Rav Singh

Tax Residency Certificate and Stakes in the Blackstone Case – II

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In the first part of this Article, I detailed Delhi High Court’s decision in the Blackstone case. This part focuses on the immediate and larger issues that are likely to be considered by the Supreme Court in its decision on the appeal against the Delhi High Court’s decision. The central issue in the appeal is likely to be the eligibility for tax benefits under a DTAA, and as one witnessed in the Azadi Bachao case, any legal opinion on the issue will navigate both domestic and international tax law.     

Interpretation of DTAAs

To begin with, DTAAs, a legislative instrument agreed to and signed by two contracting states, needs to be interpreted to decipher the agreement between the two sovereign states. The Delhi High Court had to contend with two issues relating to DTAA: whether Article 13 incorporated the concept of beneficial ownership and the conditions imposed by the LOB clause. With regards to the former, the High Court compared Article 13, as it stood at the relevant time, with other provisions of the DTAA, i.e., Articles 10, 11, and 12 which provide for taxation of dividends, interest, and royalties respectively. The High Court correctly pointed out that in India-Singapore DTAA the concept of beneficial ownership attracted taxation only qua Articles 10,11, and 12 which expressly provided for it and beneficial ownership cannot be read into Article 13 in the absence of any mention of the same in the latter. (para 61)    

The Delhi High Court was also unequivocal in its conclusion that the LOB clause included in Article 24A of the India-Singapore DTAA provides for an objective and not a subjective test. As per the LOB clause, only companies that are not shell companies can claim benefits of the India-Singapore DTAA and to establish if a company is not a shell company there is an expenditure test. The High Court observed that the audited financial statement of Blackstone Singapore and independent chartered accountant certificate established that the expenditure of the company is above the prescribed limit. The High Court rejected the Income Tax Department’s view that Blackstone Singapore was a shell company by observing that all expenditure incurred by it in Singapore, direct and indirect, will be considered an operational expense. The Income Tax Department’s attempt to bifurcate expenses into operational and other expenses was rejected. (para 70) 

In interpreting both Article 13 and LOB clause in Article 24A of the India-Singapore DTAA, the Delhi High Court adopted a good faith interpretation of the treaty. One could also suggest that a strict interpretation was adopted. Either way, it is the acceptable and welcome interpretive approach as it avoids reading into the DTAA phrases and expressions that are not expressly included in its text. Particularly, notable are the Delhi High Court’s observations that LOB clause incorporates an objective test. If the expenditure threshold is met and the expenses are verified, the Income Tax Department cannot form a subjective opinion that the expenses are not operational expenses.   

The interpretation of both the above provisions is likely to be tested before the Supreme Court. Though the Delhi High Court’s opinion stands on firm footing, it is difficult to ascertain how the Supreme Court will approach the same issues. 

Validity of TRCs and Relevance of Azadi Bachao Ratio 

From a domestic tax law perspective, an issue that needs determination is the mandate and requirements of Sections 90(4) and 90(5). As I’ve mentioned in the first part of this article, Section 90(4) states than an assessee, who is not a resident of India, is not entitled to claim any tax relief under DTAA unless it obtains a TRC from the country of residence. And Section 90(5) states that an assessee referred to in sub-section (4) shall provide such other documents and information, as may be prescribed. Both the sub-sections, in no manner, state that TRC is a necessary but not a sufficient condition to claim DTAA benefits. This interpretation is not only borne out by the bare text of the provisions, but also their legislative history. The Delhi High Court, like the Punjab and Haryana High Court, arrived at a correct conclusion that the legislative history of these provisions does not support the Income Tax Department’s argument that it can go behind the TRC issued by a contracting state.   

Further, the appeal will necessarily involve engagement with the Supreme Court’s ratio in Azadi Bachao case. The Azadi Bachao case settled various issues, the relevant portion of the ratio for the purpose of our discussion here are: under Section 119, IT Act, 1961, CBDT possesses the power to issue a Circular stating that TRC issued by Mauritius would be a sufficient evidence of the assessee’s residence status. While the Circular was issued in the context of India-Mauritius DTAA, there is no legal reason why a similar approach would be invalid in the context of India-Singapore DTAA. Especially, as the Delhi High Court noted, the Press Release of the Ministry of Finance issued in 2013 also adopted a similar position. And the Press Release described the general legal position and not in context of India-Mauritius DTAA.   

Nonetheless, the arguments about the scope and mandate of CBDT have reared their head often and will perhaps do so in the future. And the impugned appeal provides an opportunity to raise the issue about CBDT’s powers again. But we do need an understanding beyond the simple dictum that CBDT’s Circulars are binding on the Income Tax Department. If and to what extent do the assessing officers possesses the mandate to scrutinize returns and question the TRC still does not have a straightforward answer. Does CBDT Circular and Azadi Bachao case foreclose any possibility of an assessing officer questioning the TRC? The Supreme Court, in Azadi Bachao case, was categorical in its conclusion that the Circular No. 789 issued by CBDT – mandating acceptance of TRC issued by Mauritius – in reference to India-Mauritius DTAA was within the parameters of CBDT’s powers under Section 119, IT Act, 1961. And the said Circular did not crib, cabin or confine the powers of the assessing officers but only formulated ‘broad guidelines’ to be applied in assessment of assessees covered under the India-Mauritius DTAA.    

Both the above aspects in respect of domestic tax law, specifically IT Act, 1961 will likely be argued and examined in the impugned appeal. The nature and extent of their influence will only be known in due time. 

