions of the CBDT. The proviso to sub-section (1)
of section 119 recognises two exceptions to this power.
First, that the CBDT cannot require any income-tax authority
to make a particular assessment or to dispose of a
particular case in a particular manner. Second, is
with regard to interference with the discretion of the
Commissioner (Appeals) in exercise of his appellate functions.
Sub-section(2) of Section 119 provides for the exercise of
power in certain special cases and enables the CBDT, if
it considers it necessary or expedient so to do for the
purpose of proper and efficient management of the work of
assessment and collection of revenue, to issue general or
special orders in respect of any class of incomes of class of
cases , setting forth directions or instructions as to
the guidelines, principles or procedures to be followed by
other income-tax authorities in the discharge of their work
relating to assessment or initiating proceedings for
imposition of penalties. The powers of the CBDT are wide
enough to enable it to grant relaxation from the provisions of
several sections enumerated in clause (a). Such orders may be
published in the Official Gazette in the prescribed manner, if
the CBDT is of the opinion that it is so necessary. The
only bar on the exercise of power is that it is not
prejudicial to the assessee. We are not concerned with
the provisions in clauses (b) and (c) in the present
appeals.
In K.P. Varghese v. Income-Tax Officer,
Ernakulam[13]
it was pointed out by this Court that not only are the
circulars and instructions, issued by the CBDT in exercise of
the power under section 119, binding on the authorities
administering the tax department, but they are also clearly in
the nature of contemporanea expositio
furnishing legitimate aid to the construction of the Act.
The Rule of
contemporanea expositio is that “administrative
construction (i.e. contemporaneous construction placed by
administrative or executive officers) generally should be
clearly wrong before it is overturned; such a construction
commonly referred to as practical construction, although
non-controlling, is nevertheless entitled to
considerable weight, it is highly persuasive.”[14]
The validity of this principle was
recognised in Baleshwar Bagarti v. Bhagirathi Dass[15]
where the Calcutta High Court stated the rule in
the following words :
“It is a well-settled principle of interpretation that courts
in construing a statute will give much weight to the
interpretation put upon it, at the time of its enactment and
since, by those whose duty it has been to construe, execute
and apply it.”
The statement of this rule has also been quoted with
approval by this Court in
Deshbandhu Gupta & Company v. Delhi Stock Exchange Association
Ltd[16].
In K.P. Varghese[17]
this Court held that the circulars of the CBDT issued in
exercise of its power under section 119 are legally binding on
the revenue and that this binding character attaches to the
circulars “even if they be found not in accordance with
the correct interpretation of sub-section (2) and they
depart or deviate from such construction.”
Navnit Lal C. Javeri v. K.K.Sen[18]
and Ellerman Lines Ltd. v. CIT
[19] clearly establish the principle that circulars
issued by the CBDT under section 119 of the Act are binding on
all officers and employees employed in the execution of the
Act, even if they deviate from the provisions of the Act.
In UCO Bank v. Commissioner of
Incom-Tax[20],
dealing with the legal status of such circulars, this
Court observed:
“Such instructions may be by way of relaxation of any of the
provisions of the sections specified there or otherwise. The
Board thus has power, inter alia, to tone down the rigour of
the law and ensure a fair enforcement of its provisions, by
issuing circulars in exercise of its statutory powers under
section 119 of the Income-tax Act which are binding on the
authorities in the administration of the Act. Under
section 119(2) however, the circulars as contemplated therein
cannot be adverse to the assessee. Thus the authority
which wields the power for its own advantage under the Act is
given the right to forgo the advantage when required to wield
it in a manner it considers just by relaxing the rigour of the
law or in other permissible manners as laid down in section
119. The power is given for the purpose of just, proper
and efficient management of the work of assessment and in
public interest. It is a beneficial power given to the Board
for proper administration of fiscal law so that undue hardship
may not be caused to the assessee and the fiscal laws may be
correctly applied. Hard cases which can be properly
categorised as belonging to a class, can thus be given the
benefit of relaxation of law by issuing circulars binding on
the taxing authorities.”
In Commissioner of Income-Tax v. Anjum M.H.Ghaswala and
Others[21] it
was pointed out that the circulars issued by CBDT
under Section 119 of the Act have statutory force and would be
binding on every income-tax authority although such may not be
the case with regard to press releases issue by the CBDT for
information of the public.
