Bombay HC ruling has brought in clarity, but not certainty
It is all about transfer pricing issue which is not unique to India. Still, the judgment of the Bombay High Court of October 10, 2014, in the case of Vodafone India Services vs Union of India, has drawn a lot more attention than it would otherwise have. The main reason is that in the minds of the people, the memory of the previous Vodafone case is still fresh.
That case was different though. The Bombay High Court, in that case, ruled in favour of the revenue authorities stating that an indirect transfer of asset will attract income tax in India. The Supreme Court set aside the order of the High Court which led to a retrospective amendment to the Income Tax law. That again drew a lot of criticism from the industry. The other reason why this has received attention is that some domestic companies also are involved in transfer pricing.
The income tax department sought to treat aggregate shortfall as income of Vodafone India, as a consequence of which the amount was to be treated as a deemed loan given by the holding company to Vodafone India upon which interest was chargeable as income. The point was whether the issue of shares by Vodafone India to the holding company gave rise to “income”, that is, whether the nature of the transaction made it one of a capital transaction or revenue transaction.
The High Court accepted the contention of the company that transfer of shares is a transfer of capital and not income. It based its interpretation on the wording of section 2(24) of the Income Tax Act that “income will not, in its normal meaning, include capital receipts unless it is so specified, as in Section 2(23)(vi) of the Act”. Since an issue of shares is a transaction on the capital account, the premium cannot be treated as income. The Court also depended on the thesis that the charging section in the Act does not include specifically such capital transaction.
Unnerving situation
Some analysts have observed that this judgment has brought clarity and certainty on the issue which was pending for nearly eight years. While it has brought clarity, I do not think that it has brought in certainty. In fact, this has brought about an unnerving situation. While the High Court has accepted the principle that capital transfer is not income, the reasons for coming to that conclusion are eminently vulnerable which Revenue Department will like to challenge in the Supreme Court.
The practice of the Income Tax Department has been set aside by the High Court.
The Bombay High Court has now ruled that Vodafone is not liable to pay an income tax demand of Rs 3,200 crore in a case relating to transfer pricing. The issue is very basic as it relates to the very core subject of defining income. The High Court has said that capital transaction is not income as the charging sections do not specifically include it. This is not a very correct proposition. It is not necessary that all types of transactions will be specifically included in the charging section. So long as any transaction is income, it is included in the charging section. So, the whole issue is if a capital account transaction is income or not. High Court says it is not.
It has to be decided independently and not by saying that it is not included in the charging section. Also, the question arises, why the share price is so low compared to the market value. It is not at all a transaction at arm’s length. So, the view of the Revenue Department that it is a hidden loan to the Indian subsidiary has good justification worth testing in the Supreme Court.
Responsible people have commented that this judgment will benefit Nokia and many other companies. I doubt if it is so. Revenue Department will most certainly take it to the Supreme Court and it will take some years for the Supreme Court to decide it finally. It may need a bigger Bench since several judgments will surely be quoted which have been decided by three judges. In my understanding, the chance of Revenue Department winning the case is bright in the Supreme Court.
