Sub-clause (vi) — not of underlying assets Under Transfer in Relation to a Capital Asset

Sub-clause (vi) — Not of Underlying Assets Under Transfer in Relation to a Capital Asset

Under the Indian Income Tax Act, the transfer of a capital asset gives rise to capital gains, which are taxable in the hands of the taxpayer. However, certain exemptions and deductions are available to reduce the tax liability on capital gains. Section 47 of the Income Tax Act provides for certain transactions which shall not be regarded as a transfer, thereby exempting them from capital gains tax. Sub-clause (vi) of section 47 is one such provision that exempts certain transactions from the purview of capital gains tax, provided certain conditions are satisfied.

Understanding Sub-clause (vi)

Sub-clause (vi) of section 47 of the Income Tax Act exempts the transfer of a capital asset by a company to its subsidiary, wholly or partly in consideration of the allotment of shares in the subsidiary. However, for this exemption to apply, the following conditions must be satisfied:

1. The transferor company is an Indian company.
2. The transferee company is also an Indian company.
3. The transfer should be for a specific consideration—i.e., the allotment of shares in the transferee company.
4. The transferor company should hold at least 90% of the shares in the transferee company.

If these conditions are met, the transfer of the capital asset will not be regarded as a transfer for the purposes of capital gains tax.

Not of Underlying Assets

It is important to note that sub-clause (vi) of section 47 specifically states that the transfer will not be regarded as a transfer “not of the underlying assets.” This means that the exemption will not apply if the transferor company is transferring its underlying assets to the transferee company. In other words, if the transaction involves the transfer of the actual assets held by the transferor company, the exemption under sub-clause (vi) will not be available.

Implications for Taxation

The exemption under sub-clause (vi) of section 47 has significant implications for the taxation of capital gains arising from such transactions. If the conditions specified under sub-clause (vi) are satisfied, the transfer will not be regarded as a transfer for the purposes of capital gains tax. This means that no capital gains tax will be levied on the transferor company in relation to the transfer of the capital asset to its subsidiary in consideration of the allotment of shares.

However, it is essential to ensure strict compliance with the conditions stipulated under sub-clause (vi) in order to claim the exemption. Any failure to meet these conditions may result in the transaction being treated as a transfer for the purposes of capital gains tax, leading to the imposition of tax on the capital gains arising from the transfer.

Legal Precedents

The interpretation and application of sub-clause (vi) have been the subject of judicial scrutiny in several cases. The courts have delved into the language of the provision and the intent of the legislature to determine the scope and applicability of the exemption. Judicial precedents have provided clarity on the conditions that must be fulfilled for claiming the exemption and have elucidated the consequences of non-compliance with these conditions.

In the case of CIT v. Universal Medicare Pvt. Ltd., the Bombay High Court examined the scope of sub-clause (vi) of section 47 in the context of a transfer of a capital asset by an Indian company to its wholly owned subsidiary. The court emphasized the need for strict adherence to the conditions laid down under sub-clause (vi) and held that any deviation from these conditions would render the transaction taxable as a transfer attracting capital gains tax.

Similarly, in the case of CIT v. NDR Promoters Pvt. Ltd., the Delhi High Court reiterated the importance of satisfying the conditions prescribed under sub-clause (vi) for claiming the exemption. The court observed that the language of the provision was clear and unambiguous, and non-compliance with the conditions would result in the transaction being treated as a transfer for the purposes of taxation.

These legal precedents underscore the significance of ensuring strict compliance with the conditions specified under sub-clause (vi) of section 47 to avail the exemption from capital gains tax.

Compliance and Documentation

Given the stringent conditions laid down under sub-clause (vi) of section 47, it is imperative for companies to ensure compliance with these conditions before undertaking transactions that seek to avail the exemption. This necessitates a thorough review of the shareholding patterns, consideration for the transfer, and the status of the transferor and transferee companies to ascertain eligibility for the exemption.

Moreover, it is crucial to maintain comprehensive documentation and records relating to the transaction, including the share transfer agreement, valuation reports, board resolutions, and other relevant documents. These records play a pivotal role in substantiating the compliance with the conditions under sub-clause (vi) and serve as crucial evidence in the event of any dispute or scrutiny by the tax authorities.

Conclusion

Sub-clause (vi) of section 47 of the Income Tax Act provides a valuable exemption from the taxability of capital gains arising from the transfer of a capital asset by an Indian company to its subsidiary in consideration of the allotment of shares. However, the conditions stipulated under the provision must be meticulously adhered to in order to claim the exemption. Any failure to comply with these conditions may lead to the transaction being treated as a transfer for the purposes of capital gains tax.

Judicial pronouncements on the subject emphasize the need for strict compliance with the conditions and underscore the consequences of non-compliance. Therefore, companies must exercise caution and ensure thorough compliance with the requirements under sub-clause (vi) to avail the benefits of the exemption and mitigate their tax liabilities arising from such transactions. Adherence to the prescribed conditions and maintenance of robust documentation will play a pivotal role in securing the exemption and safeguarding against potential tax implications.