In Collector of Central Excise Vadodra v. Dhiren Chemical
Industries[22],
this Court, interpreting the phrase ‘appropriate’,
observed :
“We need to make it clear that, regardless of the
interpretation that we have placed on the said phrase, if
there are circulars which have been issued by the Central
Board of Excise and Customs which place a different
interpretation upon the said phrase, that interpretation will
be binding upon the Revenue.”
While commenting adversely upon the validity of the impugned
circular, the High Court says “that the circular itself
does not show that the same has been issued under Section 119
of the Income-tax Act. Only in a case where the circular is
issued under Section 119 of the Income-tax Act, the same would
be legally binding on the revenue. The circular does not
deal with the power of the ITO to consider the question as to
whether although apparently a company is incorporated in
Mauritius but whether the company is also a resident of
India and/or not a resident of Mauritius at all.”
It is trite law that as long as an authority has power, which
is traceable to a source, the mere fact that source of power
is not indicated in an instrument does not render the
instrument invalid.[23]
Is the impugned circular ultra-vires
Section 119 ?
It was contended successfully before the
High Court that the circular is ultra vires the provisions of
section 119. Sub-section(1) of section 119 is
deliberately worded in general manner so that the CBDT is
enabled to issue appropriate orders, instruction or direction
to the subordinate authorities “as it may deem fit for the
proper administration of the Act”. As long as the circular
emanates from the CBDT and contains orders, instructions or
directions pertaining to proper administration of the Act, it
is relatable to the source of power under section 119
irrespective of its nomenclature. Apart from
sub-section(1), sub-section(2) of section 119 also enables the
CBDT “for the purpose of proper and efficient management of
the work of assessment and collection of revenue, to issue
appropriate orders, general or special in respect of any class
of income or class of cases, setting forth directions or
instructions (not being prejudicial to assessees) as to the
guidelines, principles or procedures to be followed by
other income tax authorities in the work relating to
assessment or collection of revenue or the initiation of
proceedings for the imposition of penalties”. In our
view, the High Court was not justified in reading the
circular as not complying with the provisions of section 119.
The circular falls well within the parameters of the powers
exercisable by the CBDT under Section 119 of the Act.
The High Court persuaded itself to hold
that the circular is ultra vires the powers of the CBDT on
completely erroneous grounds. The impugned circular provides
that whenever a certificate of residence is issued by the
Mauritius Authorities, such certificate will constitute
sufficient evidence for accepting the status of
residence as well as beneficial ownership for applying the
DTAC accordingly. It also provides that the test of residence
mentioned above would also apply in respect of income from
capital gains on sale of shares. Accordingly, FIIs
etc., which are resident in Mauritius would not be taxable in
India on income from capital gains arising in India on
sale of shares as per paragraph 4 of Article 13. This, the
High Court thought amounts to issuing instructions “de hors
the provisions of the Act”.
In our view, this thinking of the High Court is
erroneous. The only restriction on the power of the CBDT is to
prevent it from interfering with the course of
assessment of any particular assessee or the discretion of the
Commissioner of Income-Tax (Appeals). It would be useful to
recall the background against which this circular was issued.
The Income-tax authorities were seeking to
examine as to whether the assessees were actually
residents of a third country on the basis of alleged control
of management therefrom.
We have already extracted the relevant
provisions of Article 4 which provide that, for the purposes
of the agreement, the term ‘resident of a contracting State’
means any person who under the laws of that State is liable to
taxation therein by reason of his domicile, residence, place
of management or any other criterion of similar nature.
