MR. 3 SIGMA GLOBAL FUND ,MUMBAI vs. ASSISTANT COMMISSIONER OF INCOME TAX INT TAX CIRCLE 4(2)(1), MUMBAI

“Panel has examined the matter of denial of India-Mauritius DTAA benefits to the applicant on basis of Beneficial Ownership concept. It is noteworthy that the Assessing Officer has not examined the substance of the applicant company. There is no enquiry into the business transactions of the applicant. The Assessing Officer has not made any investigation into the situs of Board of Directors of the company, the location of AGMs, location of investment decisions, place of effective management, situs of decisions of the company etc. The Assessing Officer has only applied the "beneficial ownership" (BO) concept in a blanket manner. Even after applying the beneficial ownership principle, the Assessing Officer has not examined the eligibility of the claims of the Applicant in the hands of the beneficial owners, as per relevant Tax Treaties. Such an application of the beneficial ownership concept, and without enquiry into the substance of the Applicant Company (FPI) does not meet the standard for rejection of Treaty benefits. Panel is in complete agreement with the Assessing Officer that the Tax Residence Certificate (TRC) issued by a low-tax jurisdiction is not the sole instrument for availment of Treaty benefits. However, it was incumbent on the Assessing Officer to undertake further enquiry to establish that the Applicant Company lacked substance and merely acted as a conduit to claim benefits of Treaty Shopping. The Assessing Officer has not been able to deny the benefit of India-Mauritius DTAA to the Applicant, but has chosen the short-cut of Beneficial Ownership, which has no place in the Treaty. Having not been able to dispel the Treaty immunity to the applicant assessee, the Assessing Officer is bound by the provisions of the Tax Treaty. Hence, the Panel has no alternative but to reject the simplistic approach of the Assessing Officer, adopted sans enquiry, and by merely using the Ultimate Beneficial Owner data (UBO data under Rule 9 of the Prevention of Money Laundering (Maintenance of Records) Rules, 2005, and as specified in Table 5 of the Master Circular for Foreign Portfolio Investors, Designated Depository Participants, and Eligible Foreign Investors dated 19th December 2022) for assessment and invoking Beneficial Ownership Concept on basis of certain foreign jurisdiction case precedents. The Assessing Officer has made allegations & IT (IT)A No. 1119/Mum/2025 M/s Sigma Global Fund which could have potentially been established, if at all, with proper enquiry. But any such enquiry is missing in this case. In light of the above, the objection of the applicant is allowed.”

However, the DRP did not accept the contention of the assessee that the income from Derivatives would be exempt as per Article 13(4) for the reason that Derivatives and shares are closely related and therefore the income is to be taxed in India as per Article 13(3A) of India-Mauritius DTAA. The assessee is in appeal before the Tribunal against the final order of assessment passed by the AO as per the directions of the DRP. The assessee raised the following grounds:

The ld. AR submitted that for AY 2023-24 the AO issued a similar show- cause notice with regard to applicability of exemption under India-Mauritius DTAA to the assessee towards income from sale of Derivatives. The ld. AR further submitted that the assessee made a detailed reply in response to the show-cause notice and that the AO after considering the reply the AO allowed the exemption as claimed by the assessee under Article 13(4) of India-Mauritius DTAA. The ld. AR therefore, argued that the principle of consistency should be applied by the revenue and the revenue cannot take two different stands on the same issue. The ld. AR relied on the decision of the Cochin Bench of the Tribunal where a similar issue in the context of Capital Gains from sale of Mutual Funds has been considered and it is held that the same would be exempt as per Article 13(4) of India-UAE Treaty.

The ld. AR submitted that the Co-ordinate Bench in the case of Vanguard Emerging Markets Stock Index Funds vs. ACIT (IT) [2025] 172 taxmann.com 515 (Mum. Trib.) has held that Derivatives are distinct from shares while considering the issue of applicability of Article 13(6) of India-Ireland DTAA to sale of "Rights Entitlement"

Accordingly, it has been argued before us that even the stand of Government of India (through its Secretary in press) is that shares would cover "shares of Indian Company" and not derivatives & other securities. Accordingly, gain on alienation of securities other than shares would continue to be taxed in the resident country and not in India. The aforesaid clarification. clarifying the stand of the Government of India, if we look from the perspective of the distinction between the shares and other securities, then for the purpose of the present case, the rights entitlement which is distinct from shares can be taken as a guidance to see the intention of the Government while negotiating or amending the Articles of DTAA.

