After successfully plugging the loopholes in tax treaties with Mauritius and Singapore, India is now negotiating with the Netherlands to amend the bilateral tax treaty in an effort to gain more powers to tax the sale of shares of Indian companies by Dutch firms.
The move tracks a surge in investment in Indian companies by Dutch corporates. “We are in talks with the Netherlands to amend the treaty, especially on matters of capital gains taxation. But we cannot predict the outcome now," a government official said on condition of anonymity.
In the first nine months of 2018-19, India had received $2.95 billion foreign direct investment from Netherlands, topping the $2.8 billion investment in 2017-18. The Indian government wants to widen its tax base by ensuring share transactions involving Indian entities do not escape taxation in India.
Under India’s ‘agreement for avoidance of double taxation and prevention of fiscal evasion with Netherlands’, investments by Dutch firms get exemption from capital gains when shares in Indian companies are sold, subject to certain riders. The treaty says sale of unlisted shares of an Indian company are taxable in India only under very limited circumstances. That includes when the shares derive value from possession of real estate in India other than what is used for business. The treaty allows taxation of capital gains in India when 10% or more of an Indian firms’ shares are sold to an Indian resident, but this comes with a big exception—such capital gains may be taxed in Netherlands if the sale is part of a corporate restructuring. The tax provisions are similar for both the treaty partner states.
“Investors coming through the Netherlands get a favourable capital gains regime than those coming from Mauritius, Singapore or Cyprus. However, the economic substance requirement in Netherlands is higher than that in many other low-tax jurisdictions," said Amit Maheshwari, partner, Ashok Maheshwary and Associates Llp. The requirement for ‘economic substance’ of a company seeks to ensure that tax treaty benefits go only to legitimate investors. Tax officials consider investment vehicles, with no economic activity in the country of incorporation, as tools of tax avoidance and the abuse of tax treaties.
India is amending tax treaties, because what was meant to prevent taxation of the same income in both countries, had given rise to concerns that investments in many cases had resulted in a situation where an entity had escaped taxation in both countries.
New Delhi amended the treaties with Mauritius and Singapore in 2016, under which capital gains tax rates are applicable from 1 April, 2019, on the sale of Indian companies’ shares by investors. Full capital gains tax rate kicked in after a two-year transition period of FY18 and FY19, during which such gains were taxed at half the applicable tax rates. The amended treaty with Mauritius says “gains from the alienation of shares acquired on or after 1 April, 2017, in a company which is resident of a contracting state may be taxed in that state." The move is to have a comparable provision in the treaty with the Netherlands, too.
Under the earlier bilateral deal with Netherlands for promotion and protection of investments, Vodafone International Holdings BV is pursuing an arbitration against India’s claims to tax Vodafone’s 2007 purchase of Hutchison Essar Ltd, later renamed Vodafone India Ltd.