The term ‘resident of India’ and ‘the resident of Mauritius’
are to be construed accordingly. Article 13 of the DTAC
lays down detailed rules with regard to taxation of capital
gains. As far as capital gains resulting from alienation of
shares are concerned, Article 13(4) provides that the
gains derived by a ‘resident’ of a contracting State
shall be taxable only in that State. In the instant case, such
capital gains derived by a resident of Mauritius shall be
taxable only in Mauritius. Article 4, which we have
already referred to, declares that the term resident of
Mauritius’ means any person who under the laws of Mauritius is
‘liable to taxation’ therein by reason, inter alia, of his
residence. Clause (2) of Article 4 enumerates detailed rules
as to how the residential status of an individual resident in
both contracting States has to be determined for the purposes
of DTAC. Clause(3) of Article 4 provides that if, after
application of the detailed rules provided in Article 4, it is
found that a person other than an individual is a resident of
both the contracting States, then it shall be deemed to be a
resident of the contracting State in which its place of
effective management is situated. The DTAC requires the
test of ‘place of effective management’ to be applied only for
the purposes of the tie-breaker clause in Article 4(3)
which could be applied only when it is found that a person
other than an individual is a resident both of India
and Mauritius. We see no purpose or justification in the
DTAC for application of this test in any other situation.
The High Court has held, and the
respondents so contend, that the assessing officer under the
Income-tax Act is entitled to lift the corporate veil, but the
circular effectively bars the exercise of this quasi-judicial
function by reason of a presumption with regard to the
certificate issued by the competent authority in Mauritius;
conclusiveness of such a certificate of residence granted by
the Mauritius tax authorities is neither contemplated under
the DTAC, nor under the Income-tax Act a provision as to
conclusiveness of a certificate is a matter of legislative
action and cannot form the subject matter of a circular issued
by a delegate of legislative power.
As early as on March 30, 1994, the CBDT
had issued circular no.682 in which it had been emphasised
that any resident of Mauritius deriving income from alienation
of shares of an Indian company would be liable to capital
gains tax only in Mauritius as per Mauritius tax law and would
not have any capital gains tax liability in India. This
circular was a clear enunciation of the provisions contained
in the DTAC, which would have overriding effect over the
provisions of sections 4 and 5 of the Income-tax Act,1961 by
virtue of section 90(1) of the Act. If, in the teeth of
this clarification, the assessing officers chose to ignore the
guidelines and spent their time, talent and energy on
inconsequtial matters, we think that the CBDT was justified in
issuing ‘appropriate’ directions vide circular no.789,
under its powers under section 119, to set things on course by
eliminating avoidable wastage of time, talent and energy
of the assessing officers discharging the onerous public duty
of collection of revenue. The circular no.789 does not
in any way crib, cabin or confine the powers of
the assessing officer with regard to any particular
assessment. It merely formulates broad guidelines to be
applied in the matter of assessment of assessees covered
by the provisions of the DTAC.
We do not think the circular in any
way takes away or curtails the jurisdiction of the
assessing officer to assess the income of the assessee before
him. In our view, therefore, it is erroneous to say that
the impugned circular No.789 dated 13.4.2000 is ultra vires
the provisions of section 119 of the Act. In our
judgment, the powers conferred upon the CBDT by
sub-sections (1) and (2) of Section 119 are wide enough to
accommodate such a circular.
Is the DTAC bad for excessive
delegation ?
The respondents contend that a tax treaty entered
into within the umbrella of
section 90 of the Act is essentially delegated legislation;
if it involves granting of exemption from tax, it would
amount to delegation of legislative powers, which is
bad. The legislature must declare the policy of the law and
the legal principles which are to control any given case
and must provide a procedure to execute the law.[24]
The question whether a particular delegated legislation is in
excess of the power of the supporting legislation conferred on
the delegate, has to be determined with regard not only
to specific provisions contained in the relevant statute
conferring the power to make rule or regulation, but also the
object and purpose of the Act as can be gathered from
the various provisions of the enactment. It would be
wholly wrong for the Court to substitute its own opinion as to
what principle or policy would best serve the objects and
purposes of the Act, nor is it open to the Court to sit in
judgment of the wisdom, the effectiveness or otherwise
of the policy, so as to declare a regulation to be ultra vires
merely on the ground that, in the view of the Court, the
impugned provision will not help to carry through the object
and purposes of the Act. This court reiterated the legal
position, well established by a long series of
decisions, in Maharashtra State Board of Secondary and
Higher Secondary Education and another v. Paritosh
Bhupeshkumar Sheth and Others[25]:
“So long as the body entrusted with the task of framing the
rules or regulations acts within the scope of the authority
conferred on it, in the sense that the rules or regulations
made by it have a rational nexus with the object and purpose
of the statute, the court should not concern itself with the
wisdom or efficaciousness of such rules or regulations. It is
exclusively within the province of the legislature and
its delegate to determine, as a matter of policy, how the
provisions of the statute can best be implemented and what
measures, substantive as well as procedural would have to be
incorporated in the rules or regulations for the efficacious
achievement of the objects and purposes of the Act. It
is not for the Court to examine the merits or demerits of such
a policy because its scrutiny has to be limited to the
question as to whether the impugned regulations fall
within the scope of the regulation-making power conferred on
the delegate by the statute.”
