The Foreign Investment Promotion Board seems to have laid to rest the controversy surrounding FDI investments routed via Mauritius.
In its last meeting, FIPB gave nod to several FDI proposals rejecting the Revenue Department's argument of treaty shopping and round tripping. The Board unanimously agreed that FDI proposals should not be held up unless there is concrete evidence to prove loss of revenue.
Interestingly, this is not the first time FIPB has overruled the Revenue Department's objection on 'round tripping and treaty misuse'. The Board's move is significant in wake of the fact that lately, the Revenue Department has been holding back FDI proposals for treaty shopping and round tripping from Mauritius. Shrugging off the Revenue Department's argument, the Board held that in the absence of specific concerns, FDI proposals cannot be rejected.
Debate over India-Mauritius treaty
The controversy surrounding alleged misuse of India-Mauritius tax treaty is not new and dates to mid-90's when India was in the midst of experiencing large chunks of FDI. The primary reason has been the beneficial provisions of India-Mauritius treaty, coupled with the 1992 offshore tax regime in Mauritius, which exempts offshore Mauritius resident company from levy of tax in Mauritius.
The beneficial provisions of the treaty exempt capital gains tax in India on sale of shares in Indian companies. Further, absence of limitation of benefit (LOB) clause under the treaty makes it most attractive. The LOB clause is like a "look through" provision in tax treaties to ensure that only residents of treaty countries who are beneficiaries avail such benefits.
The Apex court interpreting the law put to rest tax controversy in the landmark decision of Azadi Bachao (2003). The Apex court held that a Mauritius resident holding a valid Tax Residency Certificate (issued by the regulators in Mauritius) would be eligible for benefits under the India-Mauritius treaty in absence of LOB clause.
However, the debate has failed to settle down despite the Apex court ruling as the Revenue has been examining investments from Mauritius with toothcomb and has sought to deny beneficial tax treatment on the pretext of use of Mauritius as a 'tax haven'.
OECD approach to 'tax haven'
It is important to mention the Organization of Economic Co-operation and Development (OECD)'s report on analysis of alleged 'harmful tax practices' adopted by jurisdictions identified by OECD as 'tax havens'. In its 2000 report on "Progress in Identifying and Eliminating Harmful Tax practices", the OECD identified 35 jurisdictions that were found to meet the 'tax haven' criteria.
Notably, Mauritius was one of the six jurisdictions not categorised as a 'tax haven' as it had, by way of a commitment letter to the OECD Board, undertaken to eliminate harmful practices by encouraging transparency, effective exchange of information, and discouraging practices of 'no substantial activities' in Mauritius. In subsequent reports, Mauritius has been listed as country willing and committed to co-operate with OECD in eliminating 'harmful tax practices'.
Clearly, OECD has recognised commitment and endeavors of Mauritius authorities towards overcoming 'harmful tax practices' by building measures for ensuring transparency and exchange of information with treaty countries. As an attempt in this direction, the regulators in Mauritius have prescribed stringent conditions for grant of Tax Residency Certificate including annual requirement for renewal of such certificate.
Mauritius has also undertaken legislative changes, including setting up of Financial Services Commission (FSC) to regulate offshore companies. Mauritius has also cooperated with India in exchange of information to track tax defaulters.
Revenue department's argument ill-founded
Given the apex court's decision and the OECD approach to Mauritius as an investment jurisdiction, the Revenue department's approach seems inconsistent and ad hoc. . From time to time, the Revenue authorities have contended that since India is not a member of OECD, the guidance should not be binding insofar adjudicating matters relating to taxation in India.
The reservations and observations made in the 2008 OECD report on 'Recent changes /update to Model Tax Convention' is an example of how India is not aligning to the OECD approach. Such nonaligment to the OECD approach could lead to complexities including economic double taxation and defeat treaty purpose.
FIPB's move could not have come at a more opportune moment given the current economic crisis and fading investor confidence. Yet, the most pertinent question is whether the FIPB's rejection of 'treaty shopping' heralds good news for Mauritius investors, when it comes to granting beneficial tax treatment under the treaty. I guess, the regulators' view would not be binding on the fiscal authorities!
The author is a Partner with BMR & Associates and views are personal.