In the last decade there has been a trend of restructuring of group companies of foreign companies having subsidiaries in India. The parent companies create their hub based on the region and the economic viability. Singapore as such has been most preferred destinations among the asia-pacific region.

There are various checks and balances in respect of tax planning which one needs to consider while restructuring its group holdings. We would address the entitlement of carry forward and set off of losses of the Indian company in cases where there is restructuring of upstream companies.

Section 72 of the Income-tax Act, 1961 provides for entitlement of carry forward and set-off of business losses and section 79 is an exception to such entitlement. Section 79 of the Act applies to only to companies in which public are not substantially interested. Such a company will not be entitled to carry forward and set off an earlier year’s loss against the income of the accounting year, if on the last day of the accounting year shares carrying at least 51%  of the voting rights / power are not beneficially held by persons who beneficially held shares carrying at least 51% of he voting rights / power on the last day of the year in which the loss was incurred. On a careful consideration of the clause (a) it is to be noticed that the reference is not to the registered shareholders of the company but to the beneficial owners of the shares of the company.

The section also provides for two exceptions i.e., this section is not applicable if: (i) change in voting power is on account of the death of a shareholder or gift of shares by shareholder to relative; and (ii) change in the shareholding of an Indian company which is subsidiary of a foreign company as a result of amalgamation or demerger of a foreign company, subject to condition that the 51% of the shareholding continue with shareholders of the amalgamated or the resulting company.

Logically, section will not apply if the shares carrying 51% of the voting power continue to be held by the same group which held shares carrying 51% of the voting power in the year in which the loss was incurred, although within the group itself there may be any amount of change of shareholding.

However, there has been some inconsistency when this provision came for interpretation before the Courts recently.

The Delhi High Court in case of Yum Restaurants (India) P. Ltd [TS-5118-HC-2016(NEW DELHI)-O] has held that change of 100% shareholding of the Indian Company from Yum Asia to Yum Singapore, in the absence of any agreement or arrangement that the beneficial owner would be Yum USA, claim of carry forward of accumulated business loss of earlier was rejected. The assessee in this case also argued that corporate veil is to be pierced to look at the holding company, this argument with respect may not be appropriate. Doctrine of piercing of corporate veil can be applied only for limited purposes in tax cases and cannot be at the instance of assessee. However, the reasoning of the Delhi High Court that there has to be an agreement or arrangement to establish that the beneficial owner is the holding company, being Yum USA, is with respect not correct.

The Delhi High Court has lost sight of the wording used in the provisions of section 79. The section only requires that the beneficial owners of the shares of the Indian company are the same. In the case before the Delhi High Court, the beneficial owner of the shares was always Yum USA, as both Yum Asia and Yum Singapore are subsidiary of Yum USA. This, being the case Yum USA is the person who beneficially held shares of the Indian Company. The condition of any agreement or arrangement to prove the beneficial ownership is not contemplated by the provisions and the Court ought not to have placed conditions which are not provided in the statute. In my view, to prove beneficial ownership, shareholding structure of the companies should be sufficient.

On the other hand, the Karnataka High Court in case of Amco Power Systems Ltd [TS-5514-HC-2015(KARNATAKA)-O], wherein the assessee company was wholly held by ABL. ABL in the subsequent year transferred 45% of its shareholding to APIL which is its 100% subsidiary. After two years ABL transferred 49% to TAFE and retained only 6% shares in the assessee company. The assessee argued that the section 79 is to be interpreted to mean that the voting power which was held by a person or persons who beneficially held shares of the Company, and not the shareholding. The Karnataka High Court on facts held that  though ABL may not have continued to hold 51% shares, but section 79 speaks of 51% voting power, which ABL continued to have even after transfer of 49% shares to TAFE, as it controlled the voting power of APIL, and together, ABL had 51% voting power. Thus, the Karnataka High Court interpreted the words ‘beneficially held shares’ and not just held shares, which was lost sight by the Delhi High Court.

This apart, the Supreme Court in Italindia Cotton P. Ltd [TS-5016-SC-1988-O]  has interpreted section 79 in a manner that the section would be applicable only when there is change in shareholding in the previous year which may result in change of control of the Company and that every such change of shareholding need not fall within the prohibition against the carry forward and set-off of business losses.  This being the clear position of law, the view of the Delhi High Court, with respect, is not correct and requires reconsideration.