Ashok Wadhwa of Ambit Capital believes use of the term, 'beneficial ownership' is worrying investors and its context is now key to interpreting what the Finance Ministry intends to do. He also added that Chidambaram's intent seems to continue honouring the Mauritius route.
Foreign investors have been wary of the General Anti Avoidance Rules (GAAR) and other tax regimes which the government proposes to introduce in the years ahead. Finance Minister, P Chidambaram touched upon those issues in the Budget and investors seem to be slightly apprehensive about the recent developments.
Ashok Wadhwa of Ambit Capital believes use of the term, 'beneficial ownership' is worrying investors and its context is now key to interpreting what the Finance Ministry intends to do. He also added that Chidambaram's intent seems to continue honouring the Mauritius route. Besides, the Budget clarifications have created uncertainty on P-Notes, feels Wadhwa.
"If we read the fine print and the draft of what the legislation seems to say, there is absolutely no doubt that at least the legislation empowers the revenue department to go on a witch-hunt. The biggest concern that FIIs had was we do not want to deal with an uncertainty. We do not want to deal with an implementation or a regime which is relatively opaque in its implementation," he explained.
Wadhwa further stated that additional qualifications may have been slipped in by the revenue department for granting certain benefits to investors.
Siddharth Shah, Partner at Khaitan & Co is of the view that if FIIs are not convinced with the additional qualifications, the Finance Minister may have to drop it and that will be welcomed by investors. He also mentioned that more than 40 pecent of the capital flowing into India comes from Mauritius and therefore, it needs to be kept in mind before arriving at a final decision.
Shah elaborated, "Considering that over close to 40 percent plus of the foreign capital comes through Mauritius and a large chunk of it could be pooled vehicles essentially bringing in third party investors to invest through Mauritius, the beneficial treatment, beneficial ownership issue would always remain thorny."
Here is the edited transcript of the interview on CNBC-TV18.
Q: We spoke yesterday briefly about this but you had a night to study it. Does it look like it is a gray area, which might potentially create problems for foreign institutional investors (FIIs)?
Wadhwa: If we read the fine print and the draft of what the legislation seems to say, there is absolutely no doubt that at least the legislation empowers the revenue department to go on a witch-hunt. I am not saying that it is the intention, I am not saying that that is what the revenue department will do but, in the background of what happened last year, the biggest concern that FIIs had was we do not want to deal with an uncertainty. We do not want to deal with an implementation or a regime which is relatively opaque in its implementation.
So, for sure the legislation empowers the revenue department to carry out investigation to determine whether a taxpayer is or is not entitled to the benefits. Yesterday, while talking to the press the finance minister took great pains to clarify that it is not the intention, that the intention is not to deny the benefit. The intention is to continue granting stability and to honour whatever may have been done without mentioning it in a sense saying Mauritius was there to stay. We know it and we know it is grandfathered.
The problem is that he chose to use the words ‘beneficial ownership’. These words are already there in the current India-Mauritius Treaty. They apply currently for dividend income, interest income but, do not apply for capital gains tax. If his intention was that the words ‘beneficial ownership’ should also apply for the benefit of capital gains tax then you have two question; if there is an FII operating his own account from Mauritius what happens? And I would say that certainly that FII would then be granted the benefit of the treaty because he owns those shares on his own account.
But, if we were to go further and go to P-Notes, which caused a lot of hysterics last year and if one was to go to that point and say, if the context of beneficial ownership was to be applied to P-Notes, would they be entitled to treaty benefits? Then you come to a very difficult answer and it may be completely contrary to what the finance minister seems to have suggested.
I think one thing I would say is that the finance minister, more than all of us, understands law and understands the application of these issues on the larger macro economic situation. So, it seems to be something that has crept in because he kept repeating yesterday that it was not the intention of the government to deny the benefit or to prepone General Anti Avoidance Rules (GAAR) in any form.
So, I would say the intention seems to continue honouring Mauritius but, the legislation first as it reads certainly empowers the revenue department to carry on detailed investigation, which is something investors do not want. Equally, his clarification on beneficial ownership would lead one to believe that P-Notes could be a subject matter of attack but, I am sure that during the course of the day there will be clarifications from the revenue department putting to rest this controversy.
Q: What do you expect to hear, do you expect to hear further details in terms of what else is required aside from a tax residency certificate (TRC) or do you think he will repeal that statement and say that is not what I was referring to, so ignore that part and also with respect to this retrospective stature that was talked about yesterday, is there clarity on whether this will be retrospective or not?
