Mauritius has been a popular location for intermediary holding companies for multinationals and others investing in India. This popularity is due to several factors including the capital gains tax exemption available under the India-Mauritius Tax Treaty. The treaty, which had underpinned the emergence of Mauritius as the dominant channel for foreign direct investment into India, has been under constant scrutiny by Indian tax authorities as a result of alleged abuse by investors.

Relief in reverse?

In the past, a circular issued by the Central Board of Direct Taxes that allows tax treaty benefits based on a valid Tax Residency Certificate (TRC) of Mauritius, and the Supreme Court ruling (in the case of Azadi Bachao Andolan 263 ITR 706) upholding the validity of the circular, had provided a reasonable level of certainty to taxpayers. With a series of high-profile court rulings, including one from the Authority for Advance Rulings (in the case of E*Trade Mauritius Ltd 324 ITR 1, where it was observed that the legal structure of the Mauritius company cannot be disregarded and legitimate tax planning was permissible), it seemed as if the status quo was restored on the use of the tax treaty.

However, recent developments indicate a renewed attempt by the tax authority to challenge the use of Mauritius structures. The authority's approach has been to make a detailed inquiry into the facts, documentation and conduct of the parties to question the legal/ beneficial ownership of the shares by the Mauritius company, and thereafter determine the availability of the benefits under the tax treaty. Further, in a recent ruling, the Authority for Advance Rulings held that the buy-back of shares held by a Mauritius company was a tax avoidance device, as the buy-back by the Indian company was in lieu of distribution of dividends. The buy-back was disregarded and treated as distribution of dividend chargeable to dividend distribution tax (DDT) in India, both under Indian tax law as well as the tax treaty. Media reports on the possible renegotiation of the tax treaty and the introduction of a General Anti-Avoidance Rule (GAAR) have aggravated the challenges and risks. These have collectively caused a lot of uncertainty.

The road ahead

Over the last few years, according to media reports, the Government has sought to review the tax treaty. Tax authorities are hoping that Mauritius would stiffen the requirement for tax exemption under the treaty. Interestingly, Mauritius had added to its treaty with China a protocol (in force from January 2007) under which capital gains arising in Mauritius on the sale of Chinese assets are subject to tax in China in some circumstances.

While one can only guess what lies ahead in the use of the India-Mauritius tax treaty, drawing from media reports, it would appear that the treaty could be brought on par with the tax treaty with Singapore.

The India-Singapore tax treaty had additional clauses to check treaty abuse. It is interesting to note that the capital gains tax exemption available under the India-Singapore tax treaty is linked to the India-Mauritius tax treaty, and is available only so long as the India-Mauritius tax treaty provides that exemption.

It almost appears as if tax professionals and taxpayers will have to gaze into a crystal ball to make predictions on the future of Mauritius structures in India! Here many find themselves in deeper waters, and they look forward to greater clarity and certainty on the issue.

(Kamal Bafna, Senior Tax Professional, Ernst & Young also contributed to the article)

Vidya Nagarajan is Tax Partner, Ernst & Young

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