Applying this test, we are unable to hold that the impugned
circular amounts to impermissible delegation of legislative
power. That the amendment made in section 90 was intended to
empower the Government to enter into agreement with
foreign Government, if necessary, for relief from or avoidance
of double taxation, is also made clear by the Finance Minister
in his Budget Speech, 1953-54
Is the Double Taxation Avoidance
Convention ‘DTAC’) illegal and ultra vires the powers of the
Central Government u/S 90
Although the High court has not made any finding of this
nature, the respondents have strenuously contended before us
that the Indo-Mauritius Double Taxation Avoidance
Convention, 1983 is itself ultra vires the powers of the
Government under Section 90 of the Act. This
argument deserves short shrift.
Section 90 empowers the Central Government
to enter into agreement with the Government of any other
country outside India for the purposes enumerated in clauses
(a) to (d) of sub-section (1) . While clause (a) talks of
granting relief in respect of income on which income-tax has
been paid in India as well as in the foreign country,
clause (b) is wider and deals with ‘avoidance of double
taxation of income’ under the Act and under the
corresponding law in force in the foreign country. We are not
concerned with clauses (c) and (d).
There are two hurdles against accepting
the arguments presented on behalf of the respondents. Even if
we accept the argument of the respondent that the DTAC is
delegated legislation, the test of its validity is to be
determined, not by its efficacy, but by the fact that it is
within the parameters of the legislative provision delegating
the power. That the purpose of the DTAC is to effectuate the
objectives in clauses (a) and (b) of sub-section (1) of
Section 90, is evident upon a reasonable construction of the
terms of the DTAC. As long as these two objectives are
sought to be effectuated, it is not possible to say that the
power vested in the Central Government, under section
90, even if it is delegated power of legislation, has been
used for a purpose ultra vires the intendment of the
section. The respondents tried to highlight a number of
unintended deleterious consequences which, according to them,
have arisen as a result of implementation of the DTAC. Even if
they be true, it would not enable this Court to strike down
the delegated legislation as ultra vires. The
validity and the vires of the legislation, primary, or
delegated, has to be tested on the anvil of the law
making power. If an authority lacks the power, then the
legislation is bad. On the contrary, if the authority is
clothed with the requisite power, then irrespective of whether
the legislation fails in its object or not, the vires of the
legislation is not liable to be questioned. We are,
therefore, unable to accept the contention
of the respondents that the DTAC is ultra vires the powers of
the Central Government under Section 90 on account of its
susceptibility to ‘treaty shopping’ on behalf of the residents
of third countries.
The High Court seems to have heavily
relied on an assessment order made by the assessing officer in
the case of Cox and Kings Ltd. drawing inspiration
therefrom. We are afraid that it was impermissible for
the High Court to do so. An assessment made in the case of a
particular assessee is liable to be challenged by the Revenue
or by the assessee by the procedure available under the Act.
In a Public Interest Litigation it would be most unfair to
comment on the correctness of the assessment order made in the
case of a particular assessee, especially when the assessee is
not a party before the High Court. Any observation made
by the Court would result in prejudice to one or the other
party to the litigation. For this reason, we refrain
from making any observations about the correctness or
otherwise of the assessment order made in
Cox and Kings Ltd. Needless to say, we decline to
draw inspiration therefrom, for our inspiration is drawn from
principles of law as gathered from statutes and precedents.
What is “liable to taxation”
Fiscal Residence
The concept of ‘fiscal residence’ of a
company assumes importance in the application and
interpretation of double taxation avoidance treaties.
