Tiger Global ruling may complicate tax insurance for M&As, caution advisers
After a Supreme Court ruling on Tiger Global's capital gains tax liability, insurance firms may tighten scrutiny on M&A deals, raising premiums and imposing stricter terms. This landmark decision could reshape insurance for tax liabilities in future transactions.
Insurers may not readily offer tax liability insurance for merger and acquisition (M&A) deals and will subject them to stricter scrutiny given the risks of retrospective taxes, consulting and law firms cautioned, days after the Supreme Court ruled that Tiger Global must pay capital gains tax on its Flipkart share sale years ago.
Even if insurers provide cover for such deals, they are likely to charge higher premiums and tighten terms to account for potential tax and legal risks, they added.
“The entire availability of insurance to protect a seller’s tax liability in such situations may undergo a fundamental change. We will now have to wait and watch how willing insurance companies are to underwrite treaty-related tax risks in future transactions," said Ankur Nishar, partner-tax at KPMG India at a webinar.
On 15 January, the Supreme Court (SC) ruled that US-based private equity firm Tiger Global must pay India capital gains tax on its $1.6 billion Flipkart stake sale to American retail giant Walmart in 2018. Tiger Global's request for a tax exemption citing the Mauritius tax treaty was rejected by the tax department, but upheld by the Delhi High Court. However, the SC’s ruling overturned the HC verdict, making Tiger liable to pay tax in India, in what became a precedent-setting verdict for investors from countries with which India has tax treaties.
"In our view, once it is factually found that the unlisted equity shares, on the sale of which the assessees derived capital gains, were transferred pursuant to an arrangement impermissible under law, the assessees are not entitled to claim exemption under Article 13(4) of the DTAA. The Revenue has proved that the transactions in the instant case are impermissible tax-avoidance arrangements, and the evidence prima facie establishes that they do not qualify as lawful," said the SC bench of Justices R. Mahadevan and J.B. Pardiwala.
Tiger Global's Flipkart share sale to Walmart was undertaken by its Mauritian entities.
"Taxing an income arising out of its own country is an inherent Sovereign right to that country. Any application of filters or diffusers to this is a direct attack or threat to its sovereignty which can affect a Nation’s long-term interest," said Justice Pardiwala in a separate concurring opinion.
Article 13(4) of the Double Taxation Avoidance Agreement deals with capital gains.
“A deal like this would typically be covered under a tax liability or tax indemnity insurance, in which scenario such a judgement will trigger a claim," said a senior executive at one of the top global insurance brokers operating in India. "It is a big judgement in the sense that it could have implications for taxation insurance as a whole," the executive added.
Tax liability insurance ringfences a tax risk and keeps it out of sale negotiations. This means that the seller need not give tax warranties or indemnities, and the buyer cannot use potential tax risks to renegotiate deal price. The cover, common in M&A deals, can apply to multiple past or planned tax positions and protects against challenges by tax authorities, such as tax disputes over historical structures, as in the Tiger Global–Flipkart case.
Mint has learnt that since the SC order, consulting firms have held multiple meetings with their clients, insurance companies, insurance brokers and their advisors on what precautions to take going ahead.
“However, in light of the Supreme Court’s finding that even legacy structures may be evaluated as an ‘impermissible avoidance arrangement’, insurers may apply exclusion clauses more strictly, making payouts in such cases increasingly unlikely," said Kalpesh Desai – partner for M&A tax for KPMG in India.
One of the top four audit and consulting companies had a meeting with their clients over the last couple of days, studying the impact of the Supreme Court verdict on their deals and stake sales. “Insurance companies will stay away from covering deals even if they are cleared by the tribunal or high court. They will wait for the apex court’s verdict for a go-ahead," said a senior tax partner in the firm.
Dinesh Kanabar, chairman and chief executive officer of tax advisory firm Dhruva Advisors India Pvt Ltd, said that the SC verdict will prompt an “increased perception of scrutiny, uncertainty and risk", leading to an “increase in premium". Insurance companies charge premiums taking into account their perception of risk. “There is a possibility that the Government/Central Board of Direct Taxes may come out with some guidelines to allay fears of challenges from the judgement. Should that happen, it may have a soothing effect".
Law firms said that legal structuring for M&A deals will become more stringent, particularly when transactions are being insured.
“Withholding tax insurances had become commonplace especially in private equity deals where providing long-drawn tax indemnities was not commercially feasible," explained Gouri Puri, partner for tax at law firm Shardul Amarchand Mangaldas & Co.
Withholding tax is where a payer deducts the income tax before paying to the recipient. However, the SC judgment has changed the legal landscape against which withholding tax insurances were being issued. “There will also be higher scrutiny around the levels of substance underlying the holding company structures by insurance firms and their advisors before agreeing to cover withholding tax risks," said Puri.
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