Taxman stumps Irish firms, upturns aircraft deals, CFO News, ETCFO
For decades, Ireland has been the hub for companies leasing out aircraft to airlines in India. But now, a question mark looms over such deals. In a turn of events that could change the way local airlines acquire planes, at least three Irish companies have been denied tax benefits (provided under the treaty between the two countries) by the Indian Income Iax (I-T department).
In the notices served to these offshore firms, the taxman has built its case on the grounds that the prime reason for these lessors to operate from Ireland is to escape tax on the operating lease rental they earned from airlines in India.
By virtue of a tax-friendly treaty between India and Ireland, such earnings are neither taxed in Ireland nor are the airlines required to withhold any tax before paying out the rental to foreign lessors.
However, this arithmetic is under scrutiny as India as well as Ireland (besides with many countries) are signatories to BEPS Multilateral Instrument (MLI) which is an internationally co-ordinated measure to plug loopholes in tax treaties.
The matters, pertaining to 2020-21 lease rentals, are lying before the dispute resolution panel (DRP), an alternative mechanism steered by 3 I-T commissioners. According to the ‘principal purpose test’ (PPT) under MLI, a benefit under a tax treaty would be denied if it is concluded that obtaining tax benefit was one of the principal purposes of an arrangement or transaction. Pitted against this doctrine, foreign leasing companies would try to convince the DRP that it wasn’t the tax advantage that took them to Ireland, but there are genuine commercial reasons in setting up shop there.
Like real estate projects, every airIndia and Ireland are signatories to BEPS Multilateral Instrument craft lease is done through separate special purpose vehicles (SPVs) to manage cash flows and make them bankruptcy remote. However, these SPVs have drawn the attention of the tax office as these entities come across as pass-through structures which do not hire separately but are serviced by employees of the parent lessor.
ADVANTAGE GIFT?
Interestingly, the story is playing out at a point when GIFT City is marketing the advantages of setting up an aircraft leasing business in the International Financial Services Centre in Gujarat. Besides a 10-year tax holiday (on lease rentals), the rent paid out by a GIFT company to a lessor in another ju risdiction is also spared of any withholding tax rule.
Under the circumstances, a foreign lessor currently operating from Ireland can set up a company in GIFT to lease in aircraft and then lease them out to airlines in India. Here, the GIFT entity will not have to deduct tax before paying out the rental to the original lessor in Ireland. It may also earn a margin from the two legs of the transactions.
“Some of the foreign lessors may not be averse to the idea of setting up outfits in GIFT. In fact, there are reports of airlines in India entering into lease deals with some GIFT firms for engines, supporting equipment and even aircraft acquisition. But these companies have another concern: what if the I-T department invokes GAAR on the grounds that a GIFT entity does not have adequate ‘substance’ and was formed simply to save tax?,” said an industry person familiar with the developments.
GAAR or general anti-avoidance rule, under the tax law, aims to strip tax benefits in a transaction or business arrangement that lacks commercial substance (like paper companies with no office or staff).
According to tax circles, the outcome of DRP proceedings could vary from case to case. “For instance, an old established company may have a better chance before the DRP than a lessor who started operations in Ireland only a few years ago,” said a senior tax practitioner. In butteressing its point that most lessors were lured by the tax exemption in Ireland, the I-T department has referred to a representation by the lessor industry body that Ireland should sign similar tax treaties with other countries.
“Will the tax disputes indirectly benefit GIFT? We don’t know. These are early days and it’s the first time aircraft lease deals are being tested by the principles of MLI,” said an industry person.
