In a recent ruling by the Authority for Advance Ruling ("AAR") in the case of AB Holdings, Mauritius-II, In re [2018] 402 ITR 37 (AAR – New Delhi), applied the commercial purpose test to allow the benefit of India-Mauritius Double Taxation Avoidance Agreement ("DTAA") to a Mauritius Entity.

The issue in this case was whether the Mauritius entity (AB Holdings) would be entitled to the benefit under the DTAA on the transfer of shares indirectly (through AB International) held by it in an Indian Entity (AB India) to a newly incorporated Singapore entity (AB Singapore) in 2012.

The applicant in this case was a company incorporated in Mauritius in the year 2008, having its registered office at Mauritius with a valid tax residency certificate granted by the Mauritius tax authorities. The applicant was a part of 'C' Equity Portfolio II LP and 'C' Affiliates Fund LP ('C' Group), U.S.A, which cumulatively hold 87.56 per cent shares of the applicant and the balance 12.44 per cent shares are held by other individual investors. The sole purpose of its incorporation was to invest in 'S' sector in India and other Asian markets. It accordingly made investment in 'AB' International on different dates, and finally divested its investment in 'AB' International, in favour of 'AB' Singapore, a group company as part of the corporate strategy of the Group, to support its business in the Asia-Pacific region.

Revenue's Contention- No Substance in Mauritian Company

The Revenue contended that companies of the 'C' Group USA, are the ultimate holding company and Mr. 'S', MD of 'C' partners LP is director in majority of the group companies. It was further contended that the Applicant was a paper company incorporated in Mauritius by the 'C' Group USA, whose main business is to buy different businesses, sell them at appropriate value and time. As part of its business strategy, the Applicant Company was formed in Mauritius whereas its control and management are located in the US. It was also contended that for the FYs 2009, 2010 and 2011, the applicant incurred expenses under the head "Administrative expenses" to the extent of USD 20,586, USD 21,796 and USD 27,661 respectively. Further, "Legal and Professional fees" has been incurred to the extent of USD 42,450, USD 5,718 in the FYs 2009 and 2010 respectively. Therefore, there are no other head of expenses.

AAR: Control & Management in Mauritius

As regards role of the holding company, and its control and management, the AAR held that with immense technological advancement in the present world of communication, it is unrealistic to expect all Directors, who are also Directors in many other companies, to be physically present in each and every meeting, and communication is validly done through electronic audio and video devices. In the totality of circumstances, Mr. 'S' and the other Directors' movements in and out of Mauritius at different times, alone cannot lead to the conclusion that the control and management of the company was not in Mauritius, or that it was with the holding company in the U.S.A.

The nature/heads of business expenditure were considered as reasonable holding that the business of the Applicant was making investments and gaining from capital appreciation and not of manufacturing or trading company, requiring day to day dealings with buyers and sellers, distributors, financers, marketing staff, logistics etc., so as to have several accounts under which payments are received or paid. Therefore, the applicant was allowed the benefit of DTAA as it passes the commercial purpose test.

BEPS – Action 6

It may be noted that the transaction in this case relates to the year 2012 and was decided on the basis of commercial purpose test, however, the Organisation of Economic Cooperation and Development ("OECD") on 5th October 2015 released the final reports on its Action Plan on Base Erosion and Profit Shifting (BEPS), listing 15 focus areas for potential change in international tax rules and treaties. Action 6 of this final proposed specific anti-abuse rules to be adopted for the Preventing the Granting of Treaty Benefits in Inappropriate Circumstances. It provided for a specific anti-abuse rule based on the limitation-on-benefits provisions that limits the availability of treaty benefits to entities that meet certain conditions.

Insertion of LOB Clause in India-Mauritus DTAA

In view of the India's commitment to the BEPS Project, India has re-negotiated many of its tax treaties to curb the treaty abuse. Considering the fact that Mauritius has zero capital gains tax, there were massive allegations of treaty shopping. In order to curb this, Article 27A was inserted in the DTAA by Notification No. SO 2680(E) {NO.68/2016 (F.No.500/3/2012-FTD-II)}, dated 10-8-2016, w.e.f. 1-4-2017. The clause provides that a resident of Mauritius or a shell company claiming to be resident of Mauritius will not allowed to avail the benefits under this treaty if it was set up merely to take advantage of the benefits. The sub-clause (3) further provides that company will be deemed to be a shell company if it's expenditure on operations in the immediately preceding period of 12 months from the date the gains arise is less than Mauritian Rs.15,00,000 in Mauritius or Indian Rs. 27,00,000 in India. Sub-clause (4) provides that a company will not be deemed to be a shell company if it is listed in a recognized stock exchange in one of the Contracting States. The test provided under sub-clause (3) is called expenditure test. Therefore, apart from the commercial purpose test, the expenditure test is also required to be satisfied to claim treaty benefits. However, it would be interesting to see as to what would constitute as expenditure on operations.

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