Shah: Let me first start by agreeing to what Ashok mentioned. While the intent is being made clear and in several press statements he has made it clear that this was not the intent most of the investors who have been dealing with India have over a period of time realised that there is always a distance between the cup and the lip. In that sense, whatever the political intent maybe, whether in terms of execution if there is an ambiguity left in the laws that could potentially create an uncertainty and we have seen several of these instances in the past.
To that extent, clearly the language gives kind of a leeway to an assessing officer to question the TRC and granting of benefits to that extent. What we expect, I believe from the Finance Minister is if that intent has to be translated into law the best that one could expect is to delete the additional qualification. However, I have a slightly different perspective here and I don’t know how that is going to be addressed. It is in the backdrop of whether we are talking about general Anti Avoidance Rule (GAAR) and other anti-abuse provisions at some point being implemented when there will have to be some consistency brought in between these provisions to provide enough leverage to the assessing officers in case of anti-abuse structures, to deny the treaty benefits even when a TRC has been obtained.
Obviously, this can be addressed more elegantly by creating a not withstanding clause on the GAAR and which is what has been proposed. But, that could be one other way to look at this whole issue. But, pending GAAR and also the direct taxes code (DTC) which still remains on card as per the statements made, I would think, dropping this additional qualification and bringing some clarity would be most welcome by the markets.
Q: What kind of clarification would you seek exactly from the finance minister because he can do two things; he can go to the extent saying, since my additional clause has created the uncertainty I am going to drop it. So, in the black and white it is erased, removing the confusion or he may say that why are you getting so hassled about it, my intent is not to do, it is not to penalise you or not to harass you. But, then it remains in the realm of intent, which is quite nebulous to put a finger on leaving the door open for harassment from a legal perspective? Which one of it would assuage the sentiment of your investors, you think?
Wadhwa: That leaves a big gap in the minds of the investors. I think the investors trust Mr. Chidambaram and would accept that if he goes on television or on road shows and tells them that that is not the intent and indeed that it is not the intent. I think there are some people who have attributed a quite slippage on a deliberate basis. I do not think that is the case here. I think the intent was not to create the controversy.
Having said that, the investor community just does not rely, trust our regulatory agencies and in particular, the revenue department from doing what is intended versus what empowerment they may have. So, the best way would be to drop that additional language of ‘not sufficient’. But, can he do that? We do not know.
This clause was already a part of the memorandum last year, the explanatory memorandum. But, it was not introduced into the legislative provisions. This year they have moved it from the explanatory memorandum in exactly the same language and put it. So, somebody in the revenue department or part of the Budget exercise has done it with some intention. Albeit, the finance minister’s intentions are very different here.
Therefore, the only other way they can do is to say, remember last year they had come up with a thesis that they would provide a format in which the new tax residency certificate would be issued and that would imply that there were conditions that would be agreed between the two countries. It is quite possible. It is quite possible that they will ask for those additional conditions to satisfy the word sufficient.
So, they could say you have to confirm that you have at least two board members who are residents of Mauritius and you have to confirm that you have an office in Mauritius, you have to confirm that there are board meetings that are held in Mauritius such that an element of substance is created. And if they were to provide that as a part of clarification or rules then that may also be adequate. Although, what will be sufficient would be to drop the line completely.
Q: Many of these foreign institutional investors (FIIs) are clients of yours, how many of these investors you think who come through Mauritius would find it difficult to furnish anything other than a TRC and to prove beneficial ownership or residency, if it came to that?
Shah: I would say a large percentage of the FIIs, other than those which maybe investing on a proprietary account may find it easier as Ashok mentioned, to establish beneficial ownership. However, considering that over close to 40 percent plus of the foreign capital comes through Mauritius and a large chunk of it could be pooled vehicles essentially bringing in third party investors to invest through Mauritius, the beneficial treatment, beneficial ownership issue would always remain thorny.
I just wanted to add here that because even when we looked at the whole indirect transfer issue, the Shome committee had taken great pains to deal with those issues and the intent which was expressed by the Finance Minister at that time was to very clearly exclude the investors in an FII from being subjected to these indirect provisions. I am not sure whether a provision like this would lead to an indirect way of giving a leverage to the assessing officers to question the beneficial ownership and hence, the treaty benefits.
So, that is somewhere a very clear statement to that extent as was made at the time of the committee report being submitted. I think it would probably suffice to give comfort to the investors.