A taxing deal

The taxability of the Flipkart-Walmart deal will be determined by various factors

Even as other e-commerce players, entrepreneurs and retailers are working out the implications of the Flipkart-Walmart deal on the Indian markets, there is another interested party very keenly watching the development — the Tax Department. The tax authorities have also reportedly sent out ‘friendly’ notices to Walmart as well as Flipkart seeking details of the proposed transaction, which clearly reflects the intention of the authorities to bring the deal under the tax net.

Accordingly, it would be interesting to see the income-tax aspects of the mega deal, which has the potential to add another chapter to the history of tax litigation in India.

Likely twists

As per publicly available information, under the proposed deal, shares of the holding company, Flipkart Singapore (a foreign company), would be transferred to Walmart. Generally, any gain arising from the sale of shares of a foreign company is not liable to income tax in India.

However, pursuant to the Vodafone controversy, ‘indirect transfer’ provisions were introduced under domestic tax laws, providing that gains from transfer of shares of a foreign company could be taxed in India, if such shares substantially derive its value from assets situated in India. This would apparently be satisfied in Flipkart’s case, since the company’s entire business is situated in India.

However, the proposed sale of shares of Flipkart Singapore may result in interesting tax situations depending on the tax jurisdiction of the seller entity.

For example, SoftBank Vision Fund, which holds approximately 22 per cent stake in Flipkart Singapore, is based out of Jersey, which does not have any tax treaty with India. Accordingly, any transfer of shares by SoftBank will clearly be hit by the indirect transfer provisions and liable to capital gains tax in India. Further, since these shares were held for even less than an year, such capital gains may be taxed as short-term capital gains at a rate as high as 40 per cent on the amount of capital gains.

On the other hand, investments made by Tencent Holdings, Hong Kong, though not covered by any tax treaty (as the proposed one between India and Hong Kong is yet to come to force), could be taxable in India, but at a much lower tax rate of 10 per cent on long-term capital gains, as Tencent has held the shares for more than 24 months.

Any gains arising to the resident Indian promoters, from such a sale, would also be liable to tax in India. However, such gain may be taxable at a much lower 20 per cent rate after allowing indexation benefit on cost, as such shares held by the promoters have been held for more than 24 months and may qualify as long-term capital gains.

On the other hand, other shareholders, namely Tiger Global and Accel Partners, might have invested in Flipkart Singapore through tax treaty jurisdictions such Singapore, Mauritius, or the Netherlands. They may thus not be liable to income tax in India at all, as gains arising from such transactions continue to be exempt from tax in India under the residuary clause of the article dealing with taxation of capital gains under the respective tax treaties.

Tax treaty benefits

Concerns are being raised, on whether indirect transfer provisions under the domestic tax laws would override tax treaty benefits. However, the government had a few years ago clarified that the indirect transfer provisions are not intended to override tax treaties and would apply when the “transaction has been routed through low or no tax countries with whom India does not have a DTAA (Double Taxation Avoidance Agreement).” Reference in this regard may also be drawn to certain judicial pronouncements, wherein Indian courts have held that indirect transfer provisions would not override tax treaty provisions.

Thus, it would be really interesting to see the taxability of this transaction in the hands of different sellers, which will depend on the respective tax treaties, period of holding of such shares and its interplay with indirect transfer provisions. It may be advisable for transacting entities to obtain either an advance ruling or a nil/lower withholding tax order from Indian tax authorities, in order to mitigate tax litigation.

The writers are Managing Partner and Director, respectively, at Nangia & Co.

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