Tax Implications On Cross-Border M&A With Special Reference To India
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Category: Taxation
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TAX IMPLICATIONS ON CROSS-BORDER M&A WITH
SPECIAL REFERENCE TO INDIA
Tarushi Batra, University of Petroleum and Energy Studies (UPES) I.
INTRODUCTION
Merger and amalgamation is not new concept but it keeps on changing or keep on getting advanced according to changes in society, as before there was MRTP Act,1969 (Monopolies and Restrictive Trade Practices),this act included strict rules for merger and amalgamation which made it difficult for companies to merge as there was long process and many other factors, this Act was than replaced by Competition Act,2002 as globalization moment in India enhanced in 1991 and MRTP act was also repealed in 1991,Then competition act came into force and it’s Section 5 and 6 deals with combinations which means mergers , acquisitions and amalgamation, this act deals with merger and amalgamation because it’s main aim to regulate prohibition anti-competitive agreements which means if merger and amalgamations can create monopoly or can harm competition then they are against competition act, and are not allowed by CCI as mergers need to be approved by CCI.
There are many types of mergers like horizontal merger, vertical merger, conglomerate, cross border mergers etc. In this Article we will focus on Cross-Border merger. The Foreign Exchange Management (Cross Border Merger), Regulations, 2018 (FEMA Regulations) give a definition for this type of merger crossborder merger to give clear Idea about it “Cross-border merger is a merger between an Indian and Foreign Company. Section 234 of Companies Act,2013 also deals with this type of merger and amalgamation it state that foreign company needs RBI approval to merge with Indian company ,this shows RBI plays Important role in cross-border mergers. There are many laws other than Competition Act 2002, that deals or governs merger and acquisitions like Income tax act, 1961; Insolvency and Bankruptcy Code,2016 ; Transfer of property Act,1882 etc.
Let us look at how these acts are important for governing Merger and Amalgamation:
1. Transfer of Property Act, 1882: When one company merger with other company it also
involves transfer of immovable property and also transfer of ownership rights from one
company to another so for this transfer TPA rules need to be followed, stamp duty and registration is also important concept in M&A TPA also deals with this aspect.
2. Insolvency and Bankruptcy Code (IBC), 2016: As one of the benefit of M&A includes
reviving Sick Company, so IBC deals with this concept as it gives legal framework by reducing complexities and uncertainty in M&A process for Sick Companies merger.
3. Income Tax Act, 1961: There are many new transactions and old transactions also change
when company involves in corporate restructuring and one of the most used corporate restructuring by companies nowadays is merger and amalgamation, So all these transactions are dealt by Tax Act. There are Capital gains like if there is share purchase, asset purchase, slump sale all these will be included at time of acquisition of company, so Income tax act governs all of this, it also governs the payment of Stamp Duty on various documents related to M&A transactions like share purchase agreements, merger agreements etc. This Act also gives opportunities to Companies going through merger and amalgamation to do tax planning and give some exemptions to them like section 47 of Income Tax Act deals with exemptions for capital gains. This Act will be our main focus throughout the Article. There was a case Vodafone International Holdings BV vs.
Union of India1 in this case Vodafone is a foreign company (Netherland Company) or we can say multinational corporation, it purchase majority stake (67%) in Indian Company registered under Companies Ac, 1956 named Hutchison Essar which is subsidiary of Hutchison Whampoa (Parent Company) located in Hong Kong and Hong Kong is known as one of the leading tax haven country. So, here Vodafone did not directly bought stake in Indian Company instead it bought shares of Parent company which indirectly give share of Subsidiary company which is Indian Company so that it can enjoy the Tax Haven country advantage as Parent Company was located in Hong Kong.
So, this acquisition examined by Indian Tax Authorities and they argued that Vodafone have to pay taxes in India as effect of change and control is on Indian Company, but Vodafone disagree with this and was of opinion that it made transaction outside India so it did not have to pay Tax in India. Sc held that Tax department did not have authority or jurisdiction to tax these kind of transactions (Offshore transactions), So SC ruling was in favour of Vodafone. This case lead amendments In Indian Tax Laws like Indian Government introduced Finance Bill and
1 Vodafone International Holdings BV Vs Union of India,(2012) 6 SCC 613.
amendments were made in Following section:
1. In section 9 (1) (i) of Income tax Act, Explanation 5 was added.
2. Explanation 2 was included in section 2(47) of Income Tax Act.
3. Scope of Section 195 and explanation of sec 2 (14) of Income Tax Act was expanded.
Foreign corporations' ability to purchase Indian enterprises has been impacted by these reforms, which have also complicated the tax laws. Cross-border transactions can have major tax ramifications, and businesses must be cautious to adhere to the laws of all participating nations, as this case serves as a reminder.