It is also a well settled proposition of law if any term has not been defined under the Act or treaty; the same is to be understood as per the domestic legislation in view of Section 90(3) of the Act as well as Article 3(2) of India- & IT (IT)A No. 1119/Mum/2025 M/s Sigma Global Fund Ireland DTAA, It states that where the term has not been defined under the treaty, the meaning under the domestic tax legislation is to be adopted. Further, where the term has not been defined in domestic tax legislation also it is a general meaning is to be adopted. We find that the definition of shares even in Section 2(84) of the Companies Act, 2013 provides a restrictive definition of shares to mean a share in the share capital of a company and includes stock. Otherwise also an asset, which may come into existence or derive its value from another underlying asset, cannot be regarded as being same as the original asset. An analogy may be drawn to a derivative', which may derive its value from the underlying equity but it is a well-established principle that the derivative contract is a deriving its value from underlying equity would not be subject to tax in India under Article 13(6). Likewise rights entitlement which is granted on account of shareholding cannot be regarded as being the same as shares especially since the rights shares are allotted, only on subscription. The rights entitlement, being a distinct asset may be sold lapsed or subscribed and thus, akin to derivatives, ought to be not subject to tax under Article 13(6) of the India-Ireland DTAA. Similarly, the investor can either sell the rights entitlement option or exercise the option to get shares or decline the offer for shares.”

The ld. DR on the other hand relied on the order of the DRP and the findings of the AO.

We heard the parties and perused the material on record. During the year under consideration, the assessee has earned an income of Rs. Rs. 1,88,73,621/- from sale of Derivatives. The assessee claimed the said income as not taxable in India under Article 13(4) of the India-Mauritius DTAA whereas the contention of the revenue is that the applicable Article is Article 13(3A) pertaining to alienation of shares as per which the income is taxable in India. Therefore before proceeding further we will look at the relevant Articles of India-Mauritius DTAA which read as under – ARTICLE 13 CAPITAL GAINS 1. Gains from the alienation of immovable property, as defined in paragraph (2) of article 6, may be taxed in the Contracting State in which such property is situated.

Notwithstanding the provisions of paragraph (2) of this article, gains from the alienation of ships and aircraft operated in international traffic and movable property pertaining to the operation of such ships and aircraft, shall be taxable only in the Contracting State in which the place of effective management of the enterprise is situated. 3A. Gains from the alienation of shares acquired on or after 1st April 2017 in a company which is resident of a Contracting State may be taxed in that State. 3B. However, the tax rate on the gains referred to in paragraph 3A of this Article and arising during the period beginning on 1st April, 2017 and ending on 31st March, 2019 shall not exceed 50% of the tax rate applicable on such gains in the State of residence of the company whose shares are being alienated; 4. Gains from the alienation of any property other than that referred to in paragraphs 1, 2, 3 and 3A shall be taxable only in the Contracting State of which the alienator is a resident 5. For the purposes of this article, the term "alienation" means the sale, exchange, transfer, or relinquishment of the property or the extinguishment of any rights therein or the compulsory acquisition thereof under any law in force in the respective Contracting States.

Accordingly the moot question before us is whether Derivatives are shares the alienation of which is taxable under Article 13(3A) or whether Derivatives are other than shares to be taxed as per Article 13(4) of the India-Mauritius DTAA. Section 2(84) of the Companies Act defines shares as "a share in the share capital of a company and includes stock.". The owner of the shares has various rights including voting right. Though the term Derivatives is not defined anywhere, the term "securities" defined under section 2(81) of the Companies Act as per clause (h) of section 2 of the Securities Contracts (Regulations) Act, 1956 (42 of 1956) includes derivatives. Therefore it is clear that as per the Companies Act, shares and & IT (IT)A No. 1119/Mum/2025 M/s Sigma Global Fund derivatives are considered as separate assets. Before deciding whether shares and derivatives are difference, we will first examine what is a derivative and its salient features.

