Why Walmart-Flipkart deal may bring a windfall for taxman

India's largest deal in the e-commerce space is likely to be announced soon - perhaps even today according to some media reports - and Flipkart's employees, customers and investors aren't the only ones holding their breaths in anticipation. So is the taxman. Because according to experts there are two taxation angles to the Walmart-Flipkart deal, if it goes through.

To begin with, there's taxation of capital gains earned by the sellers, i.e. Flipkart's investors. According to Nangia & Co Director Chirag Nangia, if the Indian promoters of Flipkart India intend to sell their shareholding, being Indian residents, they would be liable to pay income tax in India on capital gains arising from such transaction.

Transaction Square Founder Girish Vanvari said the income tax law provides that taxes have to be withheld by the buyer if the share purchase agreement is being entered into with a non-resident entity. "With regard to share purchase agreement entered into with India resident entity, Sachin Bansal and Binny Bansal in this case, capital gain would be charged in their hands and they have to pay 20 per cent income tax," said Vanvari.

The buzz is that Flipkart's co-founder and executive chairman Sachin Bansal will sell his 5.2 per cent stake to the US brick-and-mortar behemoth and likely exit completely. So he may have to pay 20 per cent capital gains tax if he sells his stake. Whether the other co-founder and the Group CEO, Binny Bansal, will also sell his 5.1 per cent stake partially as part of the deal is still unclear.

Walmart is also expected to buy stakes of multiple Flipkart investors, including Tiger Global and Japanese conglomerate Softbank, to end up with 60-80 per cent holding for roughly $12 billion.
 
The taxability of the foreign investors in Flipkart, according to Nangia, will depend on the country through which the money is routed and whether India has a tax treaty with those nations.

Singapore-registered Flipkart Pvt Ltd holds the majority stake in Flipkart India. As per the proposed deal, Walmart is expected to acquire shares of the Singapore entity. This will effectively result in transfer of ultimate ownership in Flipkart India.

Tax experts explained that if the seller/transferor of such shares in Flipkart Singapore is a tax resident of Singapore/ Mauritius or any other country, which has a tax treaty with India that exempts capital gains from income tax in India, then the seller may claim treaty benefits.

However, the tax treaties between India and Singapore as well as India and Mauritius have been amended and exemption from capital gains tax in India were provided only till March 31, 2017. So any investment in Flipkart routed throughout these countries on or after April 1, 2017, would come into the ambit of capital gains tax in India.

Given that SoftBank's $2.5 billion investment in Flipkart came in August last year, it is likely liable to be taxed. lWhile short-term capital gains tax in the hands of foreign investors is 40 per cent, long-term capital gains tax is levied at 20 per cent for shares sold after 24 months of purchase.

"However, such applicable long-term capital gains tax rate in India could be reduced by half, if such shares acquired after March 31, 2017, are sold before April 1, 2019," said Nangia.

He added that Tiger Global would be exempt from taxes in India after the proposed Walmart deal if the funds were routed through Mauritius or Singapore and if the money was invested before March 31, 2017.
As per indirect transfer provisions of IT laws, value of shares of a foreign company is deemed to be substantially derived from India if the value of the Indian assets is greater than 50 per cent of its worldwide assets, a criteria that is apparently met in Flipkart's case.

"Despite the fact that shares of Flipkart Singapore - a company registered outside India - will be transferred to Walmart, the gains arising from such transfer could be subject to tax in India considering that substantial value of such shares is being derived from India," Nangia said.

The other tax angle is whether Flipkart India is allowed to carry forward the losses for the adjustment against income tax payable by the company.

As per Section 79 of the Income Tax Act, carry forward and set-off of losses cannot happen when more than 51 per cent of shareholding changes hands. "However, Section 72A of the Act provides that if there is demerger and merger, the company can carry forward the losses. It remains to be seen how the Flipkart-Walmart deal would be finally structured," said Vanvari.

Nangia, however, said since even after the proposed transaction, the immediate majority shareholding of Flipkart India would remain with Flipkart Singapore, Flipkart India may be allowed to carry forward such tax losses to future years.

"The proposed transaction may open up tax litigations for Flipkart India/its shareholders, be it the issue of taxability of capital gains arising to shareholders from such transaction or the issue of carry forward of existing tax losses of Flipkart India," said Nangia.

With PTI inputs