Case Notes – Spring 2015

By Aseem Chawla, Shamik Saha, Pranshu Goel

Bombay High Court Holds That the Issuance of Shares at Premium Does Not Per Se Yield “Income”

Vodafone India Services Private Limited (‘Company’ or ‘taxpayer’ or ‘Vodafone’), a wholly owned subsidiary of Vodafone Tele-Services (India) Holdings Ltd. (‘Holding Company’), issued 289,224 equity shares of face value of ₹10 at a premium of ₹8,509 per share. The tax payer received a total consideration of ₹2,463,800,000 at a fair market value of ₹8,519 per share computed in accordance with the methodology prescribed by the Government of India under the Capital Issues (Control) Act, 1946.

The subject transaction of allotment of equity shares along with the Arm’s Length Price (ALP) of ₹8,519 per share was reported by the taxpayer in the Accountants Report (Form 3CEB) as an international transaction.  However, the tax payer had placed his contention in FORM 3CEB by way of a note that the said international transaction was being reported only as a matter of abundant caution and would by no means affect the income of the Company.

During the course of regular assessment proceedings the Assessing Officer (AO) referred the transactions mentioned in Form 3CEB to the Transfer Pricing Officer (TPO) for calculation of the Arm’s Length Price of the reported transactions.

The TPO, in his order, stated that the transaction was an international Transaction governed by the provisions of Chapter X of the Act and rejected the price at which the shares were issued and determined the ALP at ₹53,775 per share. The TPO also stated that the amount of deficit caused by issuance of shares at the lower premium will be considered as a deemed loan advanced by the taxpayer to its holding company and the interest on such loan would therefore have a bearing on the profits of the taxpayer. Thus, the TPO made a total adjustment of ₹13,972,600,000 encapsulating the adjustment on account of the difference in the ALP of the equity shares and a secondary adjustment on account of interest on the deemed loan. However, the TPO only determined the ALP and left it on the AO to decide whether any Income has arisen to Vodafone or not on account of the subject transaction.

In response to the impugned draft assessment order, Vodafone filed its objection with the Dispute Resolution Panel (DRP), however limiting its objection to the computation/valuation and quantification of the ALP. Meanwhile, the company also filed for a writ before the Bombay High Court challenging the jurisdiction of the tax authorities to tax the issue of equity shares to its holding company under Chapter X of the Act.

The High Court, examined the matter placed before it and quashed the order of the AO, TPO and the Impugned directions of the DRP, and held in favor of Vodafone. Vodafone India Services Private Limited v. Union of India (2014) 368 ITR 1 (Bom).  The High Court in its judgment dated October 10, 2014, held that “income” arising from an International transaction is a condition precedent for application of Chapter X of the Act. While interpreting the word “Income” the Bombay High Court held that the word income has a well understood meaning and is duly defined under the Act. Income in its normal meaning as defined under Section 2(24) of the Act does not include Capital receipts.  The amount received on issue of share capital including the premium is undoubtedly on capital account.

Considering, what was being sought to be taxed is the amount of the alleged shortfall in the capital not received from the holding company, the Court held that in the absence of express provisions, neither the capital receipt by the company nor the alleged shortfall between the so called Fair Market Value and issue price of equity shares can be considered as income within the meaning of the expression ‘Income’ as defined under the Act. The High Court further held that the transaction on capital account or on account of restructuring would become taxable to the extent it impacts income or expenditure. It is that income which is to be determined having regard to the ALP and not the total capital receipt. The entire consideration received would not be a subject matter of tax.

 

Supreme Court Holds Electronic Records Inadmissible by way of Secondary Evidence

The Supreme Court of India  in Anvar P.V. v. P.K. Basheer [2014 (10) SCC 473], has ruled that an electronic record by way of secondary evidence shall not be admitted in evidence unless the requirements under Section 65B, Evidence Act, 1872 are satisfied.

The respondent had been elected from Eranad Constituency to the Kerala Legislative Assembly during the general election held on April 13, 2011. The Appellant, the loser in that election, sought to have the Kerala High Court set aside the election under Section 100(1)(b) read with  Section 123(2)(ii) and (4) of The Representation of the People Act, 1951 (the RP Act), on the ground that the winner have engaged in certain corrupt practices.

The Kerala High Court dismissed the Appellant’s contention by holding that the election petition was not maintainable under Section 123(2)(a)(ii), RP Act and corrupt practices pleaded in the petition were also not proven.  Hence, the election could not be set aside under Section 100(1)(b) of the RP Act. Aggrieved by the decision of the Kerala High Court, the Appellant appealed to the Supreme Court of India.

