The India-Mauritius Double Taxation Avoidance Agreement

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August 26,2016
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India’s Agreement for avoidance of double taxation and prevention of fiscal evasion with Mauritius that allowed investors to get away by paying no capital gains tax on their investments in to India has been a cause of major concern for the Indian Government. The further misuse of this treaty for round-tripping money through establishing shell companies resident of Mauritius was also a major apprehension. The issue of the Treaty abuse until now was being addressed by the Indian government by tightening the rules in the Indian tax law for granting tax treaty benefits. In 2012, the government codified certain anti-abuse rules and announced that a General Anti-Avoidance Rule (GAAR) would be introduced into the Indian tax law, whose implementation is now deferred to 1st April, 2017. The GAAR will allow the tax authorities to deny tax treaty benefits if they find that a transaction was entered into with the sole objective of tax avoidance. The government further introduced a requirement for non-residents to furnish a tax residence certificate, along with a self-declaration confirming certain basic information, as a minimum threshold to claim tax treaty benefits.The government also has introduced domestic rules that permit it to designate a country or territory as “blacklisted” due to a lack of an effective exchange of information process; this designation has a number of consequences and may limit the availability of tax treaty benefits. Thus far, the government has identified one country (Cyprus) as a blacklisted country under these provisions. The government has now clarified that it intends to implement the GAAR provisions as a part of a comprehensive regime to conform to the Organization for Economic Co-operation and Development’s [OECD] Base Erosion and Profit Shifting [BEPS] report Action 6 pertaining to Double Non-Taxation. The India-Mauritius Tax treaty provided for taxing capital gains tax in the country where the investor was resident. For instance, if a Mauritian company invested in an Indian company, it had to pay capital gains tax in Mauritius. Since Mauritius does not tax capital gains, the companies evaded this tax altogether. India and Mauritius signed the Protocol for amendment of the Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and Capital Gains on 10th May,2016.The change to the protocol now states that capital gains tax arising from an investment into an Indian company will be taxed in India in a phased manner. Investments from Mauritius will therefore be brought into the capitals gains tax net. Revision of the Protocol In the older version of the tax treaty, only Mauritius had the right to tax capital gains by companies investing in India from that country. However, tax on capital gains was nearly zero in Mauritius, making it an attractive destination for investors looking to invest in India. The revision to the protocol now gets India the right to tax capital gains arising from transfer of shares of Indian resident companies. The amendment clearly states that all investments made before 1 April 2017 will not be liable to be taxed in India. This means that even if investors who have brought shares in Indian companies before 1 April 2017 decide to sell these shares after this date, the capital gains accruing to them will not be taxed in India. For investments made after 1 April 2017, the new version of the treaty provides for a tax concession for two years in the transition phase. Investors will have to pay only 50% of the applicable capital gains tax till 2018-19. The government also said that shares acquired between April 1, 2017 and March 31, 2019 will attract capital gains tax at a 50% discount on the domestic tax rate — i.e., at 7.5% for listed equities and 20% for unlisted ones. These conditions, spelled out in the new Limitation of Benefit (LoB) clause in the India-Mauritius tax treaty, make investments of at least Rs 27 lakhs by the Company in the preceeding one year mandatory in the island nation to qualify for the lower rate. The full tax impact of the protocol will fall on investments beginning April 1, 2019, when capital gains will attract tax at the full domestic rates of 15% and 40%. Mauritius will no longer have the right to charge the capital gains tax. The possible Implications Increased Flow of Funds into India : Some investors who are bullish on India growth story may advance their plans and invest before April 1, 2017 in order to save capital gain tax on liquidating their investment , thus, raising the Inflow levels for the country. 2. Phasing out of Double Non-Taxation : In the older version of the tax treaty, only Mauritius had the right to tax capital gains by companies investing in India from that country. However, tax on capital gains was nearly zero in Mauritius, making it an attractive destination for investors looking to invest in India. This was virtually a Double Non-Taxation situation on severance of the Investment in India from Mauritius. Now, India gets the right to tax capital gains arising from transfer of shares of Indian resident companies owned by Residents of Mauritius. 3. Impact on India-Singapore Treaty : The 2005 DTAA with Singapore provides that the capital gains exemption would remain in force only till the time Mauritius Tax Treaty provides for capital gains exemption on alienation of shares. The government will now have to amend the treaty with Singapore. 4. Reduction of Volatility in the Market : This revised protocol is also expected to discourage speculators and non-serious investors, and thereby reduce volatility in the market. Tax Impact : The protocol would tackle issues of round-tripping of funds to India from Mauritius, curb revenue loss to government of India, streamline the flow of investment to India, and stimulate the flow of exchange of information between India and Mauritius. With this major step already taken, India will now, also try renegotiating the tax treaties with Singapore and Cyprus.The government has done well in implementing the new regime in a staggered manner to avoid big short term shocks. India is going forward while protecting its tax base, conforming to the recommendations of BEPS report. India is ensuring certainty in tax measures for foreign investors as this protocol change will not have any retroactive effect. This would also help India to be seen as a maturing economy with respect to rationalization of taxation pertaining to Income arising from foreign direct investment, thus ensuring the quality of inward capital flows by allowing bona-fide long term investors in India.

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