II. BENEFITS OF CROSS-BORDER MERGERS
When we engage in the study of new concepts, it is common to encounter the fundamental question: Why? To know the reason behind companies pursuing cross-border mergers, it is essential to understand the significance of such mergers:
1. Cross-Border merger makes it easy for companies to enter into new market without starting
from lowest by this market expansion and access to new market companies get more customers and reduces risk as if in one country business is not going well it can be profitable in other country because of diversification and demand. Like In India there are more vegetarian people so if company that manufactures pure vegetarian chocolates will have more demand in India as compared to other countries. As Dairy Milk manufactures only veg chocolates in India, it’s Demand in India is very high. Walmart acquired Flipkart and it entered India through Merger and increased it’s presence in Indian market. Walmart is US based retailer and Flipkart is Indian e-commerce Company. This Cross-border merger was beneficial for both companies.
Tax complexities involved in this deal: Walmart and Flipkart Deal As Walmart is acquirer of Flipkart it has given a deadline by Indian Government to withhold and remit taxes on capital gains earned by Flipkart’s shareholders by selling their shares. It is one transaction where major three parties (Shareholders) are there, three different rules
and regulations are applicable: Three Investors: a. SoftBank- It is US based entity. It owns shares in Singapore Co. ( Parent Co. Of Indian Flipkart, owns Indian flipkart entity) Jurisdiction of Investor is Jersy US which do not have benefit of treaty (DTAA- Double taxation Avoidance Agreement) with India. There was Indo-US treaty in which there was Article 13 which states that “The domestic laws of each contracting state may be used to tax capital gains, with the exception of what is specified in Article 8 -Shipping and Air Transport of this convention. According to Indian Tax Act tax rate depends on duration for how long shares are held to SoftBank US share transfer to Walmart is most likely 10%. b. Tiger Global: It is also US -Based firm but it has Mauritius funds and these funds are invested in Singapore entity of flipkart which is parent company of Indian Flipkart.
According to Indian Tax authorities Tiger Global should pay taxes in India but Tiger Global disagree by saying they don’t have to pay taxes because they have tax treaty between India and Mauritius. Now the question arises that this company is truly independent company in Mauritius or is controlled by US. As there is treaty between Mauritius and India and not between US and India so if Tiger Global is US entity it has to pay taxes in India but if it is Mauritius entity tax treaty will apply and it will get benefit that it would not have to pay taxes in India. High Court of Delhi reversed the decision of Authority of Advance Ruling (AAR) by giving judgement that Tiger global is independent company in Mauritius so not taxable in India as benefit provided under Article 13 (3A) of the India- Mauritius Double Taxation Agreement2.
To understand how High court decided that Tiger Global is Mauritius based entity we will look at the case Radha Rani Holdings ltd Vs Director of IT
3 In this case CM test (Control and Management Test) was replaced by POEM test.
c. Resident Shareholders: Founders of Flipkart Sachin Bansal and Binny Bansal were Resident shareholders and according to tax laws whatever capital gains they have they have to pay tax in India. By looking at this deal we can examine that cross-border mergers are beneficial but at the same
2. Diversification is another benefit as two different countries have different cultures and
people love to experience new cultures so by merging two companies of different country there can be diversification in products and services which can contribute in increasing customer base, as services and products become wider and vast which makes it easy to fulfill customer needs. Diversification can also help in reducing risk as risk spread across different geographical regions and industries.
3. By combining two companies together synergies are created it is one of the main goal of
companies when they are merging as when two companies work together they become more effective and efficient as compared to when they were working individually. As they share their resources, employees, ideas, customers etc. They take advantage from each other in a ways like in technology advancements, infrastructure, talent etc.
4. Competitive Advantage is also there s increased market share, and new ideas etc. The
example of Walmart-Flipkart they gain competitive advantage on Amazon.
5. There can be tax benefits also etc.
III. TYPES OF CROSS-BORDER MERGER
There are two types of Cross-Border Merger:
1) Inbound Mergers: This type of Cross-Border merger takes place when a foreign Company
merges with Indian Company and the resultant company is Indian Company means the new entity formed by merging two companies is Indian Company or the surviving company is Indian Company. After this merger foreign shareholders get Indian company shares as Indian company issues shares and securities for non-residents also. Both domestic and foreign laws will be followed. Examples: i. If Netherlands company merges with Indian company then non-resident shareholders receive shares in Indian entity as Indian entity survives. ii. Walmart-Flipkart merger is also example of this Inbound merger as Walmart was Foreign company and Flipkart was Indian company and Flipkart then survived and Walmart issued
shares in name of Flipkart. iii. Advent International‘s acquisition of Suven Pharmaceuticals Ltd. : In this deal Surviving company was Suven Pharma Lt. Which is Indian Company and Advent International’s is foreign company. iv. Blackstone’s (Foreign company) Acquisition of Care Hospitals “( Indian Entities). etc.
