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Mumbai ITAT Rules on LLP conversion

Taxable, but with no Tax Liability

That’s the decision of the Mumbai Tax Tribunal on tax effect of conversion of a company to a Limited Liability Partnership where the transfer of assets was effected at Book Values, but without conforming to the conditions laid down under the Tax law [Section 47(xiiib)] for an ‘exempted transfer’.  The decision was rendered in the case of Celerity Power LLP -Formerly Celerity Power Private Ltd.

The Tax payer sought to contend that its conversion into an LLP should be uneventful for Tax purposes as there was no ‘Transfer’ as per Tax law, but only ‘vesting’ of its assets, liabilities, et al to the LLP. The Tax Tribunal was not impressed with the argument and held that the conversion did result in a Taxable event. However, the Tribunal accepted the argument of the Taxpayer that there are no ‘gains’ accruing to it from the transaction as the transfer happened at Book Values.

Who’s Liable?

The Tax Tribunal agreed in-principle to the Tax payer’s argument that the liability to tax, if at all, rests on the ‘transferor’ or the erstwhile company, but held that since the LLP was the successor to the company, it could be rightfully assessed  as the Company was ‘not to be found’. The decision on the point was however academic, given that no taxable gains were held to arise from the transaction.

No carry forward of Tax losses

The Taxpayer had no luck on this one, with the Tribunal ruling that the Tax losses of the company cannot be claimed as ‘carry forward’ by the successor LLP as the conditions prescribed under the Tax law were admittedly not satisfied.

Tax Breaks u/s. 80-IA to continue

The Tax Tribunal agreed with the Tax payer that Tax breaks available to the erstwhile company u/s. 80IA would continue to be enjoyed by the LLP for the remaining period for which the company was entitled.

Our comment

Conversions to LLP are attractive from a Tax standpoint on account of the fact that LLPs enjoy single-level Taxation benefit with the partners completely exempt – as against dual taxation in the corporate format.

However, the conditions under the Tax law for the LLP conversion to be exempt from capital gains taxation are rather restrictive. The ruling in this case sets the stage on how such conversions would be viewed from a legal standpoint, given that most such transactions would not qualify for exemption.

In our view, the base argument advanced on behalf of the Taxpayer – that there was no Taxable event – required a more detailed and sympathetic consideration given that it takes ‘two to transfer’ – while in conversion, its the same entity operating in a different legal format. Further, the argument that was accepted – that there was ‘no gain’ has a potential pitfall for a Taxpayer – what if Transfer Pricing provisions were also to be invoked..

No escape from Tax law: SC revives an Assessment order passed in 1984

The Supreme Court has recently decided [vide order dated 2nd May 2016] that an assessment order passed in the case of Saurashtra Cements on 1st September 1984 was a valid one and not time-barred, as held by lower appellate forums. The assessment order related to Fiscal year 1980-81. The Gujarat High Court and Ahmedabad Tax Tribunal had earlier ruled in favour of the Taxpayer and decided that the assessment was time-barred (consequently invalid).

The decision related to a technical point on how the limitation period for assessments had to be determined under an old assessment (‘audit’) procedure where the Income-tax officer was required to forward the draft assessment order to a superior officer – designated at the Inspecting Assistant Commissioner – for his review.

The Taxpayer contended that the time taken by Inspecting Assistant Commissioner could not be excluded to determine the limitation period for assessment since the Inspecting Assistant Commissioner was having a ‘concurrent jurisdiction’ over its case. Consequently, the assessment order passed was time-barred,  it was contended. The argument did not find favor with the Supreme Court and the assessment order was held to be passed within the statutory time-lines and valid in law.

Our Comment

While the decision is of little practical relevance today as the assessment (‘audit’) procedures applicable now are very different and the practice of forwarding draft assessment orders to Inspecting Assistant Commissioner has been long gone. The decision nevertheless highlights that there would always be unforeseen risks when a Taxpayer decides to litigate a matter purely on technical grounds. The lesson for Taxpayers: If you bank on Technical nuances to save you Taxes – you may later find yourself breaking the bank to pay your taxes.

 

Section 68 shocker for foreign Investments from ‘suspect sources’- Economic Times report

The Economic Times, a leading business daily has reported that the Indian Tax authorities have now set their sights on in-bound investments to track unaccounted / suspect  investment sources. The report can be accessed in the following link:

“Inbound M&A deals on I-T department’s radar; total tax demand may exceed Rs 4,000 crore

 

Our Comment

As the report states, only those investments which are from “suspicious” sources have been targeted for action. While cracking down on suspicious investment sources is welcome and in line with the stated intent of the Government to cleanse the economic ecosystem, the reported action under Section 68 seems to be beyond the mandate of law.

Prima facie, it appears to be a mis-application of a proviso which was introduced in the taxing statute from fiscal 2013-14 by Finance Act, 2012. As per the said proviso, monies received by privately held and closely held companies, in the form of Share capital , Share application and Share premium is “presumed” to be its  “unexplained income”, unless the “residents” contributing such monies can explain the source of funding.

The above amendment was introduced to plug the loop-hold of white washing unaccounted sums by introducing the same as share capital, and is clearly intended to operate only where such monies have been received from resident persons.It appears that the Taxman has mis-construed the provision to be applicable even for share capital contributions received from foreign sources. Thus, while the intent behind the action appears to be above board, the means adopted to secure the intent looks questionable, and may not stand judicial scrutiny.

Interestingly, the window for voluntary disclosure of unaccounted monies held abroad under the Black Money legislation introduced by the Government came to a close recently [on September 30, 2015] which was soon followed by stern statements by the Finance Minister suggesting that those who are hoarding monies and have not come forward with disclosure would have to pay the price. It is not apparent whether the reported actions have any link to the ‘harsh action’ that the Honorable Finance Minister warned of.