This document discusses India's taxation of indirect transfers of assets. It begins by explaining that an indirect transfer refers to transferring shares of a foreign company that holds Indian assets. It then discusses a key 2007 case involving Vodafone that raised this issue. The document outlines subsequent legal developments, including a 2012 retrospective amendment and recent clarifications in the 2015 Finance Bill that provide greater certainty on definitions and exemptions. However, it notes issues like retrospective taxation and procedural difficulties remain. The document also compares India's laws to those of China on taxing indirect transfers.

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I
n the Indian context, the concept of ‘’Indirect transfer’’ refers
to transfer of Indian assets indirectly by transferring shares
of a foreign company or transferring interest in a foreign
entity, which is holding the Indian assets directly or indirectly.
In India, the issue of taxing an indirect transfer of assets was
first raised in the case of Vodafone in 2007 where the Indian
Revenue Authorities (‘IRA’) had raised a demand on Vodafone
International Holdings B.V. (a Netherlands based company) for
failure to deduct taxes on payments made to a Hong Kong based
company for purchase of shares of company based in Cayman
Islands. The Cayman Islands based company held underlying assets
in India (directly as well as indirectly through subsidiaries). The
IRA contended that Cayman Islands based company derived its
value based on the telecom business in India and the very fact
that before transfer of such shares of Cayman Island company
approval of Foreign Investment Promotion Board of India (FIPB)
was sought was a testimony of this fact. Accordingly, it was
concluded that transfer of shares of Cayman Island company
resulted in an indirect transfer of capital assets situated in India
and should be taxable in India as per the Source Rule of taxation.
Since Vodafone failed to withhold taxes on such transaction, the
IRA held Vodafone as a taxpayer in default and raised the tax
demand on Vodafone.
The dispute reached the door of the Apex Court of India, which
held that transfer of shares of a foreign company, by a non-
resident, where a part of the underlying assets of such foreign
company were situated in India does not, in substance, amount to
transfer of a capital asset situated in India unless the transaction
is sham. It held that one has to “look at” the transaction and not
“look through” the transaction. It further held that tax planning
Indirect Transfer
of Shares
Nishit Parikh*
* Nishit Parikh, Senior Manager International Tax at Sudit K Parekh & Co.
CAPITAL GAINS
284

2. 285International Taxation Vol. 12 April 2015 19
is legitimate if it is within the framework
of law.
The Government of India, in order to overturn
the decision of the Apex Court, brought
a retrospective amendment (effective from
1st April, 1962) into the statute vide Finance
Act, 2012. By virtue of this retrospective
amendment, the income of a non-resident
from direct or indirect transfer of a capital
asset was held to be taxable in India if it
derived its value substantially from assets
situated in India.
The above move by the Indian Government of
taxing indirect transfers retrospectively has not
been received well by the International Investor
Community. This hurted their investment
sentiments in India.
The retrospective amendment was not only
very harsh but also lacked clarity. There was
ambiguity as to what constitutes “substantial
value”. This resulted into discretionary powers
in the hands of the IRA to consider any
value as substantial value and this resulted
in additional litigation.
Recently, the Delhi High Court in the case of
Copal Research Mauritius Limited1
interpreted
the word “substantially”. It has held that for
indirect transfer tax provisions to apply, the
overseas company should derive at least 50%
of its value from Indian assets. This ruling
provided much needed clarity to foreign
investors on the applicability of capital gain
tax on indirect transfers by looking into
the meaning, scope and extent of the term
“substantially”.
The Delhi High Court has tied together
several discussions on the indirect transfer
by relying on the Shome Committee Report,
OECD/UN Commentary etc. However, it is
worth noting that the Delhi High Court did
not consider the amendment in the revised
DTC Bill which reduced the threshold from
50% to 20%.
In an act of reassurance by the Finance
Minister to end the tax terrorism and to
usher in an era of non-adversial tax regime,
the Finance Bill, 2015 has issued following
clarifications relating to indirect transfers of
shares outside India.:
Definition of Substantial Value
Shares or interest of a foreign company/
entity shall be deemed to derive its value
substantially from the assets (whether tangible
or intangible) located in India, if on the
specified date, the value of such assets:
(i) Exceeds INR 10 Crore (INR 100 Mil-
lion); and
(ii) Represents at least 50% of the value
of all the assets owned by the
foreign company/entity.
Exemptions
(i) Minority Shareholding: Indirect trans-
fer provisions shall not apply in a
case where the transferor of shares
or interest in a foreign company/
entity does not hold (whether indi-
vidually or along with its associated
enterprises), whether directly or
indirectly, any right of manage-
ment or control in relation to such
company/entity, nor holds voting
power or share capital or interest
exceeding 5% of the total voting
power or total share capital or total
interest of such foreign company/
entity.
(ii) Business Re-organisation: Exemption
shall be available in respect of any
transfer of a capital asset in a scheme
of amalgamation or demerger, being
a share of a foreign company which
derives, directly or indirectly, its
value substantially from the shares
of an Indian company, subject to
fulfilment of certain conditions.
Proportional Taxation
In cases where the share or interest of a
foreign company/entity derives its value
substantially from India, then only such part