Way Forward 

Prima facie, there is little to suggest that the Delhi High Court’s view deviates from the accepted interpretation of the Azadi Bachao case and the guiding principles of tax treaty interpretation. Neither is the Delhi High Court’s understanding of legislative history of Section 90(4) and 90(5) incorrect. The Supreme Court can and may have other views. Irrespective of the outcome, the arguments advanced by both parties, the reasoning and approach of the Supreme Court and the outcome of the case will impact Indian tax jurisprudence in multiple ways.  

Tax Residency Certificate and Stakes in Blackstone Case – I

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In BlackStone case framed the following as the main issue for consideration: whether the Income Tax Department can go behind the tax residency certificate (‘TRC’) issued by another jurisdiction and issue a re-assessment notice under Section 147, IT Act, 1961 to determine the residence status, treaty eligibility and legal ownership. In this article, I will focus only on the issue of TRC. In the first part of this article, I provide a detailed explanation of the case and in the second part I highlight the stakes involved in the case given that the Supreme Court has decided to hear an appeal against the Delhi High Court’s judgment.  

Facts 

Blackstone Capital Partners (Singapore) VI FDI Three Pte. Ltd (‘Blackstone Singapore’) acquired equity shares of Agile Electric Sub Assembly Private Limited, a company incorporated in India in two tranches on 16.08.2013 and 31.10.2013. In the Assessment Year 2016-17, Blackstone Singapore sold all the equity shares. In its return of the income, Blackstone Singapore claimed that the capital gains earned by it on sale of shares were not taxable in India as per Article 13(4) of the India-Singapore DTAA.  The import of Article 13(4) was that capital gains earned by a resident of India or Singapore were taxable only in its resident state. Since Blackstone Singapore possessed a TRC issued by Singapore, it claimed tax exemption in India on its capital gains under the India-Singapore DTAA. On 08.10.2016, Blackstone Singapore’s return was processed with no demand by the Indian Income Tax Department. 

On 31.03.2021 a notice was issued to Blackstone Singapore under Section 148, IT Act, 1961 (reassessment notice). On 28.04.2021 Blackstone Singapore filed its return and requested reasons for re-opening the assessment. Eight months later, on 02.12.2021 Blackstone Singapore was provided reasons for re-opening the case. The primary reason, as per the Income Tax Department, was that Blackstone Singapore was part of US-based management group and it appeared that the source of funds and management of affairs of Blackstone Singapore was from US. And there was an apprehension that Blackstone Singapore was not the beneficial owner of the transaction. The Income Tax Department was claiming that beneficial owner of the shares was Blackstone US, with Blackstone Singapore being a conduit/shell company incorporated to avail tax benefits under the India-Singapore DTAA.  

Blackstone Claims Tax Exemption 

Blackstone Singapore’s case for tax exemption of capital gains was predicated on the following: 

First, Blackstone claimed that it was entitled to claim tax exemption under Article 13(4) of the India-Singapore DTAA. Article 13(4) of the India-Singapore DTAA originally stated that the gains derived by resident of a Contracting State from the alienation of any property other than those mentioned in paragraphs 1,2 and 3 of this Article shall be taxable only in that State. In simple terms it meant that capital gains of a resident of Singapore or India were taxable only in its resident state. Since Blackstone possessed a valid TRC from Singapore, it was as per Article 13(4), not liable to pay tax in India, but in the country of its residence. 

Second, Blackstone relied on the chequered history of the India-Mauritius DTAA. In reference to the India-Mauritius DTAA, CBDT had issued a Circular No. 789 on 13.04.2000 stating if a TRC was issued by the Mauritian authorities, it would constitute sufficient evidence for accepting the status of residence as well as beneficial ownership for applying the DTAA accordingly. And the validity of the said Circular was upheld by the Supreme Court in the Azadi Bachao case and its ratio subsequently approved in the Vodafone case. Analogously, Blackstone Singapore claimed that TRC issued by Singapore should be sufficient to qualify for tax benefits under the India-Singapore DTAA.  

Third, Blackstone cited a Press Release issued by the Ministry of Finance on 01.03.2013 regarding TRC. The Press Release categorically stated that the TRC produced by a resident of a contracting state will be accepted by the Indian Income Tax Department for the purpose that he is a resident of that contracting state and that the income tax authorities in India will not go behind that certificate to question the resident status. The income tax authorities had no option but to accept the validity of TRC issued by Singapore.         

Fourth, Blackstone, to rebut allegations that it was not the beneficial owner or was a shell company in Singapore, argued that it fulfilled the requirements incorporated in the India-Singapore DTAA. Article 3 of the Third Protocol of India-Singapore DTAA added Article 24A in the DTAA w.e.f 01.04.2017. Article 24A contains a detailed LOB clause and as per one of its conditions the resident of one of the Contracting States is prevented from claiming the benefits of DTAA if its annual expenditure on operations in that State was less than Rs 50,00,000 in the immediately preceding period of 24 months from the date the gains arise. In the expenditure was below the prescribed, it was presumed that the company was shell/conduit company. Blackstone Singapore argued that since its expenditure for running the Singapore company was above the prescribed threshold it cannot be considered a shell company and denied treaty benefits. 

Income Tax Department Defends its Interpretation of the Treaty  

First, the Income Tax Department claimed that the management and funding of Blackstone Singapore was in US and not Singapore. And that the ultimate holding company was in US, and Blackstone Singapore entity was used as a conduit since the India-US DTAA did not provide capital gains exemption. The filings of Blackstone Group before SEC, US were used to underline the control of Blackstone, US over Blackstone, Singapore. Further, the Income Tax Department argued that Blackstone, Singapore had a paid-up capital of US $1 and it was hard to believe that it had independently decided to acquire assets worth US $53 million and in two years made profits of US $55 million. 

