The Government has taken the right step in postponing the enforcement of the General Anti Avoidance Rules to 2015-16. Foreign investment flows are critical at this juncture given the precarious state of the country’s external account. India’s current account deficit of $21.8 billion in the June quarter was partially bridged with the help of increased foreign direct investment inflows. The currency too slid to record lows as sentiment towards the entire emerging market equity and debt assets is dampened by fears that reduced liquidity — when the Federal Reserve begins tapering its quantitative easing program — will erode the value of assets. Against this backdrop, this is hardly the time to stir the hornet’s nest by implementing the anti-avoidance rules.

That said, the rules notified do not sacrifice the interest of the Indian exchequer. The fine print reveals that the days when foreign investors were allowed to get away without paying any tax on profits made in India are over. Despite GAAR taking effect only from April 2015, all tax benefits earned after August 2010 will come under scrutiny. As a result, so will foreign institutional investors who are already routing their investments in Indian equity through off-shore tax havens. The government has also not back-tracked from its stance on tax residency certificates being ‘essential but not sufficient’. Brass-plate firms will now have to provide evidence regarding the ultimate owner of the funds. FIIs using tax havens will now have to find an alternate (read: legitimate) investment route to Indian assets.

Leaving a large swathe of foreign investors outside the ambit of GAAR will avoid undue turbulence when the rules are enforced. Transactions where the tax benefit is less than Rs 3 crore in an assessment year are beyond the purview of the law. Again, foreign investors not availing themselves of tax benefits under double tax treaties and foreign residents investing in India through registered FIIs will not be subject to this scrutiny. The Government has also done well to leave investments through participatory notes outside the radar of GAAR since flows through this route have whittled down in recent years. All in all, the amended rules strike a fine balance between the need for foreign investment flows and the legitimate demands of the Indian exchequer.

Related Topics