India, Mauritius amend tax treaty, capital gains to come under tax net

Revenue Secretary Hasmukh Adhia, in a tweet Tuesday, said the amended tax regime will also apply on capital gains of Singapore-based companies, due to direct linkage of Singapore DTAA clause with Mauritius DTAA (Double Taxation Avoidance Agreement).

“The protocol will tackle the long pending issues of treaty abuse and round tripping of funds attributed to the India-Mauritius treaty, curb revenue loss, prevent double non-taxation, streamline the flow of investment and stimulate the flow of exchange of information between India and Mauritius,” the Ministry statement said.

Under the bilateral agreement between the two nations, capital gains from sale of securities can be taxed only in Mauritius. While gains on sale of shares held for less than 12 months are treated as short-term capital gains and attract a 15 per cent short-term capital gains tax, the gains on sale of shares after holding for 12 months are treated as long-term capital gains (LTCG) and, currently, attract zero tax. Since India has a double taxation avoidance agreement with Mauritius, entities operating out of Mauritius escaped even paying short-term capital gains tax on shares transfers.

To sort this out, India attempted to renegotiate the tax pact with Mauritius over the past few years to check round-tripping of funds and other treaty abuses. Round-tripping involves ferrying money out of one country into another, and getting it back in under the guise of foreign capital.

Under the amended treaty, only those Mauritius-based companies that have a total expenditure of more than Rs 27 lakh in the preceding 12 months will be able to benefit from the tax treaty. Interest income arising in India to Mauritian resident banks will also be subject to 7.5 per cent withholding tax in India in respect of debt claims or loans made after March 31, 2017.

Capital gains on sale or transfer of shares till March 31, 2017 will continue to enjoy benefits of the tax treaty. These amendments will effectively allow India to tax capital gains of Mauritian entities in Indian equity market.

“It will improve transparency in tax matters and will help curb tax evasion and tax avoidance. At the same time, existing investments, i.e. investments made before 1.4.2017 have been grand-fathered and will not be subject to capital gains taxation in India,” the Ministry statement said.

For smooth transition to the new tax regime, the government has said that capital gains will be taxed at 50 per cent of the domestic tax rate in India during the period from April 1, 2017 to March 31, 2019, subject to conditions. The concession of 50 per cent reduction in tax rate during transition period will not be available, if an entity fails the main purpose test and bonafide business test.

A resident is deemed to be a shell/conduit company, if its total expenditure on operations in Mauritius is less than Rs 2,700,000 (Mauritian Rupees 1,500,000) in the immediately preceding 12 months, the Ministry said. Taxation in India at full domestic tax rate will take place from financial year 2019-20 onward.

“The treaty amendment of DTAA with Mauritius brings about a certainty in taxation matters for foreign investors. It reinforces India’s commitment to OECD-BEPS (Base Erosion and Profit Shifting) initiative of stopping ‘double non taxation’ enjoyed by companies,” Adhia said.

The protocol also provides for updation of Exchange of Information Article as per international standard, provision for assistance in collection of taxes, source-based taxation of other income, amongst other changes.

This amendment follows on Finance Minister Arun Jaitley’s announcement in the budget for 2016-17 to implement General Anti-Avoidance Rules (GAAR) from April 1, 2017.

GAAR rules are intended to check tax avoidance for investments by entities based mainly in overseas tax havens.