The Curious Case of how the Taxman caught the Tiger
Tiger Global was one of the earliest investors in Flipkart. They sold about 17% of their stake in Flipkart as part of the Walmart deal - a transaction valued at about INR 14,500 crore.
And this, is the crux of the issue. Tiget Global made it's investments out of Mauritius - a long time tax haven being used for years now.
The India-Mauritius DTAA has been used (almost abused) for years. Basically, if you are an investment company based in Mauritius and hold shares of an Indian Company, India could not tax sale of said shares as Capital Gains. Mauritius does not tax Capital Gains at all. So voila - No tax at all.
Large companies for years made merry with this provision until 2016 when India decided enough was enough. Amendments were made to the treaty and this loophole was fixed.
This brings us to the Tiger Global issue. Tiger Global made most of the investments before 2016. The amended treaty contains a Grand-fathering provision that basically says the amendments wouldn't apply to investments made earlier. So when Tiger Global sold their stake in Flipkart, they didn't expect to have to pay tax.
And here's where things got interesting. Tiger Global's funds were operating out of Mauritius, it's place of effective management was Mauritius. There was no reason to say it was not a Resident of Mauritius. Obviously, this was specifically set-up this way and everyone could see that the funds were actually owned by a US Company (Tiger Global Management LLC). Perfectly legal to set it up that way. Tiger Global contested that since the grand-fathering provisions apply, there should be no capital gains tax.
The Income Tax Department disagreed (obviously). The matter was brought to the Authority for Advance Rulings (AAR). Tiger Global had one major contention.
“It must be proven that the transaction [the final sale] itself and not the structure of the entity undertaking the transaction was designed for the avoidance of income-tax and that the Revenue (the Income Tax Department) had failed to discharge its burden of proof”
The AAR, unfortunately, disagreed. The AAR essentially said that all your holding companies and funds are a sham. If we look at where the actual brains of the transaction are - that is in the US. The Income Tax Department proved that Charles P. Coleman (operating out of a U.S based entity) was the beneficial owner of the fund and that “he” was primarily responsible for most management decisions. So the AAR hit back with this
The applicants [Tiger Global funds from Mauritius] have contended that the holding structure of the applicants has no relevance to determine whether the transaction was prima facie designed for avoidance of tax. In our opinion, it is not the holding structure only that would be relevant. The holding structure coupled with prima facie management and control of the holding structure, including the management and control of the applicants, would be relevant factors for determining the design for avoidance of tax. The applicant companies were only a “see-through entity” to avail the benefits of India-Mauritius DTAA [Double Taxation Avoidance Agreements]
Basically the AAR said that they would look at the transaction as a whole. AAR concluded that there was no doubt that Tiger Global had set up the Mauritius based entity to avoid paying taxes and therefore should be liable to pay what the Income Tax authorities deem fit.
Obviously, this matter isn't over and Tiger Global will file appeals with higher judicial authorities and this may get reversed.
What we wanted to point out is we're moving now to a tax compliant world. The old methods of tax planning don't work anymore. The GAAR rules have further plugged any further loopholes. It is a time to simplify your holding structures and use simple yet efficient methods to plan your taxes.
Obviously, we've avoided filling this article with legal or tax jargon. There's no need to unnecessarily complicate and bore you!