PE investors seek exemptions for start-ups' overseas holding companies

Holding companies are usually formed to enable start-ups to list abroad or to protect their IPRs

Some of the top private equity (PE) investors met finance ministry officials last week seeking relaxations for start-ups to create overseas holding company structures.

 

Start-ups often prefer to use such structures, either to list overseas, or to protect their intellectual property rights (IPRs).  According to sources, PE investors are concerned that creating such structures could attract several penalties after the advent of new tax rules such as General Anti-Avoidance Rules (GAAR) and Place of Effective Management (POEM).

 

However, the government is learnt to be of the view that any relaxation in these norms could lead to misuse and could also dilute the effectiveness of these rules.

 

“The government has clearly said it is not inclined to relax the rules. If it starts providing relaxations, a lot of market players will come up with some reason to seek exemption. This would undermine the whole premise of the so-called anti-abuse provisions,” said a tax consultant.

 

According to the current tax norms, creating a holding company structure in a foreign jurisdiction without commercial substance could attract penalty under GAAR. As the boards of these companies are located in India and the business decisions are also taken from India, it could attract POEM regulations.

 

Further, once the holding structure is created and existing investors sell shares, such a transaction would also attract taxation under indirect transfer norms as the underlying securities are Indian.

 

The current capital market norms do not permit an Indian company to list abroad directly. However, they can tap foreign markets by issuing depository receipts such as American Depository Receipts (ADRs). In order to circumvent these rules, a few new-age companies have managed to get listed abroad by creating holding company structures abroad.

 

In the past, companies including MakeMyTrip, Videocon DTH and Genpact, had created similar structures.

 

 “An Indian company cannot directly list its equity shares overseas. The only securities it can list overseas are depository receipts and foreign currency convertible bonds. Those companies, which have listed overseas have done so through offshore holding structures,” said Rohitashwa Prasad, partner, J Sagar Associates. However, under current circumstances, it has become difficult for a company to move its existing shareholding offshore through such structures due to increased tax compliance requirements and FEMA regulations, he said.

 

IPR is another important concern area behind creation of such offshore structures. As intellectual property is one of the most important assets for start-ups, they prefer to be incorporated in a country which has stricter IPR laws than India. Singapore is a popular destination for such purposes.

 

Legal experts say the change in the tax regime has brought about a lot of restrictions on companies in the aspect of creation and maintenance of overseas structures. Earlier, an Indian company could easily change its place of operation overseas or could incorporate its subsidiary abroad without actually violating any rules. This led to increasing misuse of the provisions for tax evasion and money laundering.

 

“Now, if an Indian company has an overseas subsidiary, then it needs to be mindful of POEM, which is a test to determine the residency of foreign companies. GAAR is another provision that may have a role if there is a tax benefit being derived by the Indian parent on routing the investments through overseas subsidiary without commensurate commercial considerations,” said Amit Singhania, partner, Shardul Amarchand Mangaldas.