Will new tax treaty with Mauritius turn India into a fund management hub?
The new tax treaty between India and Mauritius may achieve what last year’s budget tried to do, albeit unsuccessfully—encourage offshore fund managers to relocate to India, in the process making the country a fund management hub, much like London, Dubai or Singapore.
With the new agreement restoring parity between domestic and foreign investors, offshore fund managers will have no tax incentive to operate from outside India.
The government has been trying to bring offshore fund managers back to India. In the last budget, finance minister Arun Jaitley announced some steps to encourage such fund managers to set up base in India.
“The present taxation structure has an inbuilt incentive for fund managers to operate from offshore locations. To encourage such offshore fund managers to relocate to India, I propose to modify the Permanent Establishment (PE) norms to the effect that mere presence of a fund manager in India would not constitute PE of the offshore funds resulting in adverse tax consequences,” he said in the budget speech.
However, the fine print of that proposal contained certain clauses that dissuaded such fund managers from moving to India. To correct this, earlier this year, the tax department issued clarifications and also provided for a pre-approval mechanism under which a fund could seek prior approval from the tax department and avail exemption under Section 9A of the Income Tax Act.
The tax department on Monday also notified the creation of the committee which will grant such approvals to fund managers.
But analysts say that the changes in the India-Mauritius tax treaty announced earlier this month may provide the much-needed push for these fund managers to move to India.
“All the entities coming in from Mauritius were India-focused funds. They were not moving to India because they would lose the benefit of the India-Mauritius treaty,” said Suresh Swamy, partner, financial services tax, PwC India. “With the capital gains exemption being phased out in the India-Mauritius tax treaty, there is no upside for these fund managers to be based outside India. So fund managers managing India-focused funds and who want to be close to the market they invest in will shift base to India,” he said.
At present, investors coming in from Mauritius do not have to pay capital gains tax in India. But from 1 April 2017, India gets the right to tax capital gains from share transactions in Indian companies, though it will levy the tax at a discounted rate till 2019. This means that portfolio investors will have to pay short-term capital gains tax of 15% from 1 April 2019.
“In respect of India-focused funds, there has always been anxiety that Indian tax authorities will try to treat an offshore fund’s income as business income if the fund management company is located in India. This would mean that capital gains tax, which was tax-exempt under India-Mauritius DTAA (Double Taxation Avoidance Agreement), would get taxed as business income in India. To allay such fears, the government has introduced “safe harbour” rules where under the offshore funds will not be subject to business income taxation in India even if the fund management company is located in India, subject to fulfilment of certain conditions,” said Sudhir Kapadia, national tax leader at EY.
“Going forward, as it will be a level-playing field, the offshore fund can be located at any appropriate jurisdiction outside India but the fund management activities can take place in India for India-focused funds. This will make the process and working of such funds much simpler than is the case now,” he added.
