The India-Mauritius DTA: Investor sentiment rocked once again

By Anil Gujadhur

The history of Mauritius’ Double Tax Avoidance Treaty (DTA) with India is chequered by a series of uncertainties since after 2000. Yet, the DTA has been a major instrument for channelling huge amounts of investments into India, especially after 1991, and for creating the scope of Mauritius’ global business sector. From 1983, when the DTA was signed up, to 1991, it was barely put to productive use. However, it drew adverse opinion in India once it started contributing effectively and significantly to the framework of investment cooperation between the two countries.

A Circular (Number 789 of 2000) was issued by India’s Central Board of Direct Taxes (CBDT) in 2000. It stated that a tax residency certificate (TRC) issued by the Mauritian authorities to the effect that a person investing in India was resident in Mauritius would be sufficient evidence to determine benefits to be derived by such a person under the DTA. The CBDT Circular of 2000 was however challenged by a lobby group before the Supreme Court of India for giving blanket recognition to all transactions undertaken within the framework of the DTA. There were public manifestations in India, accompanied by some amount of hostile press coverage against the DTA, the more so as the Mauritius route for investing into India under the DTA appeared to have gained worldwide investor adherence. Finally, the court decided that there was nothing wrong with the legality of the Circular. Matters did not come to a rest after this. There was a continuing noise that new fiscal rules were under way in India the effect of which would be to supersede the DTA and thus deny the benefits conferred upon investors into India under the DTA.

Matters came to a head in 2012. The Indian budget of 2012 introduced a new measure known as the General Anti Avoidance Rules (GAAR). The implication of GAAR was that tax officials in India could use their own discretion to allow or disallow a benefit already conferred by the DTA. Thus, the TRCs issued by the Mauritian authorities would be called into question at the discretion of Indian tax officials. Investors who had been going into India from Mauritius were thus put into a situation of deep uncertainty as to whether they would be allowed expected benefits under the DTA or whether they might get caught up instead in a bureaucratic tangle. Add to this talk of retroactivity of assessments which came along, and you have a better grasp of the pandemonium that was being unleashed. The confidence of investors and foreign institutional investors was sapped at once by this decision. They reacted sharply by withdrawing. Markets went tumbling down.

It was in this continuing unstable market condition that the Indian Prime Minister set up the Paratha Shome Committee late last year to review and report on the GAAR issue. The Committee recommended that the GAAR be put forward to a future date three years’ hence to give enough time for the tax authority in India to train up and familiarize itself with the operation of the GAAR mechanism. It also laid down specific grounds on which a widely constituted GAAR body headed by a retired judge could examine particular cases, i.e., individual cases to be examined under the GAAR would be the exception rather than the rule. Since the GAAR mechanism was to come in place three years after, the effect once again was to calm down the frayed feelings of investors.

Shaking up the markets once again

As if all this was not enough, it was left to the budget of February 2013 to shake up the markets once again. The Indian budget 2013 was delivered on 28^th February last. After the widespread disturbance caused by the proposed introduction of GAAR last year and assurances given in the wake of the Shome Committee Report which followed, few were expecting this year’s budget to put the markets into jitters once again. Yet, this is what actually happened after the 2013 budget.

The reason for this was a statement made by the Indian Finance Minister in the budget speech to the effect that sections 90 and 90A of the Indian Income Tax Act will be amended to “provide that submission of a Tax Residency Certificate is a necessary but not a sufficient condition for claiming benefits” under Double Tax Avoidance agreements. The markets immediately went down on fears that the existing understandings and assurances given last year about the application of the India-Mauritius Double Taxation Avoidance treaty were once again being cast in doubt.

In the circumstances, the Indian Finance ministry came out to explain the “clumsy wording” in the budget speech giving rise to the confusion. It stated that whereas in the case of Mauritius, the tax residency certificate will be evidence still of both residency and beneficial ownership of investments going into India (as established by a Circular No 798 of 2000 issued by the Central Board of Direct Taxes), the intention as regards other treaty countries was that the element of beneficial ownership in their case will be determined by what is specified in their respective DTAs. In the latter case, tax will be applicable depending on whether the beneficial owner is deemed (by the Indian tax authorities) to be a resident or non-resident of the DTA country. This clarification started reassuring markets, but it was clear that the original budget statement had created a sentiment of enduring unease among investors nevertheless.

