Judgment summary
This appeal concerns Assessment Year 2021-22 and was filed against a final assessment order dated 19.10.2023 passed under section 143(3) read with section 144C(13) of the Income Tax Act, 1961, following directions of the Dispute Resolution Panel (DRP) dated 13.09.2023 (1).
The assessee, SC Lowy P.I. (LUX) S.A.R.L., Luxembourg, a Category II Foreign Portfolio Investor registered with SEBI, had declared income of Rs.10,63,65,830/- and claimed benefits under the India-Luxembourg DTAA in respect of interest income, business income and capital gains (2, 3).
The Assessing Officer denied DTAA benefits, treating the arrangement as tax avoidance through treaty shopping, holding that the assessee was a conduit for its ultimate Cayman Islands shareholders, that the Tax Residency Certificate (TRC) was insufficient, that the assessee was not the beneficial owner of the income, and that there was no commercial rationale for its establishment in Luxembourg (5). The DRP sustained these findings (7).
The Tribunal, relying substantially on the Delhi High Court decision in Tiger Global International III Holdings, held that the TRC issued by the Luxembourg authorities was valid, that the Revenue had not produced cogent evidence of fraud, sham transaction or conduit status, and that the assessee satisfied the Limitation of Benefits (LOB) and principal purpose test provisions under the Multilateral Instrument (MLI) as incorporated into the India-Luxembourg DTAA (14-19). The Tribunal directed the AO to grant treaty benefits and allowed all grounds of appeal, remitting the issue of interest under section 234B to the AO for recomputation (19-21).
Background
The assessee was incorporated on 06.03.2015 as a limited liability company under the laws of Luxembourg and is a Category II Foreign Portfolio Investor registered with SEBI (3).
It is a subsidiary of SC Lowy Primary Investments Limited, itself a subsidiary of SC Lowy Offshore Fund, both based in the Cayman Islands, and it invests in securities including bonds, pass through certificates issued by securitisation trusts, and units of an Alternative Investment Fund (3, 14).
For AY 2021-22, the assessee offered interest income of Rs.3,38,39,127/- to tax at 10% under Article 11 of the India-Luxembourg DTAA, and claimed business income of Rs.2,37,57,762/- and capital gains of Rs.37,46,96,834/- as exempt under Article 7 and Article 13(6) of the DTAA respectively (3).
During assessment, the AO examined the corporate structure and asked the assessee to justify the commercial rationale for its existence in Luxembourg. The assessee submitted its Articles of Association, Tax Residency Certificate, SEBI registration certificate, details of Indian investments and income, and Luxembourg tax returns for 2015 to 2019 (4).
Core dispute
The primary issue was whether the AO was correct in denying the assessee DTAA benefits on the basis that the assessee was a conduit entity used for treaty shopping, lacked beneficial ownership of the income, and had no commercial rationale for being established in Luxembourg (5, 8, 14).
A related issue was whether the valid Tax Residency Certificate (TRC) issued by the Luxembourg authorities, combined with satisfaction of the Limitation of Benefits (LOB) provisions under Article 29 of the DTAA as modified by the Multilateral Instrument (MLI), was sufficient to establish entitlement to treaty benefits, or whether the Revenue could go further and impose additional conditions to deny such benefits (14).
Consequential issues concerned the correct characterisation and rate of tax applicable to business income from a securitisation trust, short-term capital gains on sale of debentures and security receipts, and interest income from an investment fund and another securitisation trust, all of which depended on the primary treaty-entitlement finding (8, Grounds 3 to 7).
Court findings
The Tribunal held that the Revenue must accept a validly issued TRC unless it produces cogent and convincing evidence, rather than mere conjecture or suspicion, that the entity is a sham, engaged in fraud, or lacks economic substance (15, 16).
Relying on the Delhi High Court's decision in Tiger Global International III Holdings, the Tribunal held that the issuance of a TRC by the competent authority is sacrosanct and must be given due weightage as certifying bona fide residence and beneficial ownership, and that the onus lies on the Revenue to establish that a transaction is a sham or colourable device (15).
The Tribunal examined Article 29 of the DTAA as modified by paragraph 1 of Article 7 of the MLI, and found that benefits may only be denied where it is reasonable to conclude, from all relevant facts and circumstances, that obtaining the benefit was one of the principal purposes of the arrangement (16).
On the facts, the Tribunal found that the assessee held a valid, unchallenged TRC; was incorporated in 2015, well before the MLI; invested in distressed assets across many jurisdictions with only 13.95% exposure to India (as per the geographical concentration table produced); filed tax returns and paid tax in Luxembourg on worldwide income; incurred operational expenditure including consulting, legal, litigation and professional fees and administrative costs in Luxembourg; and continued to exist and hold substantial investments (17, 18, 19).
The Tribunal concluded that the AO had not brought any cogent material on record to show that the assessee was, in substance, a conduit, and had relied only on presumptions and views. It held that the assessee controlled its assets and income and could not be termed a conduit (19).
Outcome
The Tribunal directed the AO to grant treaty benefits to the assessee under the India-Luxembourg DTAA, allowing Ground No. 2 in favour of the assessee (19).
As a consequence, the other grounds of appeal relating to the taxability of business income from JMFARC Metallics Securitization Trust, capital gains on sale of debentures and security receipts, interest income from the Touchstone Trust Scheme II investment fund, and interest income from India RE 2019 Trust, were all allowed in favour of the assessee (20).
The additional ground concerning excessive interest charged under section 234B was set aside and remitted to the AO to determine the liability afresh in accordance with law, after giving effect to the Tribunal's findings on the other grounds (21).
The appeal filed by the assessee was allowed in its entirety (22).
Major issues / areas of contention
- Whether the AO was justified in denying India-Luxembourg DTAA benefits on the ground that the assessee was a conduit used for treaty shopping (5, 14).
- Whether a valid Tax Residency Certificate (TRC) issued by Luxembourg authorities is sufficient evidence of tax residency and beneficial ownership, absent cogent evidence of fraud or sham (14, 15, 17).
- Whether the Revenue could impose additional conditions beyond the Limitation of Benefits (LOB) provisions under Article 29 of the DTAA, as modified by the MLI, to deny treaty benefits (14, 16).
- Whether the assessee was the beneficial owner of interest income under Article 11(2) of the DTAA, given the absence of any contractual or legal obligation to forward income to its Cayman Islands shareholders (10, 19).
- Whether there was commercial rationale and economic substance for the assessee's establishment in Luxembourg (5, 17, 18, 19).
- Correct tax characterisation and rate applicable to business income from a securitisation trust, capital gains on sale of debentures and security receipts, and interest income from an investment fund and another securitisation trust, contingent on the treaty-entitlement finding (Grounds 3 to 7).