Second, the Income Tax Department argued that Blackstone Singapore does not meet the LOB test since the expenditure mentioned in the LOB clause is ‘operations expenditure’ and not just an ‘accounting entry’. The Income Tax Department argued that a major part of Blackstone’s expenses were merely management expenses paid to a group company which were nothing more than an accounting entry and did not constitute real expenses.  

Third, the Income Tax Department argued that as per Section 90(4) of the IT Act, 1961, TRC was a ‘necessary’ but not a ‘sufficient’ condition to claim DTAA benefits. And that a TRC is only binding when a court or authority makes an inquiry into it and makes an independent decision. Though a plain reading of Section 90(4) does not support this interpretation.  

Fourth, an extension of the third argument, it was argued that the Press Release of 2013, Supreme Court’s decision in Azadi Bachao case and the CBDT Circulars that were considered in Azadi Bachao case were issued in the context of India-Mauritius DTAA and were not applicable to India-Singapore DTAA. Further, it was contended that Azadi Bachao case did not circumscribe the jurisdiction of an assessing officer in individual cases. And that CBDT Circulars only provide ‘general’ instructions and cannot interfere with quasi-judicial powers of the assessing officers.        

Delhi High Court Favors Blackstone 

On the issue of TRC, the findings of the Delhi High Court were categorically in favor of Blackstone Singapore. The High Court observed that: 

… the entire attempt of the respondent in seeking to question the TRC is wholly contrary to the Government of India’s repeated assurances to foreign investors by way of CBDT Circulars as well as press releases and legislative amendments and decisions of the Courts … (para 71)

The Delhi High Court noted that the actions of the Income Tax Department in questioning the TRCs were contrary to Azadi Bachao, Vodafone cases and other cases. 

On the issue of whether Section 90(4) provides that TRC is a necessary or a sufficient condition to claim DTAA benefits, the Delhi High Court relied on legislative history of Section 90(5) instead of the bare text of Section 90(5). To begin with, Section 90(4) is worded in negative terms and does not use either the word ‘sufficient’ or ‘necessary’. Section 90(4) states that:

            An assessee, not being a resident, to whom an agreement referred to in sub-section (1) applies, shall not be entitled to claim any relief under such agreement unless a certificate of his being a resident in any country outside India or specified territory outside India, as the case may be, is obtained by him from the Government of that country or specified territory. 

Clearly, mere reliance on the bare text of Section 90(4) does not throw sufficient light on whether the TRC constitutes a sufficient evidence of residence in a contracting state. The Delhi High Court referred to Finance Bill, 2013 which proposed to introduce Section 90(5). The proposed draft text of Section 90(5) as contained in Finance Bill, 2013 was: 

The certificate of being a resident in a country outside India or specified territory outside India, as the case may be, referred to in sub-section (4), shall be necessary but not a sufficient condition for claiming any relief under the agreement referred to therein.” 

However, immediately after introduction of the Finance Bill, 2013, the Ministry of Finance issued a clarification via a Press Release clearly stating that a TRC issued by a contracting state would constitute as sufficient evidence of its residence, and the Delhi High Court clarified that the clarification was not Mauritius specific. Since the proposed Section 90(5) was not implemented by the Finance Act, 2013, the Delhi High Court refused to accept the Income Tax Department’s argument that TRC is a necessary but not a sufficient condition to claim DTAA benefits. The High Court also relied on similar reasoning and conclusion arrived at by the Punjab & Haryana High Court in the Serco Bpo Pvt Ltd case.  

Accordingly, the Delhi High Court concluded that:

Consequently, the TRC is statutorily the only evidence required to be eligible for the benefit under the DTAA and the respondent’s attempt to question and go behind the TRC is wholly contrary to the Government of India’s consistent policy and repeated assurances to Foreign Investors. In fact, the IRAS has granted the petitioner the TRC after a detailed analysis of the documents, and the Indian Revenue authorities cannot disregard the same as doing the same would be contrary to international law. (para 91) 

Aftermath

The Income Tax Department, unsurprisingly appealed against the Delhi High Court’s decision and the Supreme Court, also unsurprisingly, has stayed the decision. The Supreme Court will, in all likelihood, have a final say on the matter; though in India, the Revenue Department wishes to be final authority on all tax matters. Nonetheless, there are important legal and policy questions that are stake in this case. Based on my understanding, I detail and highlight the stakes involved in the second part of this article. 

Leg History of Sec 90(4) & 90(5), IT Act, 1961

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The infographic below is a snapshot of the legislative history of Section 90(4) and 90(5) of IT Act, 1961. It provides a summary view of the Income Tax Department’s attempt to include a stringent condition for a non-resident assessee to claim DTAA benefits. The condition, simply stated, was that a TRC issued by a contracting state is a necessary but not a sufficient condition to claim DTAA benefits. It was supposed to allow the Indian income tax authorities to go behind the TRC issued by another state.

The importance and relevance of the legislative history of the aforesaid provisions can be better understood by reading this and this in the wake of Delhi High Court’s decision involving tax benefits under the India-Singapore DTAA. An appeal against the decision is pending before the Supreme Court at the time of publishing this infographic.

Fee Attributable to Transmission of Non-Live Feed Not Royalty: Delhi HC

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The Delhi High Court in a recent decision[1] held that the fee attributable to ‘non-live’ feed cannot be categorized as royalty under Section 9(1)(vi) of the IT Act, 1961. The High Court relied on the observations in Delhi Race Club case to support its conclusions. 

