Did Budget 2013 target tax treaties? FM's silence confuses foreign ...

India?s budget disappointed foreign investors by failing to deliver a much anticipated cut in withholding taxes for debt investments and creating confusion with a proposal that appeared to target tax treaties. His silence on? retrospective tax laws introduced in the previous budget, is also likely to make foreign investors still wary of putting their money in the country.

Finance Minister P Chidambaram has said that? a tax residency certificate was necessary but no longer enough to claim benefits under double taxation avoidance agreements, according to the Finance Bill tabled in parliament on Thursday. Hence,?Overseas investors will also have to provide proof that they are the final beneficiaries of any profits.

Market analysts who spoke to CNBC-TV18 also attributed the sharp market fall to lack of clarity on tax treaty benefits to foreign investors. They said Chidambaram?s budget has given more power to the taxman to scrutinise deals that have been routed through tax havens like Mauritius.

?Some tax avoidance arrangements have come to notice, and I propose to plug the loopholes. Some unlisted companies have avoided dividend distribution tax by arrangements involving buyback of shares,? Chidambaram said.

Clearly the amendment is sparking fears that tax authorities would have wider discretion to go after foreign investors who have usually benefitted from investing from countries such as Mauritius that have double-tax avoidance treaties with India.

According to HDFC Securities, the finance minister contradicted himself by increasing the tax rate on royalty payments. At one place the ?FM says Foreign investment in an imperative in view of the high current account deficit (CAD). FII, FDI and ECB three main source of CAD Financing To this effect he has hinted at liberalized SEBI requirements for FII registrations. ?

On the other hand he has proposed to increase the rate of tax on payments by way of royalty and fees for technical services to non-residents from 10 percent to 25 percent. Further in the relaxed GAAR norms, foreign investors will now have to worry that submission of a tax residency certificate is a necessary but not a sufficient condition for claiming benefits under the DTAA, said HDFC Securities in a note.

The move is likely to? impact investments routed from so-called tax havens like Mauritius. Bilateral treaties are meant to ensure that capital gains arising from sale of shares are taxed only in the investors? country of residence and not where the company is based, thus avoiding the payment of of taxes twice over.

Around 42 percent of FDI and about 40 percent of FII fund flows into India are routed through Mauritius. It is believed that a large majority of them are third country investors, which use the tax treaty with Mauritius for saving capital gains tax.

Tax authorities had previously considered this tax residency as enough proof to allow foreign investors registered in countries with these treaties to avoid paying taxes in India.

The amendment, due to take effect in 2016, sparked fears tax authorities would have wider discretion to go after foreign investors.

It also comes about a year after poorly written rules to ensnare tax evaders, called the General Anti-Avoidance Rules (GAAR), had sparked an outcry among foreign investors, prompting the government to amend their provisions and delay implementation for two years.

Ketan Dalal, a joint tax leader at PwC India called the amendment ?disturbing,? adding that ?this does create significant uncertainty?.

Chidambaram addressed these concerns at a news conference, saying the amendment had sought to clarify that tax authorities would now look at not only the tax residency requirement, but also enforce rules mandating these foreign investors are the beneficiaries of any investments under double tax agreements.

Those rules already exist under certain double tax treaties the ministry said, and were thus reiterating existing policy.

But Homi Phiroze Ranina, an advocate at the Supreme Court of India and former director at the board of the country?s central bank, said questions still remained, especially as to which investment gains would be taxed.

?He is not clarifying whether the issue of beneficial ownership is there for capital gains,? he told Reuters.

?The way the law is worded, if capital gains issues are not clarified then FII capital gains may come under scrutiny,? he said referring to foreign institutional investors.

Several measures for foreign investors were unveiled for the 2013/14 fiscal year starting in April, including simplifying a cumbersome registration process and allowing investments in corporate bonds and government securities to be used as collateral to meet margin requirements.

Reuters

However, the measures on their own were seen as unlikely to significantly boost foreign inflows at a time when India needs capital flows to plug a current account deficit that hit a record high in the quarter ended in September.

?Easing the registration process for foreign investors is a facilitator, but the game changer would have been a withholding tax cut across the board, which would have helped the current account deficit and the development of the onshore debt market,? said Jayesh Mehta, Managing Director and Country Treasurer at Bank of America.

The main announcement for foreign investors was the simplification of the complicated ?Know Your Customer? rules.

Finance Minister P. Chidambaram, who met foreign investors last month as part of a roadshow, said the country would consolidate the current system of mandating different registration rules for different types of investors. However, the government did not announce a cut in the withholding tax imposed on income from government and corporate debt investments and deducted at source that can now reach up to 20 percent.

In another critical move, the FM said he intends to implement an international standard for classifying FII and foreign direct investment (FDI) wherein those investors holding over 10 per cent stake in a company would be classified as FDI and those up to 10 per cent would be FIIs.

With inputs from Reuters

Source: http://www.firstpost.com/investing/did-budget-2013-target-tax-treaties-fms-silence-confuses-foreign-investors-644529.html

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