Bombay High Court Allows Tax Benefit After Offshore Reorganisation

The Bombay High Court applied the principles of private international law to permit tax benefits under the Income Tax Act, setting a precedent for tax disputes arising from reorganisation of a business under foreign laws.

Aberdeen Institutional Comingled Funds LLC., a U.S.-based fund that invests in securities worldwide, set up three sub-funds—Aberdeen Asia Pacific, Emerging Markets and Emerging Markets Ex Japan—for investment in the Asian and Indian equity markets. While AICFL had no tax registration in India, the three sub-funds were assigned separate permanent account numbers and filed tax returns.

In 2010, AICFL, which was initially organized as a ‘trust’, changed its structure to a limited liability company under the Delaware law. As a result, the three funds organised as a “sub trust” of AICFL transformed their legal identity into a ‘series’ of AICFL under the foreign law. But there was no change in the liabilities, rights or beneficial ownership in the three sub-funds.

AICFL then approached the Authority for Advance Ruling to carry forward pre-conversion losses. In 2012, the authority disallowed the claim citing that the law grants such an option to only a specific assessee. As AICFL was not taxable in India, it will not be entitled to set off prior losses, the AAR said.

Relying on the ruling, the tax department issued notices to the three sub funds in 2018 for reassessment of their income. AICFL filed a writ petition challenging the notice and the ruling.

In its first order, the high court concluded that AICFL was not entitled to claim such losses. But it allowed the three sub-funds to pursue their case through a separate writ petition.

This month, the high court allowed the three funds to carry forward losses. As per the principles of private international law, the status of an entity incorporated abroad has to be determined in India according to the law of the country where the entity was incorporated, the court said. Courts generally apply the principles of private international law when there are conflicts between domestic laws of different countries.

The principles of private international law are equally applicable to tax matters, Zerick Dastur, founder of Zerick Dastur Advocates & Solicitors said. Courts across the country are seized of a number of complex cross-border cases which involve application of the principles of private international law, he said.

In this case, the tax department denied the three sub-funds the option to set off of past losses citing absence of a specific provision in the Income Tax Act to recognise foreign reorganizations. But the high court held that the funds were entitled to the benefit as they were treated as “same entities” under the foreign law.

This ruling is relevant to a legal fiction that is peculiar to conversions governed under the Delaware law, Ravi Raghavan, tax counsel at Majmudar & Partners, said.

“In the absence of a specific amendment to the income tax law, the ruling may not have a persuasive value on tax authorities. They may not accept the argument that a deeming fiction under an offshore law can be invoked in the absence of a similar deeming fiction under Indian tax law,” Raghavan said.