An uncertain business environment, depreciating rupee, rising inflation, low investor confidence due to several grey areas in regulations such as indirect transfer, possible onslaught of GAAR surrounded the new government as it presented its first big bang budget.
Through the budget and other policy measures, the Narendra Modi-led Government, in line with its new national initiative “Make in India” to transform India into a global manufacturing hub and boost investment, has taken steps that are bold, pragmatic and decisive — a major step towards achieving “Ache din” for the Indian economy. Major relief includes phased reduction of corporate tax rates, laying down ground work for introduction of GST, deferral of GAAR to 2017, relief against MAT for foreign institutional investors and clarity on taxation for indirect transfer going forward. As we look at the amendments with the eye of an M&A professional, has “Ache Din” come to the M&A space? – let’s have a look at key critical provision impacting M&A – Indirect transfer and MAT on foreign investors.
Indirect transfer started grabbing headlines in India following the high profile Vodafone tax issue and retrospective amendment in Indian tax laws for taxation of such indirect transfers. It resulted in shares of an entity situated outside India to be deemed as situated in India if the said shares derive their value substantially, directly or indirectly, from assets located in India. This resulted in apprehension in investor sentiment toward India and the investors went into a “wait and watch” mode awaiting clarity on regulations. The Union Budget 2015 (as cleared by both the houses of parliament along with the Central Board of Direct Taxes directive) provided following notable clarifications on the issue –
- “Substantial” has been explained to mean 50% Indian assets vis-à-vis global assets and value of Indian assets exceeds INR100 million.
- Taxability in respect of indirect transfer will be done on proportionate basis, i.e., only in respect of value of Indian assets.
- If overseas transferor does not control the Indian company and the shares transferred are less than 5% of the equity of the entity, the transaction will not be regarded as taxable in India.
- Indirect transfer of shares of an Indian company pursuant to amalgamation or demerger of foreign companies will be exempt from capital gains, subject to fulfilment of prescribed conditions.
- Declaration of dividend outside India by a foreign company deriving value substantially from India will not be taxable under indirect transfer provisions as payment of dividend does not have an effect of transfer of any underlying asset located in India.
While the above clarifications are a welcome move, the Union Budget has still left the investor community seeking clarification on several key nuances regarding indirect transfer provisions:
- Method of computation of value of assets to ascertain “substantial” requirement and proportionality to ascertain tax liability is awaited. One hopes that the high level of pragmatism reflected in the above amendment will also be covered
- Reporting obligations (to be prescribed) has been cast on Indian companies whose indirect shareholding undergoes a change and penalties are proposed for non-compliances thereof
- Exemption to shareholders of amalgamating foreign company not specifically provided.
Overall, while the budget has taken steps to clarify ambiguity related to indirect transfer, the investor community is still left asking for more and considerable clarity is still required for computing the gains. Furthermore, the investor wish list still includes some of the key recommendations of the Shome committee report such as exemption to listed securities traded on a recognized stock exchange outside India and specific exemption to global companies from the ambit of indirect transfer, who undertake intra group restructuring.
MAT for foreign companies
The Budget also attempted to provide clarity on another aspect worrying foreign investors — applicability of MAT to foreign companies by proposing to provide relief to FIIs from certain categories of capital gains from financial year 2015–16. This amendment opened a Pandora’s Box as a larger controversy arose on:
- Whether this amendment is applicable to all foreign companies (other than FIIs)?
- Taxability on income from sources other than capital gain?
- Applicability of MAT to incomes arising during past years?
To throw light on the above controversy, an amendment was introduced in the Bill, which proposed that capital gains (whether long term or short term) arising on transactions in securities, interest, royalty or fees for technical services chargeable to tax in hands of foreign companies will be excluded while computing MAT. However, this amendment is proposed to be made effective from financial year 2015–16.
While the intent of the government on a going forward basis is to provide relief to foreign companies from the levy of MAT, the government did not yield to the demands by foreign investors for retrospective exemption from MAT. To address this specific issue as well as relating to other tax aspects faced by tax payers, the Government has set up an Expert Committee to provide suggestions to achieve a fine balance between investors’ wish list and the requirements of the Indian economy.
To sum up, while the clarifications introduced show a pro-investor friendly intention of the Government and are a welcome move, further clarity to these provisions is required to boost investor sentiments in favor of India.
Article includes inputs by Deep Shah, Manager – Transaction Tax, EY