New Delhi/Mumbai: The National Democratic Alliance (NDA) government said on Tuesday that it would spare foreign portfolio investors (FPIs) from minimum alternate tax (MAT) for the years prior to 1 April 2015, moving to defuse a row with overseas funds concerned about back-dated tax demands.

The move, in line with the recommendations of the A.P. Shah committee, came on a day benchmark equity indices tumbled after a key measure of Chinese factory output fell to the lowest level in three years, rattling stock markets around the world.

Finance minister Arun Jaitley said the government had decided to accept the recommendations—an announcement that will defuse a dispute that threatened to mar India’s image as an investment destination.

Jaitley said the government will introduce clarificatory amendments to the Income Tax (I-T) Act to exempt portfolio investors from MAT in the next session of Parliament.

In addition, the tax department will also issue a circular to its field formations to put on hold all existing demands as well as any new demands.

The government’s acceptance of the Shah committee recommendations should reassure FPIs who have staunchly opposed MAT demands. But uncertainty persists for foreign companies because the Shah panel only provided relief to FPIs, not overseas corporate entities.

“Confidence among investors will be a consequence of this. Having certainty and clarity in the tax laws is an essential function of the government. There was ambiguity on account of various interpretation of the law. The ambiguity needed to be resolved," Jaitley said.

Accordingly, section 115JB of the I-T Act, that details the levy of MAT on companies, will be amended to clarify the inapplicability of MAT provisions to FPIs.

MAT is a tax levied on profit-making entities that don’t pay corporate income tax because of exemptions and incentives.

The tax row started after the I-T department started demanding MAT from foreign investors on capital gains accruing to them from the sale of shares, citing an August 2012 order by the Authority for Advance Rulings (AAR) in the case of Castleton Investment Ltd that MAT is applicable to both domestic and foreign companies.

Foreign investors opposed these notices, arguing that MAT can only be levied on book profits, which they do not maintain in India.

The government appointed the panel headed by Shah, a former Delhi high court chief justice, as questions arose over the NDA’s commitment to ending what Jaitley had described as “tax terrorism" pursued by the previous United Progressive Alliance regime.

“The acceptance of the Shah committee report by the government will be viewed very positively by the foreign investor community and can help to boost sentiment and FII (foreign institutional investor) investment in the stock market. FIIs have been saved from the time and effort of litigating this issue before courts," said Rajesh H. Gandhi, partner, Deloitte Haskins and Sells Llp. “If the scope of the Shah committee was widened to cover all foreign companies, that would have helped to resolve the dispute for non-FIIs as well."

The Shah committee was mandated to examine all related legal provisions and previous judgements to decide if MAT could be levied on foreign investors.

The committee submitted its report to the government in July, but was asked to submit a revised draft after some concerns were raised by the I-T department. The committee submitted a revised draft on 25 August, which was made public on Tuesday.

“With this clarification, the whole issue of levy of MAT will be resolved in favour of the taxpayer. FIIs who had approached court may now consider withdrawing their writ petitions filed earlier. This development will definitely cheer the investor community and will help promote India as a favourable investment destination," said Suresh Swamy, partner, PwC India.

The Supreme Court is due 29 September to hear a case filed by Castleton Investments against the tax demand slapped on it.

When asked about how the government will proceed in this case, Jaitley said: “How the court deals with it is a separate issue."

The announcement may lift stock market sentiment which has been undermined by China’s shock devaluation of the yuan last month and data showing the world’s second largest economy slowing rapidly, which has prompted an investor flight out of emerging market assets perceived as risky.

Provisional data from the National Stock Exchange showed that FIIs sold a net of 675.32 crore of Indian shares on Tuesday, while domestic institutional investors (DIIs) bought a net of 681.93 crore of shares. For the month of August, FIIs were net sellers of Indian equities to the tune of $2.6 billion, their worst such outflow since January 2008.

On Tuesday, the BSE’s 30-share Sensex closed 586.65 points, or 2.23%, lower at 25,696.44. The NSE’s 50-share Nifty fell 185.45 points, or 2.33%, to 7,785.85 points. It was the lowest close for the Sensex since 11 August 2014, and for the Nifty since 17 October 2014.

The BSE Bankex index was the top sectoral loser on Tuesday with a 3.6% decline. It is 20.85% down from the peak it hit on 28 January. The index has fallen in nine out of the last 11 trading sessions.

“Talks about a currency war, doubts about Chinese policy-makers’ credibility and worries over the Chinese economic slowdown and its ripple effects have ignited risk aversion among investors," Valentijn van Nieuwenhuijzen, head of multi-asset at NN Investment Partners in the Hague, the Netherlands, said in an e-mail.

The carnage spread across the globe. Asian shares started the global sell-off after the Chinese government’s manufacturing purchasing managers’ index dropped to 49.7 in August, the first time it went below 50 since February.

Oil prices tumbled 7% on Tuesday and Brent futures fell back below $50 a barrel as the weak Chinese data revived concerns about global demand for petroleum.

The Shanghai Composite Index fell 1.2% and Hong Kong’s Hang Seng China Enterprises Index lost 3%.

The MSCI All-Country World Index dropped 0.8% at 7.33 am in New York, just after its worst month since 2012. S&P 500 E-mini futures expiring in September fell 1.9% after a record jump in volatility sent the gauge down 6.3% in August.

The Stoxx Europe 600 Index lost 2.2%, with the volume of shares changing hands about one-third greater than the 30-day average as the UK market reopened after a holiday.

Hit by one of the most volatile trading periods since the financial crisis, $5.7 trillion was erased last month from the value of equities worldwide, and investors are now scanning data for signs of China’s impact on the global economy.

“The manufacturing index still shows that the economy is in the process of seeking a bottom," said Wu Kan, a Shanghai-based fund manager at JK Life Insurance.

“The market is unlikely to pick up anytime soon."

Bloomberg and Reuters contributed to this story.

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