The main legal point established in the judgment is that gains from the transfer of CCDs and equity shares should be treated as capital gains, not interest, and that the transaction was not structured solely for tax avoidance purposes.

Vibhu Bakhru, J.

1. The writ petitioner under Article 226/227 of the Constitution of India, is a company incorporated under the laws of Mauritius, challenges a ruling dated 21.03.2012 (hereinafter referred to as the ‘impugned ruling’) of the Authority for Advance Ruling, (hereinafter referred to as ‘AAR’) in A.A.R. No.1048 of 2011. By the impugned ruling, the AAR held that the entire gains on the sale of equity shares and Compulsorily Convertible Debentures (CCDs) held by the petitioner are not exempt from income tax in India by virtue of the Double Taxation Avoidance Convention (hereinafter referred to as ‘DTAA’) with Mauritius and that the gains arising on the sale of CCDs are interest within the meaning of Section 2(28A) of the Income Tax Act, 1961 (hereinafter referred to as ‘the Act’) and Article 11 of the DTAC and are taxable as such.

2. Brief facts of the case are that Vatika Limited (hereinafter referred to as ‘Vatika’) is an Indian company and is inter alia engaged in the business of developing and dealing in real estate. Vatika is the owner of a contiguous tract of land admeasuring 6.881 acres or 10,00,000 sq. ft situated in village Badshahpur Tehsil, Gurgaon (hereinafter referred to as the ‘Land’), which has been reserved for being developed as a cyber park, to be used for software development activities and IT enabled services as per the provisions of Notification No. CCP (NCR)/GDP-III/2001/1555 dated 30.07.2001 as amended from time to time. SH Tech Park Developers Private Limited (hereinafter referred to as the ‘JV Company’) is an Indian Company and was incorporated on 04.07.2007 as a 100% subsidiary of Vatika.

3. The petitioner is a company incorporated under the laws of Mauritius and is a tax resident of Mauritius and is inter alia engaged in the business of investment into Indian companies engaged in construction and development business in India. The petitioner entered into a Securities Subscription Agreement dated 11.08.2007 (hereinafter referred to as ‘SSA’) and a Shareholder’s Agreement dated 11.08.2007 (hereinafter referred to as ‘SHA’) with Vatika and the JV Company. As per the SSA, the petitioner agreed to acquire 35% ownership interest in the JV Company by making a total investment of Rs.100 crores in five tranches. The petitioner agreed to subscribe to 46,307 equity shares having a par value of Rs.10/- each and 88,25,85,590 zero percent CCDs having a par value of Rs.1/- each in a planned and phased manner. The SHA recorded the terms of the relationship between the petitioner, Vatika and the JV Company, their inter se rights and obligations including matters relating to transfer of equity shares and the management and operation of the JV Company. The said agreement also provided for a call option given to Vatika by the petitioner to acquire all the aforementioned securities during the call period and likewise, a put option given by Vatika to the petitioner to sell to Vatika all the aforementioned securities during the determined period.

4. Vatika and the JV Company executed a Development Rights Agreement dated 06.11.2007 (hereinafter referred to as ‘DRA’) in terms of which Vatika transferred the exclusive development rights, entitlements and interest in the Land to the JV Company for development of the Land, with the right to retain the sale proceeds thereof exclusively.

5. On 08.04.2010, Vatika partly exercised the call option and purchased 22,924 equity shares and 43,69,24,490 CCDs from the petitioner for a total consideration of Rs.80 crores. Subsequently, the petitioner transferred further equity shares and CCDs to Vatika. The AAR noted that the Balance Sheet of Vatika for the year 2010-11 indicates that Vatika had acquired the entire CCDs subscribed to by the petitioner during the Financial Year – 2010-11, and the petitioner was left with only 23,383 equity shares of the JV Company.

6. On 12.05.2010, the petitioner filed an application under Section 197 of the Act before the Income Tax Officer re