FII-MAT row finds fodder on place of business

Tax department seeks report from FPIs asking if they have a permanent establishment in India

Following the A P Shah Committee recommendations, the income tax Act was amended to give exemption to foreign institutional investors from minimum alternate tax. However, the tax  law did not have clarity on the treatment of foreign portfolio investors (FPIs) if they have a permanent establishment (PE) in India.

This lack of clarity resulted in fresh tax demands. The tax department has sought an explanation from about 10 FPIs whether they have a presence in India.

According to the tax laws, a foreign entity is considered to have a PE if it has a functioning subsidiary, branch office in India or an agent executing sales for them.

In the case of FPIs investing in Indian markets, they execute their trades through a broker or a bank thus, generating sales. In income tax parlance, this is construed as PE presence. However, according to most tax treaties, a broker or any other independent agent would not be construed a PE if such broker is acting in the ordinary course of his business. “Unlike the budgetary amendment effective April 2015, the treatment for past cases could continue to be mired in ambiguities because of the PE examination,” said Rajesh H Gandhi, partner, Deloitte Haskin & Sells.

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• According to tax laws, a foreign entity is considered to have a PE if it has a functioning subsidiary, branch office in India or an agent executing sales for them
• In the case of FPIs investing in Indian markets, they execute trades through a broker or a bank thus, generating sales. In income tax parlance, this is construed as PE presence
• According to most tax treaties, a broker or any other independent agent would not be construed a PE if such broker is acting in the ordinary course of his business

He added that a circular from Central Board of Direct Taxes clarifying those independent agents such as brokers, bankers and custodians cannot be considered as a PE of the FPI would be helpful.

The FPIs have been asked to reply in a fortnight. The department after Diwali would send the draft tax demands based on the explanation given by the FPIs.

According to tax experts, fresh tax demand would open the gates for a whole new set of litigation. “This will open the gates for some more litigation that were put in abeyance after the tax department accepted the A P Shah panel recommendations. One would need to prove whether the trades have been executed by an independent third party or not. The guidelines in treaties aside, there is a visible disconnect between the thinking of the government and income tax officers,” said Riaz Thinga, partner, Walker Chandiok & Co. LLP.

The controversy started in 2014 when the tax department sent tax notices to close to seventy FPIs seeking payment of MAT at the rate of 18.5 per cent. The budget gave relief to FPIs from payment of MAT prospectively.

The tax department then sought payment of tax from FPIs for earlier years going back to seven. All the tax notices were contested in Dispute Resolution Panel (DRP) and High Court. The controversy was put to rest when the government constituted A P Shah panel recommended in the favor of FPIs and the view was accepted by the government.

Earlier in an interview to Business Standard the chief of the panel, A P Shah had stated that FPIs without PE should not be liable to pay MAT. "Naturally as our reasoning is based on this reading of the law. Therefore, a foreign company which doesn't have a PE or a place of business in India will not be liable to pay MAT. We have also indicated the international regime, where broadly the same scheme works," said A P Shah.