Central Board of Direct Taxes releases Draft Rules for Valuation of Indirect Transfers


ABSTRACT


Through this alert we seek to apprise you about the latest amendment to the Income Tax Rules, 1962 by way of notification No. F.No. 142/26/2015-TPL dated 23 May 2016 i.e. the draft rules for valuation of Indirect Transfers involving assets of a Foreign Company with underlying Indian assets as issued by the government of India and analyse the same.


INTRODUCTION

In generic terms, Fair Market Value (FMV) is considered as an estimate of the Market Value of a property, based on what a knowledgeable, wiling buyer would pay to a knowledgeable, wiling seller in the market. It is used as a certainty of the Market Value of an asset for which a market price cannot be determined, primarily because there is no established market for the asset in question.


By way of the Finance Act, 2015, Explanation 6 was inserted to the Section 9 of the Income Tax Act, 1961, in terms of which the asset owned by a Company or an Entity was considered to be the FMV as on the specified date of such asset without reduction of liabilities, if any, in respect of the asset, determined in the manner as prescribed.[1]


Vide its notification number F.No. 142/26/2015-TPL dated 23rd May 2016, the Ministry of Finance, Department of Revenue, Central Board of Direct Taxes, released the draft rules for Valuation of Indirect Transfers involving assets of a Foreign Company with underlying Indian assets thereby amending the Income Tax Rules, 1962. The draft rules state processes for computing the FMV and thus the Capital Gains Tax liability in India.[2]


COMPUTATIONS

To access the computation table, please click here:

Note: Rate of exchange for the calculation in foreign currency, of the value of assets located in India and expressed in rupees shall be the telegraphic transfer buying rate of such currency as on the specified date.

RULE 114DB: INFORMATION OR DOCUMENTS TO BE FURNISHED BY SOME INDIAN CONCERNS

Every Indian concern under Section 285A of the Act [3] shall, for the purposes of the said section, maintain and furnish the information and documents in accordance with this rule:


[if !supportLists]● In Form 49D electronically under digital signature to the Assessing Officer having jurisdiction over the Indian concern within a period of 90 days from the end of the financial year in which any transfer of the share of, or interest in, a foreign company has taken place;


[if !supportLists]● [endif]Where the transaction in respect of the share or the interest had the effect of directly or indirectly transferring the right of management or control in relation to the Indian concern, the information shall be furnished in the said form within 30 days of the transaction;


[if !supportLists]● In addition to above, the said Indian concern is required to maintain the following and produce the same when called upon to do so by any income-tax authority in the course of any proceeding to substantiate the information: -

  1. Details of the immediate holding company or entity, intermediate holding company or companies or entity or entities and ultimate holding company or the entity of the Indian concern;

  2. Details of other entities in India of the group of which the Indian concern is a constituent;

  3. The holding structure of the shares of, or the interest in, the foreign company or entity before and after the transfer;

  4. Any transfer contract or agreement entered into in respect of the share of, or interest in, any foreign company or entity that holds any asset in India through, or in, the Indian concern;

  5. Financial and accounting statements of the foreign company or the entity which directly or indirectly holds the assets in India through, or in, the Indian concern for 2 years prior to the date of transfer of the share or interest;

  6. Information relating to the decision or implementation process of the overall arrangement of the transfer;

  7. Other information relating to:

(a) The business operation;

(b) Personnel;

(c) Finance and properties;

(d) Internal and external audit or the valuation report, if any;

8. The asset valuation report and other supporting evidence to determine the place of location of the share or interest being transferred;

9. The details of payment of tax outside India, which relates to the transfer of the share or interest;

10. The valuation report in respect of Indian assets and total assets duly certified by a merchant banker or accountant with supporting evidence;

11. Documents, which are issued in connection with the transactions under the accounting practice followed.


Note: The information and documents specified above, shall be kept and maintained for a period of 8 years from the end of relevant assessment year.

DEFINITIONS

[if !supportEndnotes]

1. “Telegraphic transfer buying rate” in relation to a foreign currency, means the rate or rates of exchange adopted by the State Bank of India constituted under the State Bank of India Act, 1955 (23 of 1955), for buying such currency, having regard to the guidelines specified from time to time by the Reserve Bank of India for buying such currency, where such currency is made available to that bank through a telegraphic transfer.


2. “Observable price” in respect of a share quoted on a stock exchange is the higher of the following:

  • The average of the weekly high and low of the closing prices of the shares quoted on the said exchange during the six months period preceding the specified date, or

  • The average of the weekly high and low of the closing price of the shares quoted on the said exchange during the two weeks preceding the specified date.

3. “Book value of the liabilities” means the value of liabilities as shown in the balance sheet of the company or the entity as the case may be, excluding the paid-up capital in respect of equity shares/members’ interest.

4. “Specified date” means the— (i) date on which the accounting period of the company or, as the case may be, the entity ends preceding the date of transfer of a share or an interest; or(ii) date of transfer, if the book value of the assets of the company or, as the case may be, the entity on the date of transfer exceeds the book value of the assets as on the date referred to in sub-clause (i), by fifteen per cent.