Facts 

The assessee entered into a tripartite agreement – titled as the ‘Novation Agreement’ – with ESS Singapore and Star India Private Limited by way of which various existing agreements regulating distribution of channels, ads, etc. came to be novated. For the Assessment Year 2015-16, the assessee offered an amount of Rs 65,44,67,199/- as royalty income subject to tax under Section 9(1)(vi) of the IT Act, 1961. The Assessing Officer questioned the assessee as to why out of total income of Rs 1181.63 crores only Rs 65,44,67,199/- was offered for taxation as royalty. The assessee replied that only the income attributable to ‘non-live’ feed was taxable as royalty while the income attributable to ‘live’ feed would not fall within the ambit of royalty as contemplated under Section 9(1)(vi). 

The ITAT noted that in the agreement, under the head of ‘consideration’ the parties acknowledge and agree that 95% of the commercial fee is attributable to live feed and 5% to the non-live feed. The ITAT concluded that the fee from non-live feed would not be covered within the ambit of royalty. The ITAT’s view was assailed by the Revenue before the Delhi High Court. 

Arguments and Decision 

The arguments were straightforward with the Revenue contending that the fee from ‘non-live feed’ was covered within the scope of royalty under Explanation 2 of Section 9(1)(vi) of the IT Act, 1961.  The assessee contended otherwise, primarily relying on, Delhi Race Club case ratio. 

The Delhi High Court cited the ratio of Delhi Race Club case where it was held that live telecast/broadcast is not a work under Section 2(y) of the Copyright Act and thus a live telecast/broadcast would have no copyright. The Delhi High Court in the Delhi Race Club case held that copyright and broadcast reproduction rights are two separate rights and the two rights though akin are nevertheless separate and distinct. Expressing its concurrence with the ratio of Delhi Race Club case, the Delhi High Court in the impugned case observed that: 

In light of the unequivocal conclusions as expressed by the Division Bench in Delhi Race Club and with which we concur, we find that once the Court came to the conclusion that a live telecast would not fall within the ambit of the expression „work‟, it would be wholly erroneous to hold that the income derived by the assessee in respect of „live feed‟ would fall within clause (v) of Explanation 2 to S.9(1)(vi) of the Act. (para 10)

The Delhi High Court in the impugned case was correct and prudently followed the well-reasoned ratio of Delhi Race Club case. The Revenue in an attempt to bring fee from ‘live’ feed within the ambit of royatly, in the impugned case, also sought to place assessee’s income under Explanation 6 to Section 9(1)(vi) which states as follows: 

            … the expression “process” includes and shall be deemed to have always included transmission by satellite (including uplinking, amplification, conversion or down-linking of any signal), cable, optic fibre or by any other similar technology, whether or not such process is secret;

The Delhi High Court correctly rejected the Revenue’s argument noting that Explanation hinges on transmission being via satellite while in the impugned case the transmission happened via SIPL. 

Conclusion 

The Delhi High Court made additional observations on the relationship of international tax law and domestic law and how the former overrides the later. (paras 15-17) From the judgment and the arguments reproduced in the judgment, the context and relevance of international tax law is not entirely clear. Most likely, the High Court was trying to underline that the definition of royalty under the IT Act, 1961 can be amended by the legislature, but if the definition of royalty in the applicable Double Taxation Avoidance Agreement is more beneficial to the assessee it would apply. Or that the definition in an international agreement cannot be negated via domestic actions alone. Nonetheless, the relevance of the High Court’s observations on international tax law are not immediately apparent.   

[1] The Commissioner of Income Tax, International Taxation v Fox Network Group Singapore PTE Ltd TS-28-HC-2024DEL

Section 16, CGST Act is Constitutional: Kerala HC

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The Kerala High Court recently[1] dismissed a taxpayer’s challenge that Section 16(2)(c) and Rule 36(4) of CGST Rules, 2017 were violative of Article 14 and unconstitutional. The High Court ruled that the taxpayer’s challenge was vague, and the impugned provisions did not suffer from the vice of manifest arbitrariness and were not unconstitutional.   

Facts 

The brief facts of the case are: taxpayer was denied ITC under the CGST and SGST Acts on the ground of difference in GSTR 2A and GSTR 3B returns. The Assessing authority levied interest, penalty, and initiated recovery proceedings against the taxpayer. The taxpayer challenged the assessment order and the constitutional validity of Section 16(2)(c) and Rule 36(4).

Section 16(2)(c) states that no registered person shall be entitled to ITC in respect of any supply of goods or services unless the tax charged in respect of such supply has been actually paid to the Government either in cash or through utilization of ITC admissible in respect of such supply. Rule 36(4) states that ITC to be availed by a registered person in respect of invoices or debit notes the details of which have not been furnished by suppliers in GSTR-1 shall not exceed 5% of eligible ITC available in respect of invoices or debit notes the details of which have been furnished by the suppliers. 

Since the judgment didn’t mention in detail the arguments of the parties, it is difficult to decipher the exact ground on which the constitutional challenge was made by the taxpayer. One can only glean the arguments from the Kerala High Court’s reasoning and its conclusion.  

Decision 

The Kerala High Court articulated four reasons to dismiss the taxpayer’s challenge. 

First, the High Court noted that ‘it is settled’ that ITC is a benefit/concession and not a right extended to a dealer. And that ITC can only be claimed by a taxpayer as per the conditions prescribed in the statute. (para 5) And that the State in exercise of its rule making powers can provide additional conditions for availing the concession. This view aligns with recent decisions wherein ITC has been labelled as a concession thereby providing the State ample, if not infinite space, to impose conditions on taxpayers before they can successfully claim ITC.  

Second, the High Court relied on the doctrine of deference to tax statutes, encoded in Indian tax jurisprudence and is dutifully invoked by Courts without scrutinizing the merits of the doctrine. In the impugned case, the High Court noted there was need for judicial restraint before interfering with tax statutes unless the statute was manifestly unjust or glaringly unconstitutional. (para 10)

Third, the High Court rejected the taxpayer’s claims that Section 16(2)(c) and Rule 36(4) of CGST Rules, 2017 were violative of Article 14 on the ground that the argument was vague. The High Court further noted that neither did the provisions discriminate between the purchaser and seller nor were they manifestly arbitrary and were not contrary to Article 14. 

