Masala Bonds spiced up, will it help in stemming rupee fall?

Khaitan & Co

Raising funds through off-shore rupee-denominated bonds, popularly known as ‘Masala Bonds’, has declined in the current fiscal as compared to last year due to various factors.

The factors include the introduction of the requirement of prior approval of Reserve Bank of India (RBI) for issuing such Bonds, and the interest rates being high on such instruments when compared to the interest rates available in the domestic market.

The difference in rates stems from hedging cost being factored into the pricing of Masala Bonds, and hedging being costlier due to depreciation in the Indian rupee.

With a view to contain the Current Account Deficit (CAD) and augment the foreign exchange inflow, the Central government has sought to incentivise low-cost foreign borrowings by Indian companies by issuing Masala Bonds.

Proposed Tax Exemption:

The Central Board of Direct Taxes (CBDT) has notified by a press release the decision to exempt interest payable on Masala Bonds during the period September 17, 2018 to March 31, 2019 from being taxed in India.

The press release clarifies that legislative amendments in this regard shall be proposed in due course and thus, this change will be effective once the income-tax law is appropriately amended.

Currently, interest payable by an Indian company to a non-resident (including a foreign company) on Masala Bonds issued before July 1, 2020 is subject to tax at a concessional rate of 5 percent (plus applicable surcharge, cess).

This is one-fourth of the general tax rate of 20 percent (plus applicable surcharge, cess) for interest paid on foreign currency loans and 40 percent (plus applicable surcharge, cess) for interest paid on rupee loans.

Moreover, offshore transfer of Masala Bonds from one non-resident to another non-resident is also exempt from capital gains tax in India.

Comment:

This is a welcome move which seeks to make investments through Masala Bonds tax neutral for the investor. This is expected to expand Indian businesses’ access to diverse sources of funding through low-cost foreign borrowings.

The proposed tax relief may counter the effects of the depreciating currency, increased hedging costs and place this instrument at the same pricing levels as the domestic instruments.

Other foreign currency external commercial borrowings and rupee-denominated bonds issued to foreign portfolio investors (FPIs) have not been granted the same relief, returns on which shall continue to be taxed at a concessional tax rate of 5 percent (plus applicable surcharge, cess) subject to prescribed conditions.

An express legislative amendment to make the announced relief effective will be eagerly awaited by the stakeholders.

Disclaimer: Manisha Shroff (Partner), Ritu Shaktawat (Associate Partner), Raghav Bajaj (Principal Associate), Khaitan & Co contributed to the article. The views and investment tips expressed by investment expert on moneycontrol.com are his own and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.