The latter started believing that the said amendments to the Income Tax Act looked like GAAR being introduced earlier than scheduled through the backdoor. Even as assurances were being given, on the one hand, that the Mauritian TRC was not being targeted by the statement made in the latest budget, the Indian Ministry of Finance stated that discussions were going on at the level of the India-Mauritius Joint Working Group to re-visit the India-Mauritius DTA. Without going too far, one could interpret this to mean that there were certain reservations concerning the clauses of the DTA which needed to be sorted out before long. This was the latest in the series.

Nobody in his senses would agree that all this continuing tumult for over one decade makes good business sense for the two countries.

What exactly makes the users of the DTA choose the Mauritius route? By channelling their investments into India through Mauritius, investors do not have to pay a tax of 15% on short-term capital gains on listed shares and a 10% tax on long-term capital gains on unlisted securities. There are no capital gains taxes in Mauritius, which means that investors are thereby minimizing their tax liability by not going directly to India. Investors do this kind of tax minimization all over the planet. There is no hidden sinister motive behind this kind of facilitation.

Because taxes are relatively low in Mauritius, there is a tendency in some places to smear its good standing by pronouncing it to be a “tax haven”. There is no substance to prove this. The decision to have a low tax regime in Mauritius was taken in 1983, way back before the use of the DTA with India became active and much before “global business” became a significant area of our economic activity. We had extended the welfare state to such an extent in the preceding period that the existing regime of high and rising taxes to support this had stunted tax buoyancy in Mauritius in the period up to 1982. The Minister who took office in late 1983 decided that taxes and tariffs needed to be de-escalated sharply as a new approach to policy. This approach has been followed since then by all governments. We are not like continental countries that support their expansive (and, at times, distorted) welfare systems with high direct tax rates (average direct personal tax rates: 39.6% in US, 48% in Germany, 45% in UK).

A recurring element of irritation

As far as Mauritius is concerned, there is no harm to keep incentivising international investors to direct their investments into India. It’s nothing different from what Monaco, Luxembourg and Switzerland are doing for continental Europe; Hong Kong and Singapore for the Far East; Jersey, Guernsey, the Isle of Man, etc., for Britain and Europe; British Virgin Islands, the Caymans and the Caribbean in the case of the USA. All of these have been at it for much, much longer than Mauritius has been towards India. Sustaining the flow of FDI can best be done by eliminating the recurring element of irritation and annoyance that has been the lot of investors over the years with respect to the DTA with India. If some bits of information have to be exchanged between the two countries to keep heads cool, why not? There is no reason why Mauritius cannot also do it two-way: be a conduit for FDI into India and also for Indian FDI going to other countries. The use of the DTA would thereby be consolidated to the benefit of the two countries.

It is not in the interest of Mauritius to damage a relationship that has been benefiting both countries. It is however in its interest that instability and uncertainty are not thrown into the operation of the treaty from time to time. Thanks to the DTA, a lot of international investment funds have been going into infrastructure in India. Stock markets have remained liquid and this has imparted the confidence to support the flux of further investments into the country. Such investments are also the ingredients that will help India go out to invest in other places and become a part of the bigger world like China. India can foster a better image for itself internationally by dealing diplomatically when issues arise rather than by using a unilateral decision force into an operating mechanism to brush aside all that seemingly stands in its way and thus hit investor confidence overall. Here, there come into play considerations that go beyond sheer revenue collection; they set the foundation for expanding the scope of an internationally connected and efficient economy on the basis of sustained mutual trust.

A sounder platform for exchanging sensitive information is required to smooth relations; this can easily be instituted without sapping investor confidence from time to time. In the world of the future, countries will cooperate to share common tax sources instead of neutralizing each other – and the source itself – by projecting negative confrontational images of themselves on the global stage. They will not act to destroy structures in place which hold out a longer term promise of growth… for a few more dollars in the immediate. A bigger vision of this sort should help both countries consolidate their ties and their growth rather than for them to be seen to be pitched up against each other from time to time.

* Published in print edition on 8 March 2013