5. "Accountant” means a chartered accountant who holds a valid certificate of practice, but does not include except for the purposes of representing the assessee—

(a) In case of an assessee, being a company, the person who is not eligible for appointment as an auditor of the said company; or

(b) In any other case,—

(i) The assessee himself or in case of the assessee, being a firm or association of persons or Hindu undivided family, any partner of the firm, or member of the association or the family;

(ii) In case of the assessee, being a trust or institution, any person referred to in clauses (a), (b), (c) and (cc) of sub-section (3) of section 13;

(iii) In case of any person other than persons referred to in sub-clauses (i) and (ii), the person who is competent to verify the return under section 139 in accordance with the provisions of section 140;

(iv) Any relative of any of the persons referred to in sub-clauses (i), (ii) and (iii);

(v) An officer or employee of the assessee;

(vi) An individual who is a partner, or who is in the employment, of an officer or employee of the assessee;

(vii) An individual who, or his relative or partner—

(I) Is holding any security of, or interest in, the assessee: Provided that the relative may hold security or interest in the assessee of the face value not exceeding one hundred thousand rupees;

(II) Is indebted to the assessee: Provided that the relative may be indebted to the assessee for an amount not exceeding one hundred thousand rupees;

(III) Has given a guarantee or provided any security in connection with the indebtedness of any third person to the assessee: Provided that the relative may give guarantee or provide any security in connection with the indebtedness of any third person to the assessee for an amount not exceeding one hundred thousand rupees;

(viii) A person who, whether directly or indirectly, has business relationship with the assessee of such nature as may be prescribed;

(ix) A person who has been convicted by a court of an offence involving fraud and a period of ten years has not elapsed from the date of such conviction.


6. “Merchant Banker” means category I merchant banker registered with Securities and Exchange Board of India;


7. “Recognised Stock Exchange” means a stock exchange which is for the time being recognised by the Central Government.


8. “Balance sheet”

  • In relation to an Indian company, means the balance-sheet of such company (including the notes annexed thereto and forming part of the accounts) as drawn up on the specified date which has been audited by the auditor of the company appointed under the laws relating to companies in force and where the balance-sheet on the specified date is not drawn up, the balance-sheet (including the notes annexed thereto and forming part of the accounts) drawn up as on a date immediately preceding the specified date which has been approved and adopted in the annual general meeting of the shareholders of the company;

  • In any other case, means the balance-sheet of the company or entity (including the notes annexed thereto and forming part of the accounts) as drawn up on the specified date or as drawn up on a date immediately preceding the specified date and which has been submitted to the relevant authority outside India under the laws in force of the country in which the foreign company or the entity is incorporated or established

9. “Ultimate holding company or entity” means a company or the entity that has ultimate control of the Indian concern directly or indirectly and such company or entity is not itself controlled by or is subsidiary of any other company or entity;


10. “Intermediate holding company or entity” means a company or an entity that has controlling interest in another company or entity and is itself controlled by or is subsidiary of another company or entity;


11. “Immediate holding company or the entity” means the company or entity that directly maintains the controlling interest in the Indian concern.

ANALYSIS

Determining the manner in which the FMV is to be calculated is critical because it has brought further clarity on how the ‘indirect taxes’ are to be computed by foreign companies, particularly if such company derives its substantial value from the assets located in India. We believe, these rules were long overdue, as the corresponding provisions had already been introduced by way of the Finance Bill, 2015.


The Indirect tax provision in itself is provision that has been enacted as a contrary reflex to the landmark ruling of the Supreme Court of India in ‘Vodafone International Holdings BV v. Union of India’ (2012) 6 SCC 613, wherein the Supreme Court was inter alia of the view that the company located abroad, shall not be subjected to tax in India as the shares of such a company were not located in India.[if !supportFootnotes][4][endif] Though the requirement for reporting for Indian Companies appears to be demanding, it is to be seen how the requirement overall facilitates the transparency in company transactions. Since these are draft rules upon which the government was inviting comments and suggestions by 29th May 2016, it is expected that the final rules bring further clarity to valuation parameters, the scope of capital and make the documentation requirements of companies more flexible. Nevertheless, these rules as and when incorporated shall definitely ensure that the government keeps a watch on the offshore/overseas transfer of shares/interest and shall further help the government monitor inter-party transactions.


To access the full draft rules, please click here.

Disclaimer: The views and opinions expressed in this article are based on extensive and thorough research. In no way does the author or the law firm claim ownership of the ideas and concepts presented in this paper. Information so provided is to be strictly considered for general reference of the subject matter, which has been adequately referenced. Specialist advice should be sought about any specific circumstances directly from the law firm.

REFERENCES

[if !supportEndnotes]


[if !supportFootnotes][1] Section 9 of the Income Tax Act, 1961, available at: <http://www.incometaxindia.gov.in/pages/acts/income-tax-act.aspx>

[endif][2] F No. 142/26/2015-TPL, available at: <http://finmin.nic.in/the_ministry/dept_revenue/TPL_ValuationRules23052016.pdf>

[3][endif] Available at: <http://www.incometaxindia.gov.in/pages/acts/income-tax-act.aspx>

[4] Available at < http://supremecourtofindia.nic.in/outtoday/sc2652910.pdf >


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