I-T seeks review of own order on FIIshttps://indianexpress.com/article/news-archive/web/it-seeks-review-of-own-order-on-fiis/

I-T seeks review of own order on FIIs

Dept writes to Attorney General,return on investment to take a hit in case of review.

The Income-Tax department has decided to seek review of a Supreme Court order that in 2003 upheld the department’s own circular allowing foreign institutional investors (FIIs) claim capital gains tax exemption if they had a certificate of residence from Mauritius.

According to I-T department sources,the Central Board of Direct Taxes has already written to the Attorney General of India to take up the case. “We want to stop the abuse of the India-Mauritius tax treaty. We believe it is time for a review of the 2003 order,” an official told The Indian Express.

The circular 789 of the I-T department was challenged by NGO Azadi Bachao Andolan in Delhi High Court,which had quashed it,requiring the department to tap the higher court. Overturning the Delhi High Court’s order,the apex court was of the view that the former erred on all counts and held the circular valid and efficacious,in a way,justifying a practice termed as treaty shopping the world over.

Department sources said times have changed and the circular issued for enhancing capital inflows has lost its relevance now. “This circular has been a big stumbling block as the department has been unable to identify cases of treaty shopping or round tripping,” an official said. Treaty shopping refers to residents of a third country taking advantage of a fiscal treaty between two jurisdictions.

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If reviewed,it will have major implications for FIIs and the return on investment may fall as much as 30 per cent,tax experts said. Since January 1,2009,FIIs’ net investment in the Indian markets stood at $61.41 billion,with equity alone accounting for $48.90 billion.

Currently,while short-term capital gains arising on transfer of listed equity shares are taxed at 15 per cent,long term capital gains are exempt. In the proposed Direct Tax Code,however,capital gains will be considered as income from ordinary sources and will be taxed at the applicable rate.

Tax experts said a review would clarify India’s stand on cross-border transactions but will dampen the spirit of FIIs. “The Indian corporates will not be impacted since the treaty relates to capital gains. The immediate impact will be on FIIs since their post tax earnings will reduce by almost 30 per cent,” said Amitabh Singh,partner in Ernst & Young. “India will become uncompetitive amongst emerging markets that are targeting FIIs.”

Singh,however,played down the move’s long term impact. “It will be a knee jerk reaction (from FIIs). Over time,they will factor in this concern. Other than that,it will even out things. Now companies will directly invest from their home country,” he said.

In what can be seen as a prelude to this move,the department has already filed a special leave petition (SLP) in the case of one E*Trade Mauritius where the department has stated that the benefits of Indo-Mauritius DTAA (Double Taxation Avoidance Agreement) would not apply to a colourable transaction.

A three-judge bench of the Supreme Court,led by Chief Justice S H Kapadia,has also issued a notice to E*Trade Mauritius on an appeal filed by the income-tax department against the judgment of Authority for Advance Ruling (AAR) in the case of E*Trade Mauritius.

Relying on the Supreme Court decision in the case of Azadi Bachao Andolan,the AAR had held that E*Trade Mauritius was not taxable in India on capital gains arising from share transfer under India-Mauritius DTAA.