Divyanshu Kr. Srivastava & Akash Lamba*
In a significant ruling last week [Aberdeen Asia Pacific including Japan Equity Fund v. DCIT; W.P No. 2796/2019], the Bombay High Court allowed three sub-funds of AICFL, a Delaware based LLC to carry forward their losses, following a change in the legal identity of AICFL, from being a Trust to becoming a Limited Liability Company. The judgment is significant, as it is one of the few judgments on Indian ‘Conflict of Laws’ principles, particularly in the backdrop of Taxation law.
Conversion of a Trust into LLC : Creation of a New Entity?
● AICFL was originally set up as a trust under the laws of the Delaware, USA, to invest in securities across jurisdictions. The three sub-trusts (petitioners) were set up to invest, inter-alia, in the Indian securities and had accordingly obtained sub-account registration of Foreign Institutional Investors (“FII”) with the SEBI.
● In the year 2010, AICFL was converted into an LLC and the three sub-trusts were accordingly converted into Sub-Funds under the Delaware Statutory Trusts Act and the Delaware Limited Liability Company Act. As per these laws, when a statutory trust is converted into an LLC, the latter would be deemed to be the same entity as the trust. Therefore, such a conversion would not lead to creation of a new entity.
● Not only that, as per these laws, even the sub-trusts would continue as corresponding sub-funds of the LLC without dissolution and as a consequence, all the rights, privileges, powers, properties of the sub-trusts and the debts due to it, would now vest in the corresponding sub-funds of the LLC. Thus, as matter of fact, the SEBI did not consider the sub-funds of the LLC to be a new entity and they were accordingly allowed to continue using their existing sub-account registration with SEBI for investing in the Indian capital market.
Genesis of the Dispute
● The sub-trusts, prior to their conversion, had incurred losses under the head ‘Capital Gains’ from the A.Y. 2009-10 to the A.Y. 2010-11. After their conversion into sub-funds, these losses were sought to be carried forward by them to the Assessment Year 2011-12 and beyond [in accordance with Section 74 of the Income Tax Act] and accordingly, an application before the Authority for Advance Rulings (“AAR”) was made.
● Gaining strength from the order of the AAR, the IT Department passed re-assessment orders against the funds, disallowing the carrying forward of losses. It was the contention of the IT Department that while the LLC may be deemed to be the same entity as the Trust under the Laws of Delaware, the carrying forward of accumulated losses had to be examined under Indian Tax Laws, where no such deeming fiction exists and thus, the deeming fiction under the Delaware laws was of no avail. It further contended that Section 70 of the Income Tax Act restricted a claim of carry forward of loss to the assessee only (taxpayer who incurred the losses), and since the sub-funds were not assessible entities in India (as against their previous avatar i.e. the trusts), and had never filed any income tax returns in India, they could not be permitted to carry forward and set off the losses
● The three funds then filed a Writ Petition in Bombay High Court challenging the assessment orders as well as the order of the AAR.
THE DICTUM OF BOM HC : RENVOI : LEX DOMICILII OVER LEX FORUM
Expounding the principles of Indian conflict of laws, the High Court held that the status of an entity has to be determined according to law of its domicile (lex domicilii) or the law of the country where the entity was incorporated and not as per the lex forum, for the simple reason that a corporation is an artificial body created by law, which can act only in accordance with the law of its creation. Therefore, all questions concerning the creation and dissolution of the corporate status must be decided on the anvil of the law of incorporation unless it is contrary to the domestic public policy.
Thus, since as per the Delaware Law, the sub-funds were deemed to be the same entity as the Trust, this position ought to be accepted in India as well. Therefore, any gains or losses incurred by it in its earlier avatar, would in law, not be denied only because of change in status from a sub-trust to sub-funds (under LLC).
Resultantly, the Bombay High Court allowed the Writ Petitions, quashing the reassessment proceedings initiated against the sub-funds. The HC, while delivering the judgment, relied on the SC’s decision in Technip SA v. SMS Holding Private Limited (2005) 5 SCC 465, wherein the SC, for the first time, had authoritatively encapsulated two salutary principles of Indian conflict of laws [vis. determination of corporate status]:
- The questions as to the status of a corporation must be decided in accordance with the laws of its domicile or incorporation [subject to certain exceptions including the exception of domestic public policy]
- The above general rule regarding determination of status will not apply when the issue relates to discharge of obligations or assertion of rights by a corporation in another country, where such obligations are imposed by or rights arise under the statute or contract which is governed by the law of such other country
In Technip, the issue before the Supreme Court was that- between lex domicilii (French Law in that case) and the lex forum (Indian Law, SEBI regulations), which law was applicable for the purposes of determining the date of taking over control of a subsidiary company, by the petitioner Technip SA. In the decision, Justice Ruma Pal, very succinctly, capitulated the accepted position of the Indian principles of conflict of laws, particularly in relation to the determination of corporate status and the role of lex domicilii or lex incorporationis, as discussed above.
The SC categorically held that foreign law must be disregarded exceptionally and with the greatest circumspection. It can be disregarded only when its application affronts basic principles of justice, morality and fairness which the courts seek to apply in the administration of justice in this country.
At this juncture, the following observations by Justice Cardozo, J. speaking for the Court in Fannie F. Loucks et al, as Administrators of the Estate of Everett A. Loucks v. Standard Oil Co. of New York [224 NY 99],as relied upon by the SC, become noteworthy:
“The courts are not free to refuse to enforce a foreign right at the pleasure of the judges, to suit the individual notion of expediency or fairness. They do not close their doors unless help would violate some fundamental principle of justice, some prevalent conception of good morals, some deep-rooted tradition of the common weal.”
Not only this, the SC was further of the view that while the statutes enacted by Parliament or the States can be said to be part of Indian public policy but to reject a foreign law only because it is contrary to an Indian statute would subvert the very basis of conflict of laws principles to which India undisputedly subscribes. To buttress this point, SC relied on a House of Lord’s decision in Kuwait Airways case [2002 UKHL 19 : (2002) 3 All ER 209 (HL)] wherein it has been observed:
“The laws of the other country may have adopted solutions, or even basic principles, rejected by the law of the forum country. These differences do not in themselves furnish reason why the forum court should decline to apply the foreign law. On the contrary, the existence of differences is the very reason why it may be appropriate for the forum court to have recourse to the foreign law. If the laws of all countries were uniform there would be no ‘conflict’ of laws.”
The authors sincerely believe that Bombay High Court’s decision is praiseworthy in as much as it has correctly applied the law down by the Supreme Court on a subject which is rather obscure and yet highly interesting. It is not often that Courts in India deal with questions involving conflict of laws principles and the doctrine of renvoi. And when they do, and do it right, then it augurs well for the country and the larger international business community wanting to invest in India. The Bombay High court’s decision undoubtedly is one such decision.
*The authors are advocates, practicing in the courts of Delhi. They can be reached at dksrivastava0511@gmail.com and akashlamba01@gmail.com
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