Fourth, the High Court relied on the facts to observe that the taxpayer did not produce tax invoice as required by Section 16 despite various opportunities, nor did it appear for personal hearing and equally did not discharge the burden on a dealer as per Section 155, CGST Act, 2017. Section 155 states that where any person claims that he is eligible for ITC, the burden of proving such claim shall lie on such person. Since the taxpayer did not meet the prescribed conditions under Section 16 and did not provide the documents, the High Court was correct in holding that the taxpayer did not discharge the burden under Section 155. 

Conclusion 

The Kerala High Court’s decision is defensible and cogent when it invokes Section 155 and non-fulfilment of the conditions of Section 16. However, the High Court is on tricky ground when it claims that ‘it is settled’ ITC is a concession. Undoubtedly, some of recent decisions have taken a similar view, but it is ordinarily incumbent on a Court to acknowledge the divergent interpretations and that ITC has not always been interpreted to be a concession. Similarly, the invocation of doctrine of deference to tax statutes, while well-established, needs to be scrutinized as to its relevance if not its merits in constitutional challenges to tax statutes. Surely, there is room to suggest that the doctrine is not holy grail in all constitutional challenges to tax statutes. The High Court was remiss in not paying adequate attention to the aforementioned facets of the reasoning.               

[1] Nahasshukoor v Asst Commr, Second Circle, SGST, Colletorate 2023:KER:69725. 

Jharkhand HC Allows State Authorities to Continue Proceedings, Rejects DGGI’S Arguments on Nationwide Fake ITC Fraud

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The Jharkhand High Court recently adjudicated a writ petition where the petitioner had argued that only the authority which had initiated the entire process of investigation can complete the modalities and any subsequent actions by other authorities need to be quashed. The High Court interpreted Section 6, CGST Act, 2017 and the relevant notifications to adjudicate in favor of the petitioner. 

Facts 

The petitioner was the proprietor of M/s Manish Trading, Ranchi carrying on the business of iron, steel and cement. An inspection was carried out by the Intelligence Branch of the Jharkkhand State GST Dept and subsequently the petitioner was made to make certain deposits. Therafter, the Preventive Branch of CGST, Ranchi issued a notice to the petitioner directing reversal of ITC due to purchases made from certain non-existent entities. It was followed by a search carried out by DGGI, Central Tax which seized certain items from the petitioner and prepared a Panchnama to that effect. The petitioner was sent various summons. 

The petitioner approached the Jharkhand High Court with the prayer that it had been issued summons by 3 different authorities and that only the authority which had initiated the proceeding prior in point in time shall be authorized to carry out the proceedings. The petitioner relied on the Notification and subsequent clarificationissued by CBIC, wherein the latter stated that: 

            It is accordingly clarified that the officers of both Central tax and State tax authorized to initiate intelligence based enforcement action on the entire taxpayer’s base irrespective of the administrative assignment of the taxpayer to any authority. The authority which initiates such action is empowered to complete the entire process of investigation, issuance of SCN, adjudication, recovery, filing of appeal etc. arising out of such action. (para 3)

The petitioner elaborated that the said Notification had been issued under Section 6(2)(b), CGST Act, 2017 and that it was amply clear that the investigation had been initiated by inspecting team of State GST and only it should be authorized to carry forward the proceedings. 

The respondents including DGGI argued that the investigation were initiated by them as part of the investigations against the fake invoice gangs based in Noida. The respondents argued that the investigations had revealed various fake entities that were involved in claiming fraudulent ITC and the petitioner was part of a large scale fraud spread across various States. And that DGGI was better suited to conduct the investigation since it had an all India jurisdiction and normally State GST transfers such cases to DGGI. 

DGGI’s argument was thus two-fold: not only did it initiate the investigation but also it was more competent to handle the investigation since the case had inter-State ramifications. 

Decision 

The Jharkhand High Court noted that Section 6(2)(b) and the clarification issued under it made it amply clear that the chain of a particular event and the investigation carried out at behest of the Department are interrelated. The High Court observed that even if it accepted that the DGGI initiated an independent investigation based on information received in Noida:

… in that event also, we are at loss to say that the DGGI is raising a question about credibility and competence of the State GST Authorities, in carrying out the investigation concerning wrong/inadmissible availment of Input Tax Credit, inasmuch as, the officers of the DGGI does not enjoy any special power or privilege in comparison with the officers of the State GST Authorities. (para 14) 

Based on the above, the Jharkhand High Court concluded that since the investigation by State authorities were prior in time, including the search and seizure operation and since all proceedings are inter-related, the State authorities shall continue with the proceedings. 

Conclusion 

The impugned decision reveals the administrative complexity of a nationwide dual levy. Empowering officials both the Central and State level to administer a single tax in India is unprecedented and some administrative tensions are bound to arise. And this isn’t the first nor the last instance of jurisdictional tussles. The Jharkhand High Court did well to rely only on the relevant statutory provisions and notifications/clarifications to arrive at its decision. Whether it is the best decision from an administrative standpoint is not easy to tell. At least not yet.  

Section 194N of IT Act, 1961 is Constitutional: Madras HC

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The Madras High Court recently[1] upheld constitutionality of Section 194N of the IT Act, 1961. Section 194N inserted via Finance Act, 2019 was argued by the petitioners to be unconstitutional on the grounds of it being illegal, arbitrary, and violative of their fundamental rights under Article 14 and 19(1)(g) of the Constitution. Section 194N imposes an obligation on the banks including co-operative societies carrying on banking – when paying any sum exceeding one crore rupees, increased to three crores in 2023 – to withhold a tax of 2% of the amount. The petitioner’s main argument that the amount withdrawn by co-operative societies was not income was rejected by the Madras High Court. 

