No small changehttps://indianexpress.com/article/opinion/editorials/tax-treaty-arun-jaitley-mauritius-india-capital-gain-no-small-change-2795753/

No small change

Amended tax treaty with Mauritius promises more transparency, reduced evasion, shored up revenues.

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Finance Minister Arun Jaitley. PTI Photo

The government’s decision to amend the tax treaty with Mauritius, which from April 1 2017, will allow India to tax capitals gains arising from the sale of shares of an Indian resident company, is welcome. Under the original bilateral agreement between the two nations, capital gains from the sale of securities can only be taxed in Mauritius. However, the gains from the sale of shares held for less than 12 months are treated as short-term capital gains within India and attract a 15 per cent short-term capital gains tax. This has created an anomaly, thanks to a double taxation avoidance agreement with Mauritius, that meant business entities operating out of Mauritius escaped even paying short-term capital gains tax on share transfers. This has been exploited even by domestic Indian investors, who have resorted to routing their equity investments via Mauritius to avoid the tax liability at home.

Under the amended treaty, the government has provided a level playing field for domestic and foreign investors, and the incentive for an Indian investor to channel investments via Mauritius has been neutralised. In fact, the amended tax regime will also apply to capital gains of Singapore-based companies, due to the direct linkage of the Singapore double taxation avoidance agreement (DTAA) clause with the Mauritius DTAA. These two locations account for roughly two-thirds of all investments, using P-notes, into India. P-notes are financial instruments used by overseas investors who wish to invest in India’s capital markets without registering themselves with the Securities and Exchange Board of India. The government’s move coincides with the global outrage against tax avoidance in the wake of the Panama Papers revelations. With the tax arbitrage possibility doused, it can be expected that foreign portfolio investment data would improve in quality as it is likely to reflect faith in the strength of India’s macroeconomic fundamentals.

Notably, instead of a sudden and retrospective change, the government has chosen to give ample time for all investors to adjust. The amended tax provisions will come into effect 11 months later and existing investors, who acquire shares before April 1 2017 will not be taxed. Further, firms in Mauritius and Singapore will be taxed at a concessional rate for the first two years, until March 31 2019, to help them transition to the new regime. This amendment follows on Finance Minister Arun Jaitley’s 2016-17 budget announcement on implementation of the general anti-avoidance rules (GAAR) from April 1 2017. These rules are intended to check tax avoidance for investments by entities based mainly in overseas tax havens. Overall, the tax amendment will improve transparency, shore up revenues and reduce tax evasion in the long term.