In
Cahiers De Droit Fiscal International[26]
it is said that under the OECD and UNO Model Convention,
‘fiscal residence’ is a place where a person amongst others a
corporation is subjected to unlimited fiscal liability and
subjected to taxation for the worldwide profit of the resident
company. At para 2.2 it is pointed out :
“The UNO Model Convention takes these two different concepts
into account. It has not embodied the second sentence of
article 4, paragraph 1 of the OECD Model Convention,
which provides that the term ‘resident’ does not include any
person who is liable to tax in that State in respect only of
income from sources in that State. In fact, if one adhered to
a strict interpretation of this text, there would be no
resident in the meaning of the convention in those States that
apply the principle of territoriality.”
Again in paragraph 3.5 it is said :
“The existence of a company from a company law standpoint is
usually determined under the law of the State of incorporation
or of the country where the real seat is located. On the
other hand, the tax status of a corporation is determined
under the law of each of the countries where it carries on
business, be it as resident or non-resident.”
In paragraph 4.1 it is observed that
the principle of universality of taxation i.e. the principle
of worldwide taxation, has been adopted by a majority of
States. One has to consider the worldwide income of a
company to determine its taxable profit. In this system it is
crucial to define the fiscal residence of a company very
accurately. The State of residence is the one entitled to levy
tax on the corporation’s worldwide profit. The company is
subject to unlimited fiscal liability in that State. In the
case of a company, however, several factors enter the
picture and render the decision difficult. First, the
company is necessarily incorporated and usually
registered under the tax law of a State that grants it
corporate status. A corporation has administrative activities,
directors and managers who reside, meet and take
decisions in one or several places. It has
activities and carries on business. Finally, it has
shareholders who control it. Hence, it is opined :
“When all these elements coexist in the same country, no
complications arise. As soon as they are dissociated and
“scattered” in different States, each country may want to
subject the company to taxation on the basis of an element to
which it gives preference; incorporation procedure,
management functions, running of the business, shareholders’
controlling power. Depending on the criterion adopted, fiscal
residence will abide in one or the other country.
All the European countries concerned, except France, levy tax
on the worldwide profit at the place of residence of the
company considered.
South Korea, India and Japan in Asia, Australia and New
Zealand in Oceania follow this principle.”
In paragraph 4.2.1 it is pointed out that
the Anglo-Saxon concept of a company’s ‘incorporation
test’, which is applied in the United States, has not been
adopted by other countries like Australia, Canada, Denmark,
New Zealand and India and instead the criterion of
incorporation amongst other tests has been adopted by them.
The judgment in Ingemar Johansson et al v. United State of
America[27],
on which the respondent place reliance, is easily
distinguishable. In this case the appellant, Johansson,
was a citizen of Switzerland and a heavyweight boxing champion
by profession. He had earned some money by boxing in the
United States for which he was called upon to pay tax.
Johansson floated a company in Switzerland of which he became
an employee and contended that all professional fee paid for
his boxing bouts were received by his employer company
in Switzerland for which he was remunerated as an employee of
the said company. He sought to take advantage of the DTAT
between USA and Switzerland which provided “an individual
resident of Switzerland shall be exempt from United
States Tax upon compensation for labour personal
services performed in the United States…. if he is temporarily
present in the United States for a period or periods not
exceeding a total of 183 during the taxable year…”
There was no doubt that the appellant was not present in the
United States for more than 183 days and that he had
floated the Swiss company motivated with the desire to
minimise his tax burden. As conclusive proof of
residence he relied upon a determination by the Swiss Tax
Authority that he had become a resident of Switzerland on a
particular date. The United States Court of Appeal
rejected the claim of the appellant pointing out that the term
“resident” had not been defined in the US-Swiss treaty, but
under article II(2) each country was authorised to apply its
own definition to terms not expressly defined ‘unless the
context otherwise requires’. The Court, therefore,
held that the determination of the appellant’s residence
statues by the Swiss tax authority, according to Swiss law,
was not conclusive and that the U.S. tax authorities were
entitled to decide it in accordance with the US laws under the
treaty. Hence, it was held that Johansson was not a
resident of Switzerland during the period in question and
that the tax exemption in the treaty was not available to him.
In our view, this judgment, though relied
upon very heavily by the respondents, is of no avail. The
Indo-Mauritius DTAC, Article 3, clearly defines the term
‘residence’ in a ‘Contracting State’.