2) Outbound Merger: This type of Cross-Border merger takes place when Indian Company
merger with Foreign company and resultant company is Foreign company means the new entity formed by merging two companies is Foreign company or the surviving company is Foreign company. After this merger Indian shareholders get Foreign company shares as Foreign company issues shares and securities for Indian shareholders. Both Domestic and Foreign laws will be followed. Examples: i. Tata Steel Acquiring Corus ii. Reliance Group-Hamleys iii. Tata Motors acquired Jaguar and Land Rover
INBOUND AND OUTBOUND TRANSACTIONS:
1. Inbound Merger
In compliance with the Foreign Exchange Management Act (FEMA) and the regulations governing overseas direct investment (ODI), the resulting business is permitted to transfer any security outside of India. The transferor company's loan will be repaid by the resulting company. The resulting firm must comply with the External Commercial Borrowings (ECB) regime during the allotted 24-month term. The asset must be sold within two years of receiving an order from the National Company Law Tribunal (NCLT) if it was acquired by the resulting company in a way that was prohibited by the Companies Act or any other law or regulation. The resulting business may open a bank account in the relevant foreign jurisdiction to expedite the transaction for a maximum of 2years after approval of NCLT.
2. Outbound Merger
Securities must comply with the FEMA and ODI laws before being transferred to any Indian person. As instructed by the NCLT, the resulting company's loans or guarantees must be paid back. The transferor company's office in India may be regarded as a branch office of the resulting international company, and it must adhere to FEMA requirements. Within two years of receiving an order from NCLT, the resulting business must sell any assets that were not obtained in a way that was permitted. The resulting business may, for a maximum of two years, open a special non-resident rupee account to facilitate transactions in India. The resulting business as well as other businesses engaged in such cross-border transactions must adhere to the Reserve Bank of India's (RBI) rules. According to Rule 25A of the Companies (Compromises, Arrangements, and Amalgamations) Rules, the valuation will take place.
INCOME TAX ACT ALSO RECOGNISES THESE MERGERS AND ACQUISITIONS:
A. Tax on Capital Gains:
1. Any restructuring including the transfer of a resident's or non-resident's capital assets located
in India will be taxable.
2. Capital gains from the transfer of a capital asset are subject to taxation under Section 45 of
the ITA. Section 47, however, offers some exceptions to Section 45: transfer of capital assets when an Indian firm merges with another company.
3. ITA offers certain tax incentives in the event of a demerger when a foreign firm transfers its
ownership of an Indian company to another foreign company under an amalgamation plan. The transfer of capital assets made by the demerge firm will not be subject to capital gains tax if the successor company is an Indian company. B. Capital Gains tax for slump sale:
The capital gains will be subject to 20% long-term capital gains tax if the undertaking being sold for a lump sum was owned by the transferor Indian company for longer than 36 months. Additionally, the capital gains will be subject to 30% short-term capital gains tax if the undertaking was held for 36 months or less.
C. Capital gains tax for Asset sale:
The capital gains on the sale of an asset that was owned by the transferor Indian company for more than 36 months would be subject to long-term capital gains tax at a rate of 20%. The capital gains will also be subject to 30% short-term capital gains tax if the undertaking was held for 36 months or less. D. Tax on Business Income:
Loss and depreciation may be carried forward by the combined business and deducted from future earnings, providing that:
1) Amalgamated Company: The combined business maintains the operations of the merging
firm for at least five years following the merger and owns 3/4th of the book value of the fixed assets constantly purchased from the merging business.
2) Amalgamating Company: Additionally, the merging company had been involved in the
business for at least three years in which the loss occurred or depreciation was not absorbed continuously from two years prior to the date of amalgamation to at least 3/4th of the fixed assets' book value.
E. Void Transfers
If any legal entity is the subject of ongoing tax litigation or assessment proceedings, any charge or transfer intended to be made on its assets will be null and void under section 281 if it is not made for sufficient consideration and the assessing officer is notified of the proceeding.
GOODS AND SERVICES TAX (GST)
The GST is a general tax that incorporates a number of indirect taxes. In the event of an asset purchase, the GST slab rate will change based on the kind of asset involved. There won't be any GST applied to share transfers or slump sales.