In general parlance Derivative is a financial contract between parties whose value is derived from the changes in the value of underlying assets. The underlying assets can be in the form of shares, bonds, commodities like gold or silver, currencies, interest rates and market indices. In layman language a typical derivative contracts is where the parties involved enter into contract to buy/sell the underlying asset at a particular price at an agreed future date in order to mitigate the risk of price fluctuation of the underlying asset. The derivative contract is a complex financial product that gets traded in the exchange or over the counter and the investor earns profits or ends up in making loss without actually buying or selling the underlying asset. For example in order to avoid the risk of movement in fuel price a contract would be entered into between parties to buy / sell the fuel at a fixed price at a future date in order to protect the risk of fuel price fluctuation. This contract is a derivate whose price would move up or down depending on the movement in the fuel price and is traded in the market as it is. The investor of the derivative would end up in making profit or loss without actually buying or selling fuel depending on the price movement of the fuel. Derivative trade offers leverage to the investor to have control over a large asset portion with a relatively small initial investment since the investor may not actually buy or sell the underlying asset. This financial leverage comes with risk of significant gain or loss situation which makes Derivative high-risk, high rewarding instrument. The following key features of Derivative emanate from the above high level understanding –  That derivates are a financial contract different from the underlying asset  That the underlying asset can be anything and not only shares & IT (IT)A No. 1119/Mum/2025 M/s Sigma Global Fund  That in order to trade in derivatives, the investor need not own the underlying asset  That the derivative contract being a separate financial instrument can be traded as it is without buying or selling the underlying asset (as explained in the above example) 12. A combined perusal of the above discussed nature of derivatives, the definitions of "shares" and "securities" under the Companies Act, and the relevant observations of the coordinate bench in the case of Vanguard Emerging Markets Stock Index Funds (supra) makes it clear that derivatives are assets that are different from shares and accordingly we see merit in the contention that gain from alienation of derivatives need to be considered under Article 13(4) of the India-Mauritius DTAA. This view is supported by the observations of the Revenue Secretary's clarification in Media while amending the India-Mauritius DTAA with regard to taxability of the assets other than shares and immovable property under the Treaty. Further we are of the view that the following observations of the Cochin Bench of the Tribunal are pertinent while considering the impugned issue before us – 6. We have heard the rival submissions and perused the material on record. The assessee admittedly is a non-resident Indian for the relevant assessment year. The tax residency certificate issued to the assessee stating he has a valid residency in UAE is on record (pages 27 to 29 of the paper book filed by the assessee). The Assessing Officer also admits that the assessee is a NRI during the relevant assessment year. For the relevant assessment year the assessee sold equity linked mutual funds and derived STCG. As per section 5(2) r.w.s. 9(1)(i) of the I.T.Act, transfer of a capital asset situated in India shall be deemed to accrue or arise in India. The income from transfer of units of an equity-oriented mutual funds situated in India is deemed to accrue or arrive in India and therefore is taxable in India even in the case of a non-resident. However, taxation in the case of non-resident is subject to the provisions of the relevant Treaty between India and the State of residency of the assessee. In the instant case, the provisions of India-UAE Treaty would be applicable. Section 90(2) of the I.T.Act states that the provisions of the Treaty shall apply to the extent they are more beneficial to the assessee as compared to the corresponding provisions of the Act. The Assessing Officer also does not state that the assessee is not entitled to the beneficial provisions of the DTAA entered between India and UAE. The & IT (IT)A No. 1119/Mum/2025 M/s Sigma Global Fund Assessing Officer negated the assessee's contention by holding Article 13(4) of the Treaty would apply and not Article 13(5) of the Treaty. To understand the issue in controversy, it is necessary to reproduce Article 13 of the India-UAE Tax Treaty and the same reads as follow:- "ARTICLE 13 : CAPITAL GAINS 1. Gains derived by a resident of a Contracting State from the alienation of immovable property referred to in paragraph (2) of Article 6 and situated in the other Contracting State may be taxed in that other State.

Gains from the alienation of movable property forming part of the business property of a permanent establishment which an enterprise of a Contracting State has in the other Contracting State or of movable property pertaining to a fixed base available to a resident of a Contracting State in the other Contracting State for the purpose of performing independent personal services, including such gains from the alienation of such a permanent establishment (alone or together with the whole enterprise) or of such fixed base may be taxed in that other State.

Gains from the alienation of any property other than that referred to in paragraphs 1, 2, 3 and 4 above shall be taxable only in the Contracting State of which the alienator is a resident." (Emphasis supplied) 6.1 As per Article 13(5) of the Tax Treaty, income arising to a resident of UAE from transfer of property other than shares in an Indian company, are liable to tax only in UAE. On the other hand, Article 13(4) of the Tax Treaty provides that income arising to a resident of UAE from transfer of shares in an Indian company other than those specifically covered within the ambit of provisions of other paragraph of Article 13 may be taxed in India. Article 13(4) of the Tax Treaty covers within its purview capital gains arising from transfer of 'shares' and not any of the property. Therefore, Article 13(4) of the Tax Treaty cannot be applied in the instant case unless the units of mutual funds transferred by the assessee qualify as shares for the purpose of Tax Treaty.

The coordinate bench in the above case has considered the different definition of shares and securities under the Companies Act while holding that Mutual Funds are different from Shares. It would not be out of place to mention here that in Mutual Funds the underlying assets are shares and therefore ratio laid down in the above case reinforces our view that derivatives cannot be equated to shares merely for the reason that one of the underlying assets can be shares. We have also taken into consideration the various differences brought out by the ld. AR between shares and derivatives as tabulated in the earlier part of this order. We also notice that in assessee’s own case for AY 2023-24, the AO has raised query on identical issue and after considering the reply filed by the assessee did not make any addition towards denying applicability of Article 13(4). In view of these discussions and considering the judicial precedence in this regard we have no hesitation in holding that Derivatives are assets distinct from shares and the gain from the alienation of & IT (IT)A No. 1119/Mum/2025 M/s Sigma Global Fund Derivatives would fall within the purview of Article 13(4) of the India-Mauritius DTAA and cannot be considered under Article 13(3A). Accordingly we hold that the gain arising from the transfer of Derivatives cannot be taxed in India and the addition made in this regard stands deleted. Ground No. 1 raised by the assessee is hereby allowed. During the course of hearing the ld. AR did not present any arguments with regard to Ground No. 2.1. Ground No. 2.2 has become infructuous in view of our decision on Ground No.1. Ground No. 3 with regard to interest u/s 234D is consequential and does not warrant separate adjudication.