Just because your structure looks good on a PowerPoint slide, it may not necessarily sail through a tax or judicial scrutiny. Here are six common mistakes, we often make.
1. Mistaking Legal Presence for Commercial Substance
Common Approach:
Set up a company in Mauritius, Singapore, or Netherlands with no employees, no office, and no decision-making power – just to access a tax treaty.
The Problem with this Approach:
Today, “substance” means more than registration. Tax authorities look at where the business is actually managed and controlled. If your entity is just a shell, treaty benefits can be denied.
Case in Point:
- In AB Mauritius In re [2018] 90 taxmann.com 174, the Indian AAR denied capital gains exemption under the India–Mauritius treaty. The Mauritian company had no local substance—it existed only to claim tax benefits.
- In Indofood International Finance Ltd. v. JP Morgan Chase Bank NA [2006] EWCA Civ 158, the UK Court of Appeal denied treaty relief because the intermediary entity wasn’t the beneficial owner—it merely passed through payments.
Takeaway:
Don’t just “open” a company—run it. Local directors, board meetings, financial decisions, and control must happen in that jurisdiction.
2. Assuming Treaty Benefits Are Automatic
Common Approach:
Claim reduced tax rates under a treaty without submitting basic paperwork like a Tax Residency Certificate (TRC) or Form 10F.
The Problem with this Approach:
Courts have consistently ruled that treaty benefits are not automatic. You have to prove eligibility through documentation. Missing even a basic TRC can lead to denial and higher tax rates.
Case in Point:
- In CIT v. Samsung Electronics Co. Ltd. [2009] 320 ITR 209 (Kar HC), the Karnataka High Court held that without prior clearance or valid TRC, tax must be deducted at the higher domestic rate.
- In Serum Institute of India Pvt Ltd v. Addl. CIT [2020] 113 taxmann.com 57, the Pune ITAT denied treaty relief because key documents weren’t furnished.
Takeaway:
Even the best structure fails without paper. Ensure your vendors and finance teams are treaty-compliant, not just treaty-aware.
3. Using ‘Popular’ Jurisdictions Without Purpose
Common Approach:
Set up holding companies in Netherlands, Cyprus, or Luxembourg purely for treaty benefits, with no real operational reason.
The Problem with this Approach:
With the OECD’s Multilateral Instrument (MLI) and India’s General Anti-Avoidance Rule (GAAR), tax officers can now ask: “What’s the purpose of this company other than tax?” If the answer isn’t compelling, treaty access can be denied.
Case in Point:
- In McDowell & Co. Ltd. v. CTO [1985] 154 ITR 148, India’s Supreme Court laid the foundation by stating that tax avoidance through artificial devices is not acceptable.
- The Principal Purpose Test (PPT) under the MLI empowers authorities to deny treaty benefits if obtaining those benefits was one of the main purposes of the arrangement.
Takeaway:
Choose jurisdictions based on business need, not tax rates. If the company doesn’t have a strategic function, it’s a red flag waiting for disaster.
4. Planning Only for Entry, Not for Exit
Common Approach:
Focus on minimizing tax while entering a country or investing, and leave exit scenarios for “later.
The Problem with this Approach:
India’s tax law has evolved to tax indirect transfers—even if the deal happens offshore. If your foreign holding company derives its value from Indian assets, the gain could still be taxed in India on exit.
Case in Point:
- In the landmark Vodafone International Holdings B.V. v. Union of India [2012] 341 ITR 1, the Supreme Court initially ruled in Vodafone’s favor, stating that offshore transactions could not be taxed by India.
- In response, the government retrospectively amended Section 9(1)(i) of the Income Tax Act through the Finance Act, 2012 to tax such indirect transfers.
Takeaway:
Every structure should have a clear exit map – whether it’s an IPO, M&A, or secondary sale. Plan exit tax today, not post term sheet.
5. Copying Structures Without Local Adaptation
Common Approach:
Apply the same legal and tax structure globally—assuming what works in one jurisdiction works everywhere.
The Problem with this Approach:
Tax laws vary dramatically. One country might allow heavy debt funding, while another limits interest deductions. A holding model that works in Singapore may trigger PE risk or disallowances in India or Germany.
Case in Point:
- India introduced Section 94B to limit interest deductions where debt is sourced from associated enterprises. Anything beyond 30% of EBITDA may be disallowed.
- OECD BEPS Action Plan 4 also mandates interest limitation to prevent tax base erosion through excessive leverage.
Takeaway:
Customize your structure for each key jurisdiction. Check local thin cap rules, GAAR, VAT grouping, and PE triggers.
6. Assuming the Org Chart Matches Reality
Common Approach:
Treat legal ownership as the final word – ignoring where actual control, strategy, and risk lie.
The Problem with this Approach:
Tax authorities look through legal forms and ask: who is really managing the business? If the economic activity and control sit in another country, that’s where the tax liability may fall.
Case in Point:
- In Maruti Suzuki India Ltd. v. ACIT [2009] 180 Taxman 428 (Del HC), the court held that strategic control by the foreign parent over Indian operations created a PE.
- In Chevron Australia Holdings Pty Ltd. v. Commissioner of Taxation [2017] FCAFC 62, the Australian court found that the intra-group loan was not at arm’s length because the borrower had no control over the terms or pricing.
Takeaway:
If decisions are made in India, managed in India, and risk sits in India – then India will want to tax it, regardless of what the structure says.
In Nutshell: Structure with Intent, Not Just Form
If you are using a cross-border structure today, ask yourself three questions:
- Would I still use this structure if there were no tax advantages?
- Can I explain its commercial logic to a tax authorities and court?
- Have I documented the functions, risks, and controls clearly across entities?
If the answer is “yes” to all three, you are good to go. If not, it may be it’s time to rethink – not just technically, but practically.
In today’s tax world, the battle is not won in the tax return—it’s won in how you think, justify, and document your structure from day one.
I would love to hear your thoughts. Cross-border structuring isn’t dead – it’s just smarter now.