Home > politics > policy > What the India-Mauritius deal means for private equity

Mumbai: India’s move to tax capital gains on investments channelled through Mauritius and Singapore is likely to make these countries less attractive to foreign funds investing in India, although such investments may accelerate in the current fiscal before the tax is implemented.

On Tuesday, the tax department said that India will get the right to tax capital gains on investments channelled through Mauritius under an amended tax treaty it has signed with the island republic.

The amendment to the 1983 India-Mauritius treaty will come into force on 1 April 2017 and will also apply to the India-Singapore treaty, shutting two lucrative investment routes preferred by foreign investors. The India-Singapore treaty links the capital gains tax regime to that provided in the India-Mauritius treaty.

The move, aimed at curbing tax evasion, will also impact to some extent, long-term investors such as private equity (PE) and venture capital (VC) funds, which invested almost $20 billion in India in 2015.

These investors will now be liable to pay 10% capital gains tax on profits made from sale of unlisted securities.

“It will of course add to the cost of transactions as we will have to factor the 10% tax impact in our gains," said a legal and compliance executive at a foreign VC fund investing in India, requesting anonymity as he is not authorized to speak to reporters.

Overall, funds will have to ensure that they deliver better returns to offset the tax impact, he added.

“Mauritius and Singapore will not remain very attractive for foreign funds who invest through this route solely for tax saving purposes. Overall, the move is a negative one for the PE industry, though there are some areas which may be favourable," said Prakash Nene, partner at PE firm Multiples Alternate Asset Management Pvt. Ltd.

In the short term, the move has the potential to accelerate investment decisions, before the tax impact kicks in, said experts.

The changes in the treaty also have the potential to impact some of the investment decisions for foreign funds in the near term, said Vinayak Burman, founding partner at Mumbai-based law firm Vertices Partners.

“There is an exemption period in the amended treaty. So, the capital gains tax will become applicable on gains arising from the sale of shares of an Indian resident company, which are acquired after 1 April 2017 and thus, to that extent, clarifies that this will not have a retroactive effect. Any investment decisions that are on the fence, could potentially see some acceleration," said Burman.

Also, given that Mauritius and Singapore have been the preferred route for most PE and VC funds, the tax impact could also see some of the heavily foreign capital dependent businesses shift base to avoid tax implications for their investors. Some of the large e-commerce firms such as Flipkart, Quikr and ShopClues already have their parent entities registered overseas.

“This move could, to some extent, accelerate the flipping of corporate holding structures. So now, instead of investing via Mauritius or Singapore, creating a Singaporean entity as the parent holding company could see more traction again," said Burman, adding that an offshore registered entity also offers other advantages such as better access to a broader geographic market as well as capital.

However, industry insiders do not expect the move to result in a flight of capital.

“Tax is not the primary driver for PE and VC investments and so, to that extent, we do not see a situation of flight of capital. India continues to remain an attractive investment destination for foreign investors," said the foreign VC executive cited above.

Globally too, governments are moving towards reducing tax havens, he added.

Pooja Sarkar contributed to the story.

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