Interestingly, even in this judgment, the Court observed
: “Of course, the fact that Johansson was motivated in his
actions by the desire to minimize his tax burden can in no way
be taken to deprive him of an exemption to which an applicable
treaty entitles him”, which will have some relevance to
the contention of the respondents with regard to the
motivation to avoid tax.
The respondents contend that the FIIs
incorporated and registered under the provisions of the law in
Mauritius are carrying on no business there; they are, in
fact, prevented from earning any income there;
they are not liable to income tax on capital gains under the
Mauritius Income-tax Act. They are liable to pay income-tax
under Indian Income-tax Act, 1961, since they do not pay any
income-tax on capital gains in Mauritius, hence, they are not
entitled to the benefit of avoidance of double taxation under
the DTAC.
Some of the assumptions underlying this contention, which
prevailed with the High Court, need greater critical
appraisal.
Article 13(4) of the DTAC provides that gains derived by
a resident of a Contracting State from alienation of any
property, other than those specified in the paragraphs 1, 2
and 3 of the Article, shall be taxable only in that State.
Since most of the arguments centred around capital gains made
on transactions in shares on the stock exchange in India, we
may leave out of consideration capital gains on the type of
properties contemplated in paras 1, 2 and 3 of Article 13 of
the DTAC. The residuary clause in para 4 of Article 13 is
relevant. It provides that capital gains made on sale of
shares shall be taxable only in the State of which the person
is a ‘resident’ taking us back to the meaning of the term
‘resident’ of a contracting State. According to Article
4, this expression means any person who under the laws of that
State is “liable to taxation” therein by reason of his
domicile, residence, place of management or any other
criterion of a similar nature. The terms ‘resident of
India’ and ‘resident of Mauritius’ are required to be
construed accordingly. This takes us to the test to
determine when a company is ‘liable to taxation’ in Mauritius.
Mauritian Income Tax Act, 1995
Section 4 of the Income Tax Act, 1995
(Mauritian Income-tax Act) provides that, subject to the
provisions of the Act, income-tax shall be paid to the
Commissioner of Income-tax by every person on all income
other than exempt income derived by him during the preceding
year and be calculated on the chargeable income of the
person at the appropriate rate specified in the First
Schedule.
Section 5 defines as to when income is
deemed to be derived.
Section 7 provides that the income
specified in the Second Schedule shall be exempt from
income-tax.
Part IV of the Mauritian Income Tax Act
deals with Corporate Taxation.
Section 44 of the Act provides that every company shall be
liable to income tax on its ‘chargeable income’ at the rate
specified in Part II, Part III or Part IV of the First
Schedule, as the case may be.
Section 51 defines the ‘gross income’ of a company as
inclusive of income referred to in section 10(1)(b) (income
derived from business), 10(1)(c) (any income from rent,
premium or other income derived from property), 10(1)(d) (any
dividend, interest, charges, annuity or pension other than a
pension referred to in paragraph a(ii)) and 10(1)(e) (any
other income derived from any other source).
Section 73 (b) provides that for the purposes of the Act the
expression ‘resident’, when applied to a ‘company’, means
a company which is incorporated in Mauritius or has its
central management and control in Mauritius.
Part II of the First Schedule prescribes the rate of tax on
chargeable income at 15% in the case of Tax Incentive
companies and at other rates for other types of companies.
Part V of the First schedule enumerates the list of tax
incentive companies and item 16 is : “a corporation certified
to be engaged in international business activity by the
Mauritius Offshore Business Activities Authority established
under the Mauritius Offshore Business Activities Act, 1992”.
The second Schedule to the Mauritius Income-tax Act in Part IV
enumerates miscellaneous income exempt from income-tax. Item 1
reads “gains or profits derived from the sale of units or of
securities quoted on the Official List or on such
Stock Exchanges or other exchanges and capital markets as may
be approved by the Minister”.
A perusal of the aforesaid provisions of the Income Tax Act in
Mauritius does not lead to the result that tax incentive
companies are not liable to taxation, although they have been
granted exemption from income-tax in respect of a
specified head of income, namely, gains from transactions in
shares and securities. The respondents contend that the
FIIs are not “liable to taxation” in Mauritius; hence
they are not ‘residents’ of Mauritius within the meaning of
Article 4 of the DTAC. Consequently, it is open to the
assessing officers under the Indian Income-tax Act, 1961 to
determine where the taxable entities a | 
