India delays tax rule changes

Overseas investors can breathe a sigh of relief now that India’s deferred its controversial tax proposal for one year. The move is calculated to buy the government time to better evaluate the general anti-avoidance rule (GAAR) and stem the exodus of funds from its markets.

The proposal’s directed at tax evaders, is part of the Finance Bill 2012 and, if enacted, will give India sweeping powers to retroactively tax investment funds routed to India via Mauritius, which makes up about 40% of all foreign direct investment to India.

The deferral has mollified overseas investors even though most believe the rules will ultimately be revised rather than repealed.

“This is a short-term relief; they haven’t done away with the rules,” said Vishal Chetan, vice-president of finance at Excel Funds. “All that says is that they will amend the rules, not get rid of them.”

Finance minister Pranab Mukherjee told the lower house of Parliament Monday that the government intends to “provide more time to both the taxpayer and tax administration,” and therefore, proposes to “defer the applicability of GAAR provisions.”

The government also decided to place the burden of proving tax evasion on the authorities, rather than on overseas investors as initially proposed.

“That’s one thing they have already rolled back, [but] there is no immediate clarification on the retrospective rule,” said Chetan. “However, the finance minister has clearly said that the amendment to the tax rules will not override any double taxation avoidance treaties which India has with [82] countries, [including Mauritius].”

Chetan does expect to see changes made to the “retrospective implementation rule,” in a way that “it cannot be applied indiscriminately.”

That said, proposed new tax rules coupled with increased investing costs are unlikely to make India less attractive to overseas investors, says Chetan. “India still remains very attractive because it’s a growing country with domestic consumption, the middle class is coming up really fast, and China is slowing down,” he said. “Foreign investors and American businesses are still going to go there.” Interestingly, some experts view currency volatility as a bigger worry for foreign investors than GAAR.

Mumbai-based Rashesh Shah, chairman, Edelweiss Financial Services, was quoted in local media as saying that GAAR is an accepted practice all over the world and, therefore, is not an issue.

“I don’t think anybody decides to invest in markets based on taxation,” he said. “I would say volatility in the rupee impacts foreign investors more than GAAR.”