Facts and Arguments 

The petitioner, a licensed bank, maintained accounts of co-operative societies. All the account holders were registered under the Tamil Nadu Co-operative Societies Act, 1963. When loans were sought by members of the societies, petitioner used to grant a loan via banking channels to the members. If a member did not have a bank account, the petitioner used to transfer the money to current account of the society for onward disbursement to the farmers. The societies would withdraw the cash and disburse it to the farmers. The petitioner stated that it was used a conduit between the State on one hand and societies on the other to transfer various kinds of cash support to farmers including crop loans and other gifts. 

The main argument of the petitioner was that the withdrawal of money by the co-operative society was intended to be forwarded to the farmers. And that the money did not constitute income of the society. And neither was the money income in the hands of recipients since they were gifts or monetary assistance provided by the State. When the petitioner was issued a showcause notice for non-compliance with Section 194N, it replied that the provision is arbitrary and withdrawal of cash cannot be regulated in a manner proposed under Section 194N. The petitioner argued that the tax withholding provisions under Chapter XVIIB were intended to be applicable only to receipts which constituted income in the hands of the recipient. The petitioner assailed the provision as being unreasonable and that its stated aim of promoting digital payments was immaterial in determining the reasonableness of the provision. 

Curiously, the petitioner also argued that a new charge was created via Section 194N and equated Section 194N to a charging provision, questioned its placement under the Chapter XVIIB of the IT Act, 1961 and termed it ‘eccentric’. (para 19)

The State, on the other hand, emphasised the objective of the provision, i.e., to promote digital payments. The State underlined its aim of creating an economy that was robust and cashless, as far as possible. And that the cash withdrawals in the co-operative banks were fraught with irregularities that led to a large portion of income escaping the tax net. (paras 31-36)      

Decision  

The Madras High Court did not engage with the petitioner’s main argument in a straightforward manner. It instead cited precedents to observe that the use of the word ‘sum’ instead of ‘income’ in Section 194N does not advance the petitioner’s case that the rigours of the provision would only apply if receipt constitutes taxable income in the hands of the recipient. The High Court referred to various provisions relating to withholding tax in Chapter XVII and the varied terminology used in them such as sum, amount, income and noted that the used of the terminology is not conclusive to establish if tax needs to be deducted at source. In fact, the High Court placed greater emphasis on the intent and objective and noted that the intent of the provision is equally crucial to interpret the terms used in the provision. (paras 39-51)     

Next, the Madras High Court relied on some relevant precedents to negate petitioner’s argument that Section 194N was a charging provision. The High Court held that the impugned provision was clearly a machinery provision. The High Court further observed that the objective of preventing cash withdrawals from escaping tax net and promoting a digital economy were intended to be achieved through Section 194N and the legality of the provision cannot be argued to be fatal based on its placement under the IT Act, 1961. 

Further, the Madras High Court relied on facts to reject the petitioner’s other argument, i.e., cash withdrawal was not income for the society. The High Court observed that there is nothing on record to show the entirety of the amount is further disbursed to the recipients of State’s cash assistance and other income support schemes. The High Court noted that one of petitioner’s argument was that the gifts were not taxable in the hands of the intended beneficiaries, and thus there was no need to deduct tax at source. But the High Court observed, the bank was not aware of the purpose at the time of withdrawal and that in many instances the withdrawal amount was more than the intended gift amounts for the beneficiaries.  

Another provision, that the High Court referred to was Section 197, IT Act, 1961 which allows a payee to obtain a nil certificate on the ground that the receipt is not amenable to tax. Section 197 did not include situations incorporated in Section 194N, meaning that the petitioner could not the option provided to other payees under Section 197. (paras 73-75) While the petitioner did not have the remedy under Section 197, it could invoke Section 194N itself wherein the Central Government in consultation with RBI is empowered to issue a Notification enlisting the recipients to whom rigour of Section 194N would not apply. The High Court noted that since such a Notification has already been issued in favor of certain recipients, the proper remedy for the petitioner is to approach the Central Govt seeking an exemption rather than make a claim that the receipts in the form of cash withdrawals from banks are not taxable. The High Court was indirectly hinting that the petitioner did not make a wise decision to not comply with its statutory obligations provided in Section 194N. (paras 77-78)   

Decision 

The impugned decision stands on defensible if not impeccable reasoning. The High Court sufficiently emphasised the intent for introduction of Section 194N and noted that machinery provisions can be introduced to meet social objectives such as expansion of tax base and introduce transparency in the fiscal economy. The High Court referred to legislative intent to highlight that machinery provisions while not charging provisions can mandate deduction of tax on withdrawal of money even if the money is not income in the hands of the recipient. But, the High Court was unable to provide a clear and articulate reasoning as to why legislative intent should override every other consideration while interpreting a statutory provision. 

[1] The Income Tax Officer, Tiruchirappalli v M/s. The Thanjavur District Central Co-operative Bank Ltd TS-821-HC-2023MAD.  

An Ambiguous Circular: Is Electricity Indirectly under GST?

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On 31.10.2023, CBIC issued a Circular clarifying the applicability of GST on certain services. The Circular, inter alia, clarified one issue which is the focus of this article. The issue, as framed by the Circular, was: Whether GST is applicable on reimbursement of electricity charges received by real estate companies, malls, airport operators etc. from their lessees/occupants? The Circular instead of clarifying the issue has raised further questions about the immediate GST implications on the transactions and is an example of the larger issue afflicting Indian tax policy: making rather than clarifying law through Circulars.  

