Judgment affirms validity of investment structures

Tax structuring of investments through jurisdictions having beneficial double taxation avoidance agreements (DTAAs) with India have been used by both financial and strategic investors into India. These structures, though supported by international and domestic law, have long been a thorn in the side of the tax authorities in India. Recently, Delhi High Court reversed the decision of the Authority for Advance Rulings (AAR) in the matter of an investor, Zaheer Mauritius, and held that income from the sale of compulsorily convertible debentures (CCDs) pursuant to the exercise of a call option cannot be characterized as interest income but must be classified as capital gains and hence the benefit of the India-Mauritius DTAA cannot be denied to the investor.

Background

The investor, who was a tax resident of Mauritius, invested in Indian construction and property development companies. A real estate developer, Vatika Limited, owned land and proposed to develop it through a subsidiary called SH Tech Park Developers Private Limited.

The investor entered into investment agreements (IAs) with Vatika and the subsidiary to invest to acquire a 35% stake, constituted by a mix of CCDs and shares in the subsidiary, which would thus become a joint venture company (JVC). The IAs also recorded the inter se rights of the investor and Vatika in the management and operation of the JVC.

Joyjyoti Misra is an associate partner and Arjun Rajgopal is a senior associate at Khaitan & Co. Views of the authors are personal and should not be considered as those of the firm.