CASE STUDY 2 ABC Inc., USA ABC Inc. USA is a US based company having Mr. X and Mrs. Y as its shareholders. Mr. X, a person of Indian origin, residing in USA holds 51% and Mrs. Y. an Indian citizen who is also residing in US, holds 49% shares of ABC Inc. Both the shareholders, Mr. X and Mrs. Y, are also director in ABC Inc. There are three more directors in ABC Inc. Two of these directors are Indian citizens residing in Mauritius and one director is a US citizen residing in USA. The balance sheet of ABC Inc. for the year ended 31.12.2020 is as below: LiabilitiesAmountAssetsAmount in USD (Millions) Amount Equity shares (including reserves and surplus)100Investment in PQR LLC80 Bank20 100100 During the FY 2021-22, three out of four board meetings were held in India wherein directors residing in Mauritius and US physically participated, except Mr. X & Mrs. Y. They were paid sitting fees for the same. Board meetings held in India were attended by either of Mr. X and Mrs. Y, on video conferencing and decisions were made on majority basis by directors. ABC Inc. is not engaged in active business outside India. All major commercial decisions were made in board meetings conducted in India. The turnover for ABC Inc for year ended on 31st Dec 2020 was equivalent to INR 100 Crs. Mr. X and Mrs. Y Mr. X and Mrs. Y visited India in the month of March 2021 and got stuck due to COVID-19 pandemic and they were in India upto 31st October 2021. All the Board meeting during such period were held in India and either of Mr. X and Mrs. Y participated in board meetings virtually and took part in making all decisions, including decision for sale of shares by PQR LLC. PQR LLC, Mauritius PQR LLC is a Mauritius based entity, wholly owned by ABC Inc. PQR LLC made investment in XYZ Pvt Ltd in India, on 1st April 2016. PQR LLC is not engaged in active business outside India. Mauritius and India have a Double Taxation Avoidance Agreement which is identical to that of the provisions in UN Model Convention, however, changes as per exhibit A are made effective from 1st April 2017 On 1 November 2021, PQR LLC sold its 100% holding in XYZ Pvt Ltd to a Singapore based company, LMN LLC at a price of USD 100 MN. (1 USD = ₹70 on 1st Nov 2021) USD exchange rate on 1st April 2016, 1 USD = ₹40. The balance sheet of PQR LLC for the FY ended 31.03.2021 LiabilitiesAmountAssetsAmount in USD (Millions) Equity shares (including Reserves and surplus)80Investment in XYZ Pvt Ltd80 8080 The balance sheet of XYZ private Ltd. for the FY ended 31.3.2021 LiabilitiesAmountAssetsAmount in USD (Millions) Equity shares (including Reserves and surplus)80Immovable Properties*90 Loan for immovable Properties10 9090 *The fair market value of the Immovable Properties on the date of transfer is 100 Mn. LMN LLC. The Singapore Company, LMN LLC were managed by two joint MDs, Mr. Raja and Mr. Ram, both are citizen of India, residing in Singapore for last 15 years. They made this as strategic investment in India. The Board of LMN LLC wanted to infuse more funds to carry out operations in India but they don't want to do this by way of equity capital. As an alternate they inducted fund as loan of INR 800 Mn on 1st November 2021, to XYZ Pvt Ltd at an interest rate of 7% which is as per prime lending rate of State Bank of India. During the FY 2021-22, XYZ Pvt Ltd has earnings before interest, taxes, depreciation, and amortization INR 60 Mn. In the transfer pricing report, the transaction of interest payment was shown at Arm's Length Price. Out of total interest paid, XYZ Pvt Ltd failed to deduct tax on INR 13 Mn paid as interest to LMN LLC. Mr. Raja Mr. Raja, one of the directors of LMN LLC Singapore, visited India to oversee the operations in India on 15th November 2021 and stayed in India upto 31st March 2022. During the FY 2021-22, Mr. Raja has earned following income: Nature of IncomeAmount (INR) Dividend from a company listed in Singapore.7,00,000 Rental Income from house property in India.9,00,000 Interest income from NRE account in India.2,00,000 Capital gain from transfer of shares of a company listed in India.5,00,000 Exhibit- A Article-13 • 3A- Gains from the alienation of shares acquired on or after 1st April 2017 in a company which is resident of a Contracting State may be taxed in that State. • Gains from alienation of any property other than that referred to in paragraphs 1, 2, 3, 3А,. shall be taxable only in the contracting state of which the alienator is a resident. Choose the correct alternative for the following MCQs: (5 x 2 = 10 Marks)
Sub-questions (7)
Based on the facts, which one is correct statement about Place of Effective Management (POEM) of ABC Inc.?
(A) POEM is in India as the majority of board meetings of ABC Inc were held in India and major commercial decisions were made in these board meetings
(B) POEM is outside India as all directors have not visited India for board meetings held in India
(C) POEM is in India as the majority shareholders are citizen of India or person of Indian origin
(D) POEM is outside India as all the directors and shareholders are non-resident
Based on the facts of transfer of shares by PQR LLC, which one is a correct statement about accrual of Capital Gain which is chargeable to tax in India?
(A) Capital gain shall not accrue or arise in India as shares were sold by non-resident to another non-resident.
(B) Capital gain shall accrue or arise in India as shares of PQR LLC shall be deemed to be situated in India.
(C) Capital gain shall not accrue or arise in India as the shares of PQR LLC were held by US company.
(D) Capital gain shall accrue or arise in India as the shareholders of the ultimate company are citizen of India.
Whether Mr. X and Mrs. Y who visited India in March 2021 become resident of India for FY 2021-22 as per the provisions of section 6 of the Income-tax Act, 1961?
(A) No, because if any person is stranded in India due to COVID 19 lockdown shall not be considered resident of India.
(B) Yes, as they are Indian Citizen or person of Indian Origin
(C) Yes, as their total stay in India during FY 2021-22 is more than 182 days.
(D) No, because even though they were in India, but they were managing the affairs of the foreign entity.
To determine the residency of Mr. Raja, the total income other than the income from foreign source, which one of the following is correct?
(A) All four sources of income should be included together.
(B) All sources, other than dividend income, shall be included together.
(C) All sources, other than interest income from NRE account in India and dividend from shares listed in Singapore, shall be included together.
(D) All sources, other than capital gain from transfer of shares of company listed in India shall be included together.
XYZ Pvt Ltd seeks your advice regarding the disallowance of interest payment to LMN LLC.
(A) Interest expenses shall be disallowed because tax has not been deducted on whole amount of such interest.
(B) Interest expenses of USD 13 Mn shall be disallowed and not the full amount shall be disallowed.
(C) Interest expenses deduction shall be restricted upto 30% of EBITDA, subject to fulfilment of conditions of tax deduction at source
(D) No disallowance because the transaction is at arm's length.
Considering the provisions of India Mauritius DTAA, whether capital gain of PQR LLC, arising from transfer of shares of XYZ Ltd is taxable in India. Whether your answer would be different if such shares are acquired on or after 1 April 2017.
ABC Inc. were contemplating the sale of shares of PQR LLC, as a part of their strategy to exit from Indian operations in the beginning of Financial Year 2021-22. In this regard, they are seeking an advice with respect to determination of the capital gain tax, if any, on the transfer of shares of PQR LLC. (a) In this regard, briefly explain whether any capital gains shall accrue or arise in the hands of ABC Inc. on the transfer of shares of PQR LLC. (b) Also explain how the fair market value of asset shall be determined in this case.