3. 286 International Taxation Vol. 12 April 2015 20
of the gain as is reasonably attributable to
assets located in India and not the entire
gain shall be taxable in India. Rules would
be made to clarify the method of calculation
in this regard.
Valuation
The Finance Bill also clarifies that the value
will be the fair market value of the assets
on the specified date. The specified date will
depend on facts of the case. Further, rules
shall be notified for determining the fair
market value of assets.
The above clarifications definitely provide
greater certainty to determine the applicability
of indirect transfer tax and would bring
much needed relief to the Foreign Investors.
However, the Government of India has not
addressed the following issues:
Retrospective Taxation
The amendment brought about by the Finance
Act, 2012 still continues to be retrospective
amendment and hence the risk of earlier
years transaction being opened by the IRA
remains. However, the Government of India
has assured that the earlier years cases would
not be picked up arbitrarily. An approval
from the committee would be required to
open earlier years cases. We hope that the
committee is formed at the earliest and
judicial and fair decisions are taken by the
Committee.
Procedural Aspects
There exist a lot of procedural difficulties
in relation to indirect transfers the major
being withholding compliances. As per the
amended law, even a non resident is required
to deduct tax from another non-resident, if
the taxable asset is situated in India. Thus,
currently IRA is treating non–residents to be
in default for failure to withhold taxes on
indirect transfers and raising tax demands
on them.
The IRA has not appreciated the fact that
in order to comply with the withholding
tax compliances in India, the non-resident
would have to obtain Indian Tax registration
numbers [such as Permanent Account Number
(‘PAN’) and Tax Deduction and Collection
Account Number (‘TAN’)], file withholding
tax returns in India, etc. This becomes really
inconvenient and cumbersome, especially for
one of transactions. We hope the Government
soon comes out with some guidelines in
order to provide relief to non–residents
from complying with such withholding tax
compliances.
All in all, the Indian Government has brought
about substantial clarifications on taxing indirect
transfers which is a positive move and shall
help in settling the nerves of the foreign
investors in India. We hope that with time
the Government takes certain proactive steps
and also address the issues on retrospective
amendments and compliance requirement on
Indirect Transfers.
It is to be noted that the concept of taxing
gains on indirect transfers exist not only in
India but is an international phenomenon. It
is still in its nascent stage and developing
progressively in countries like Israel, China, etc.
Some key provisions relating to taxing of
indirect transfers in China are as follows:
Any genuine indirect transfer of shares
of a foreign company by a Non-Resident
for a bona fide commercial purpose will
not be taxable in China unless:
(i) Shares of the foreign company de-
rive atleast 75% of its value from
Chinese taxable assets (whether
directly or indirectly); and
(ii) The foreign company derives 90%
or more of its income from China
(whether directly or indirectly);
OR
90% or more of the asset value of
the foreign company (excluding
cash) represents investment in China
(whether directly or indirectly); and
Capital Gains

4. 287International Taxation Vol. 12 April 2015 21
(iii) Capital Gain tax in the country of
residence of the Non-Resident is
less than the Capital Gain tax in
China; and
(iv) Such foreign company exists only
for the purpose of tax evasion and
not because it is operationally nec-
essary to have a presence in such
foreign country (i.e. lacks economic
substance).
Sale of shares of a foreign listed com-
pany through a public stock exchange
will not be taxable in China in the
hands of the Non-Resident even if it
amounts to indirect transfer of Chinese
taxable assets;
No restriction imposed to access the
tax treaties;
Clear Safe Harbour Guidelines exist so
as to give room to multinationals for
business restructuring without having
to pay tax in China.
It can be observed that the Chinese indirect
transfer laws have been drafted in such
way to cover cases which are more in the
nature of tax evasion by way of routing the
investments through a tax heaven. Chinese
laws specifically provide exclusions for cases
which are legitimate and have also provided
an option of safe harbour for business
restructuring.
India can take a leaf out of the Chinese tax
laws and try to make the provisions more
business friendly. This would ensure that
genuine indirect transfer of shares of a foreign
company done with a bona fide commercial
purpose does not get taxed in India.
Such a move would encourage more foreign
investments into Indian assets as the international
investor community would have clarity on
the Indian Tax laws. But one would still feel
happy that at least a good beginning has
been made by Indian Finance Minister and
this would definitely repose foreign investors’
confidence back on India.
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1. DIT (International Taxation) v. Copal Research Ltd., Mauritius [2014] 49 taxmann.com 125.