Separate Invoices Are Immaterial 

The first transaction that the Circular mentions is supply of electricity by real estate companies, airports, malls, etc. to their occupants. The Circular mentions that if electricity is supplied as part of a composite supply then it shall be taxed accordingly. Section 2(30), CGST Act, 2017 defines composite supply to mean a supply made to a taxable person consisting of two or more taxable supplies of goods or services, which are naturally bundled together and supplied in conjunction with each other, in the ordinary course of business, one of which is a principal supply. And that the applicable GST rate is that of the principal supply. The first issue is that electrical energy is exempt from GST under Notification No. 2/2017 – Central Tax (Rate) (See Serial No. 104). Since electrical energy is exempt, it cannot, in my view, be included in a composite supply since the essential condition for a composite supply is that it should include two taxable supplies. An exempt supply cannot indirectly be transformed into a taxable supply by a Circular by treating it as an ancillary of a composite supply.         

The Circular curiously adds that even if electricity is billed separately, the supply will constitute a composite supply and shall be billed at the rate of principal supply, i.e., renting of immovable property. This position is again questionable, especially if one accounts for a previous Circular issued in June 2018. Serial No. 2 of the Circular answered the question: how servicing of cars involving both supply of goods and supply of services are to be treated under GST? The Circular clarified that where supply involves both supply of goods and supply of services and their value is shown separately, the goods and services will be liable to tax at the rates as applicable to such goods and services separately. Why is the position different if invoice for supply of electricity is issued separately? Why shouldn’t supply of electricity and renting of immovable property, be liable to GST at their applicable rates if they are billed separately? A cynical view would suggest that it is because if electricity is billed separately, it would be treated as an exempt supply, but if it is included in a composite supply it allows levy of GST on supply of electricity. One thing is evident that the Circular of 2018 and Circular of 2023 do not show a consistent view on taxability under GST if separate invoices for goods and services are issued.         

Pure Agent Acquires a New Meaning

Paragraph 3.3 of the Circular of 2023 invokes the concept of pure agent and is worth citing in full: 

However, where the electricity is supplied by the Real Estate Owners, Resident Welfare Associations (RWAs), Real Estate Developers etc., as a pure agent, it will not form part of value of their supply. Further, where they charge for electricity on actual basis that is, they charge the same amount for electricity from their lessees or occupants as charged by the State Electricity Boards or DISCOMs from them, they will be deemed to be acting as pure agent for this supply. 

The first and second sentences seem to refer to the pure agent in varied terms. The first sentences aligns with Rule 33, CGST Rules, 2017 which states that expenditure or costs incurred by a  supplier as a pure agent of recipient of supply shall be excluded from the value of supply. The latter sentence introduces a deeming fiction wherein the real estate owners, real estate developers, etc. are ‘deemed to be acting as pure agent’ if they charge for electricity on an actual basis. Does this mean that in this particular instance, the conditions specified in Rule 33, CGST Rules, 2017 for a person to be considered as a pure agent need not be satisfied? While a deeming fiction can be introduced, it is suspect if a Circular can introduce a deeming fiction bypassing the conditions specified in the Rules. A more prudent approach would have been to amend the Rule 33 if the intent was that certain entities were to be treated as pure agents irrespective of whether they fulfil the conditions specified in the said Rule. For now, we do not know if the Circular should prevail over the Rules or vice-versa, introducing an avoidable layer of indeterminacy on the issue.    

Conclusion 

The impugned Circular, in so far as it sought to introduce clarity on the applicability of GST on electricity charges has, in my view, not achieved its objective. In fact, it has introduced more uncertainty. And apart from the ambiguity that the Circular has introduced, this is an apt example of law making through Circulars. The statutory provisions and the relevant Rules do not, in any manner, support some of the clarifications issued by CBIC through its Circular. In fact, it is an exercise of law making with the Circular stating certain legal positions and articulating interpretations that cannot be directly linked to the parent statute. This leaves GST policy at the mercy of convenient interpretations that may find favor with CBIC at a particular point.     

Employment Includes Self-Employment: ITAT Interprets Section 6, IT Act, 1961

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ITAT, Mumbai recently[1] interpreted the term ‘employment’ used in Explanation 1(a), Section 6, IT Act, 1961 and held that the term includes within its remit self-employment such as business or profession. ITAT relied on CBDT’s Circular and the Kerala High Court’s decision on a similar issue which also held that the term employment includes self-employment.  

Facts 

In the impugned case, assessee filed his return on 28.01.2020 and claimed his status as ‘non-resident’ for the assessment year and did not offer his global income for taxation. The Assessing Officer (‘AO’) observed that the assessee had left for Mauritius as an investor on a business visa and not for the purpose of employment and could not avail the benefit of Explanation 1(a). 

Section 6(1) inter alia states that an individual is resident in India if he is in India for 365 days in the four years preceding the relevant previous year and is in India for a period or periods amounting to 60 days in the previous year. Explanation 1(a) to Section 6(1) states that an individual being a citizen of India, who leaves India in any previous year ‘for the purpose of employment outside India’, 60 days shall be read as 182 days. In simple terms, the Explanation alters the residence condition of 365+60 days to 365+182 days for an Indian citizen who leaves India for purpose of employment. A person who leaves abroad for purpose of employment has can spend more time in India before being considered a resident.  

In the impugned case, the AO was arguing that the assessee’s case was covered within the general rule of 365+60 days since he did not leave for employment outside India but as an investor on a business visa. While the asssessee argued that his case was covered by the 365+182 days condition since he left for Mauritius as a consultant to a company. Since the assessee had spent 176 days in India, determining the applicable condition was crucial to answering the residential status of the assessee. The ITAT had to determine if an assessee leaves India not for employment, but self-employment, can it be granted the benefit of the relaxed condition of 365+182 days. 