IV. TAX ISSUES IN CROSS BORDER MERGERS
1. Tax benefits can be claimed by treaties:
According to Section 90 (2) of Indian Tax Act non-residents can claim tax benefits if the country they are living in has Double Tax Avoidance Agreement (DTAA) with India. DTAA is agreement which states that a person has to pay only home country taxes and not to other country with whom, home country has agreement. There are some conditions to claim these tax benefits:
1. The Non resident of India must be resident of country that has a DTAA with India.
2. Non-resident individuals or corporations must be acknowledged as distinct legal entities
under the laws of their home country.
3. Non-Resident person ( Individual) or Company need to give some information like their
status, Nationality, Country of incorporation, and their unique tax identification number ( like PAN in India).
2. Withholding Tax obligation
When individual from India pays sum of money or payment to a person or company who are from another country other than India (Non-resident), then the person making payment to nonresident need to check if the payment he is doing is taxable in India or not (Taxable under section 195 of Income Tax Act and also keeping in mind about DTAA), therefore if taxable he (resident of India) need to withhold taxes on the amount paid to non-resident and the resident will give this deducted tax amount to government on behave of this recipient (non resident in this case) and if not taxable in India then no tax need to be withhold from the payment made by resident.
3. Representative assessee
The general rule is that seller pays the taxes on capital gains means he is responsible for tax payment. But in this cross merger deals case is different in these type of deals Buyer can be responsible to pay taxes means Buyer need to act as representative taxpayer for seller no matter if seller is from another country.
Vodafone Case:4 In this case it was said that this representative rule only applies when there’s a transfer of a capital assets that’s taxable in India , if it is not taxable in India then this rule does not apply.
4. Tax Indemnities
Tax indemnity is agreement when is made so that unexpected taxes which may occur in cross border merger because tax laws are different in different countries so unexpected taxes can be experience for companies of different countries when merging , so this agreement says that one company will pay the other company if these unexpected taxes arise. Usually these are mentioned in merger agreements only and this tax indemnities may be valid for around 7 years but depends on terms of agreement. AAR (Authority of Advance Rulings can also come into picture if needed so that future disputes can be prevented.
5. Demerger
As under section 234 of companies Act, 2013 allows cross border merger but does not talk about demerger so question arise in a case that demerger will come under this section or not. The Case was Sun Pharmaceuticals 5 in this case demerger application was rejected as it said section 234 does not expressly include demerger but this decision of NCLT was criticized.
V. CONCLUSION
The year 2024 has seen a number of high-profile cross-border M&A transactions in India. The Reliance-Disney merger, which is anticipated to be completed by year's end and is valued at US$8.5 billion, is the most noteworthy and has the potential to drastically alter the media and entertainment sector. ATC India's assets were also successfully acquired by the Data Infrastructure Trust for US$2.5 billion, making it one of the biggest infrastructure sector transactions of 2024. These deals demonstrate how strategically significant investments are in India's developing market. There were 132 transactions totaling US$6.2 billion in India in Q2 2024. This gain in M&A is attributed by analysts to a spike in domestic agreements, which experienced a 2.5-fold increase
4 Vodafone International Holdings vs Union of India, (2012) 6 SCC 613.
5 Sun Pharmaceutical Industries Ltd. No.38/NCLT/AHM/2019
in value and a 29 percent increase in volume compared to Q1 2024. 52 percent of the total M&A value came from four significant deals in the ports and industrial materials industries, making the Adani Group a significant contributor. Cross-border deal value and volume, however, kept falling. Domestic activity was the main driver of these deals, accounting for 154 deals with a total value of US$5. 7 billion. Recent changes to the regulatory environment have been made to make cross-border M&A in India easier and more straightforward. The Finance Ministry revised the Foreign Exchange Management (Non-debt Instruments) Rules, 2019 in August 2024 in an effort to simplify FDI laws, especially those pertaining to cross-border share exchanges between Indian and foreign businesses.
The following reforms are intended to improve Indian companies' capacity to expand internationally through mergers, acquisitions, and strategic initiatives:
1. Simplifying the exchange of shares across borders.
2. Matching the way non-resident Indian (NRI)-owned and overseas citizen of India (OCI)-
owned firms handle investments.
3. To encourage financial inclusion, particularly in rural regions, FDI in White Label ATMs
(WLAs) is permitted.
4. Furthermore, the Companies (Compromises, Arrangements, and Amalgamations) Rules,
2016 were modified by a notification released by the Ministry of Corporate Affairs on
September 9, 2024. These changes, which take effect on September 17, 2024, eliminate the need for the drawn-out National Company Law Tribunal (NCLT) clearance and need RBI permission for mergers involving foreign holding firms and their domestic subsidiaries under Indian law. In particular, start-ups will profit from this reform, which attempts to speed up the merging process. India's dedication to improving ease of doing business, fostering an environment that is favorable to foreign investors, and establishing itself as a desirable location for businesses wishing to relocate or restructure is reflected in the development of its regulatory system.