The evidence consisted compact discs depicting the respondent’s speeches in which he alluded to the corrupt practices.  The three justice bench of the Supreme Court overruled an earlier decision of a two justice bench of the same court in State (NCT of Delhi) v. Navjot Sandhu alias Afsan Guru [(2005) 11 SCC 6000] (the “Parliament attack Case”) which had held a print out of cell phone calls to be admissible without the underlying digital data.  These copies were held admissible as secondary documentary evidence under Evidence Act, Section 63.  The court in Anvar vs. Basheer, held that a compact disc of songs and speeches which the Appellant claimed contained statements of the admission of corrupt practices was not admissible as secondary documentary evidence without satisfying the added requirement of Section 65B of an affidavit or certification authenticating that the CD was generated from the original media, including information on the computer on which the copy was made.  The Court held that the trial court must take note of Evidence Act, Section 65B, which  is  a  special  provision  dealing  with admissibility of copies of electronic records.

Applying the principle of generalia specialibus non derogant (special law will always prevail over the general law), the Supreme Court in Anvar vs. Basheer, held that evidence relating to electronic records being a special provision, the general law on secondary evidence under Section 63 read with Section 65 of the Evidence Act must yield to the specific provision requiring authentication set forth in Section 65B.  In Anvar, the Supreme Court held that an electronic record by way of secondary evidence (i.e, a CD) was inadmissible without the authentication required by Section 65B of the Evidence Act. Since, the Appellant admittedly did not produce any certificate of authentication as required under Section 65B with respect to the CDs, this evidence was held inadmissible and the Appellant was unable to support his allegation that his political adversary had engaged in corrupt practices alluded to in his speeches as recorded on such CDs, and his appeal was dismissed.

 

Supreme Court holds that an Objection to Jurisdiction of an Arbitral Tribunal must be taken at the Stage when the Statement of Defense is Submitted

In MSP Infrastructure Ltd. vs. M.P. Road Devl. Corp. Ltd. [2014 (13) SCALE 601], the Supreme Court held that a party to an arbitration proceeding may not object (under Section 34 of the Arbitration and Conciliation Act, 1996) to the arbitral tribunal’s jurisdiction after it submits the defense’s written statement.

The appellant and the respondent had entered into a contract for improving a road in the State of Madhya Pradesh (M.P.).

Due to a dispute, the respondent terminated the said contract and cashed the bank-guarantee. The Appellant challenged the termination and cashing before the Calcutta High Court.  After recording the “Terms of Settlement” between the parties, the Calcutta High Court disposed of the suit and referred the dispute to arbitration.

The arbitration tribunal awarded the appellant approximately ₹69 million.  The respondent filed a petition before the Additional District & Sessions Judge, Bhopal (M.P.), for setting aside the award under Section 34 of the Arbitration Act, 1996. Later, the respondent also moved to amend the original petition under Section 34 to add additional grounds of objection. The Additional District & Sessions Judge noted that after respondent’s application was being filed two years after the filing of the petition and rejected the application as being prejudicial to the appellant.

Respondent appealed the order denying leave to amend to the Madhya Pradesh High Court.  Without addressing its merits High Court allowed the amendment holding that the Indian Council of Arbitration, New Delhi had no jurisdiction to entertain or decide the said dispute and the impugned award was a total nullity and non-est in the eye of law.

Appellant then appealed before the Supreme Court arguing that the amendment allowed by the Madhya Pradesh High Court is contrary to Section 16, Arbitration Act, 1996 and the tribunal under the Arbitration Act, 1996 was fully empowered to enter into and decide the said dispute, since the dispute was referred in pursuance of an arbitration clause contained in the Concession Agreement.  Also, on two occasions, the parties asserted and consented that the dispute between them would be resolved by Arbitration under the provisions of the Arbitration Act, 1996. Therefore, according to the Appellant, there was no merit whatsoever in the ground introduced by the amendment application.

The Supreme Court held that 16(2) bars a party from challenging a tribunal’s jurisdiction belatedly, if it submits to the jurisdiction of the tribunal by filing the statement of defense and presenting evidence.  The Supreme Court emphasized that all objections to the jurisdiction of a tribunal, whatever its nature, must be taken at the stage of the submission of the statement of defense and must be dealt with under Section 16 of the Arbitration Act, 1996.  The judgment and order of the Madhya Pradesh High Court was reversed.

 

Aseem Chawla is the founding partner of MPC Legal in New Delhi and leads the firm’s tax practice group. He is currently Vice Chair of India Committee & Asia Pacific Committee of the ABA Section of International Law. He is the Co-Chairman of the Direct Taxes Committee of PHD Chamber of Commerce and Industry. He can be reached at aseem.chawla@mpclegal.in.

Shamik Saha is a member of Bar Council of Delhi and is an associate in the Corporate Law team of MPC Legal, New Delhi. He can be reached at shamik.saha@mpclegal.in.

Pranshu Goel is a member of The Institute of Chartered Accountants of India and a law graduate. Pranshu is an associate in the Direct Tax team of MPC Legal, New Delhi. He can be reached at pranshu.goel@mpclegal.in.

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