Decision 

ITAT primarily relied on the CBDT Circular and the Kerala High Court’s decision to conclude that the term employment cannot be given technical meaning and employment would include going aboard for any avocation including self-employment such as business or profession. The qualifier is that the term employment did not include visits abroad for tourism purposes or medical treatment or the like. ITAT and the Kerala High Court’s decision align closely with CBDT’s explanation as to why the relaxation in the residency test was introduced. As per CBDT’s Circular the residency test was modified to avoid hardship to Indian citizens who were employed or ‘engaged in other avocations outside India’. (para 7.3) It is apparent that relaxation in the residency test introduced via Explanation 1(a) was not limited to only employed persons but also any Indian citizen carrying out any avocation outside India. 

Conclusion 

ITAT Mumbai’s decision in the impugned case is the correct interpretation of the law and arrives at a fair conclusion ensuring parity between people who leave India for the purposes of employment and people who leave India for business purposes. Hopefully, the AO in the impugned case and other similar cases will adhere to this interpretation of the law and scrutinize assessments accordingly.     

[1] Asst Commissioner of Income Tax v Shri Nishant Kanodia TS-11-ITAT-2024 Mum.

ITC Can be Denied if Delay in Filing Returns: Cal HC

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The Calcutta High Court recently decided the question whether an assessee filing its tax returns after the stipulated time – prescribed under Section 16(4), CGST Act, 2017 – is entitled to claim ITC. The High Court answered in the negative and upheld the GST Department’s order denying ITC to the assessee on the ground of belated filing of returns.  

Facts and Arguments 

Assessee in the impugned case submitted the returns in GSTR-3B for the period from November 2018 to March 2019 on 20.10.2019 which was beyond the due date of submission, i.e., September 2019. The assessee was asked to show cause as to why its claim for ITC should not be denied since the returns were filed after the due date. On assessee’s failure to respond, the GST Department initiated recovery proceedings and debited the requisite amount from the cash ledger balances of the assessee. The assessee challenged the recovery actions before the Calcutta High Court. 

To begin with, it is important to briefly note that Section 16, CGST Act, 2017 prescribes the eligibility and conditions for an assessee to claim ITC. Section 16(2) requires fulfilment of certain conditions such as possession of tax invoices, receipt of goods or services or both while Section 16(4) prescribes the time within which an assessee is required to file returns to be eligible to claim ITC. And, another aspect that would become relevat in the subsequent discussion, Section 16(2) begins with  non-obstante clause, ‘Notwithstanding anything contained in this section’ while a similar clause is absent in Section 16(4). 

The assessee’s argument was that once the conditions stipulated in Section 16(2), CGST Act, 2017 have been fulfilled by the assessee, it is entitled to the right to claim ITC. And that availing or utilizing the ITC through procedural formalities of filing returns is a matter of choice for the assessee. The assessee further argued that ITC is not claimed through returns but through books of account under Section 16(2). And that the non-obstante clause used in Section 16(2) cannot be negated by stipulating an outer time for filing returns as an additional condition for claiming ITC under Section 16(4). If an assessee is denied the right to claim ITC for failure to file returns within the time stated under Section 16(4), it would negate the non-obstante clause of Section 16(2). 

The Revenue Department, on the other hand, argued that the non-obstante clause used in Section 16(2) cannot be interpreted in isolation. And that Section 16(2) and Section 16(4) were complementary provisions and not contradictory provisions. Section 16(2) prescribed the conditions necessary to avail ITC and Section 16(4) added the condition of time. Only by relying on the non-obstante clause, Section 16(2) cannot be interpreted in a manner to render Section 16(4) otiose. 

Calcutta High Court Decides 

The Calcutta High Court referred to various precedents decisions pronounced under GST and under VAT laws to emphasise three things: 

First, in matters of taxation the legislature deserves greater latitude and courts should be circumspect before intervening in tax disputes. While the doctrine of deference to taxation statutes has a long standing and questionable traction in Indian jurisprudence, it served no immediate purpose in deciding the issue at hand.  

Second, the High Court noted that a provision in a statute cannot be interpreted in isolation and there is a need to read it along with other provisions in the statute especially if the subject matter in the different provisions or different parts of the statute is similar. 

Third, the High Court cited a slew of precedents to express its agreement with the view that ITC is a concession and can only be claimed as a matter of right by an assessee on fulfilling the conditions prescribed in the statute. Relying on the same, the High Court observed that:

Section 16(2) does not appear to be a provision which allows Input Tax Credit, rather Section 16(1) is the enabling provision and Section 16(2) restricts the credit which is otherwise allowed to the dealers who satisfied the condition prescribed the interpretation given by the court that the stipulation in Section 16(2) is the restrictive provision is the correct interpretation given to the said provision. (para 12)

The Calcutta High Court also relied on the Patna High Court’s recent judgment to observe that Section 16(4) did not suffer from ambiguity and an assessee’s right to claim ITC can only materialise on fulfilling the conditions prescribed under Section 16(2) as well the condition prescribed under Section 16(4), i.e., filing of returns within a stipulated time. 

Conclusion 

There are, in my view, two important takeaways from the impugned judgment: first, the Calcutta High Court’s view that ITC is a concession/benefit granted by the State to an assessee and it can be claimed only if the conditions prescribed in the statute are strictly followed, though the nature of ITC is not as straightforward and may require a deeper look; second, all the conditions prescribed in Section 16 need to be fulfilled to claim ITC successfully and the condition to file returns within a prescribed time cannot be understood to be as optional. Failure to adhere to the time of filing returns will rightly result in denial of ITC.  

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