Foreign institutional investors (FIIs) from countries with which India has double taxation avoidance agreements (DTAAs) that specifically exempt them from capital gains tax may escape minimum alternate tax (MAT) demands from the income tax department.
"Wherever India has a double taxation avoidance agreement, they will get the treaty benefit. The treaty will be applicable," said Shaktikanta Das, revenue secretary, during a conference call with FIIs to address their concerns on MAT.
"If there is an FII which has made investments from a country with which India has a tax treaty, it can present the facts while giving its reply to the income tax officer. It can explain the point and the tax officer will certainly take it into consideration. The treaty benefit will be applicable in this case," Das said.
FIIs have been at loggerheads from 2007-08 with the tax department on the issue of MAT, and this has affected market sentiment.
India has DTAAs with 88 nations, of which 85 are in force. DTAAs with Mauritius, Singapore, Cyprus, France and the Netherlands exempt funds from capital gains tax in India, while those with the US, the UK and Luxembourg allow India to impose capital gains tax the way it wants to.
FIIs from countries with treaty benefits such as Singapore, Mauritius and the Netherlands have received tax notices making MAT demands.
"This clarification comes as good news for investors that treaty benefits override domestic laws," said Suresh Swamy, partner, PwC.
"In view of our legal position that our treaties override our domestic law, we have been giving treaty benefits independently," said Anita Kapur chairperson of Central Board of Direct Taxes (CBDT).
The top four nations investing in India through the FII route - the US, Singapore, Mauritius and Luxembourg - have DTAAs with India. Till May 2014, according to the Securities and Exchange Board of India (Sebi), of the total FII flow of about Rs 17 lakh crore, that from the US stood at Rs 5.29 lakh crore, Mauritius Rs 3.98 lakh crore and Singapore Rs 2.02 lakh crore.
"It is a well-established principle of tax laws that treaty provisions should override domestic tax provisions if they are more beneficial to the taxpayer. Thus, the relevant treaty provisions should be taken into account while determining the taxability of foreign investors. This will also avoid unnecessary litigation," said Vikas Vasal, partner, KPMG. Foreign brokerage firm CLSA reckons FII flows from the US accounted for 32 per cent of the overall amount till February 2015, Mauritius 22 per cent, Singapore nine per cent, Luxembourg nine per cent and the UK five per cent.
Despite the DTAA exemption, 46 per cent of the flows (from the US, the UK and Luxembourg) will face MAT demands.
FIIs are gearing up to approach dispute resolution panels and Commissioner of Income Tax (Appeals) against the tax demand. The income tax department has been citing an Authority for Advance Rulings, Delhi, judgment in the matter of Castleton Investments, which went against the tax assessee, as the reason behind the MAT notices.
"The fact that Castleton came from Mauritius did not impact the ruling on the legal issue [of] whether MAT applies to foreign companies," Kapur said.
There have been three other rulings on MAT that went in favour of FIIs. In a case related to the Bank of Tokyo-Mitsubishi, a Delhi income tax tribunal ruled MAT was only applicable on domestic companies, not foreign ones. In another ruling related to Platinum Asset Management in 2012, the Mumbai income tax appellate tribunal ruled FIIs were not liable to pay MAT.
According to an analysis by Business Standard, after MAT was imposed, foreign investment in debt, equity and derivatives in India through participatory notes touched a seven-year high of Rs 2.72 lakh crore in March. Participatory notes are offshore derivative instruments used to invest in India by foreign investors not registered with the Sebi. According to current practice, those investing through participatory notes are not subjected to MAT.