The Finance Ministry has decided to postpone the implementation of General Anti Avoidance Rules (GAAR) by another year and cut down the long-term capital gains tax on foreign PE firms' investments in unlisted Indian companies from 20 per cent to 10 per cent, to assuage foreign investors and bring parity between PE firms and FIIs in terms of taxation.

Although the deferment of GAAR comes as a big breather for the investor community, lack of clarity on the provision over-riding tax treaties with tax havens, tax residency certificates and issue of withholding tax has still left the investors jittery, say experts.

On Monday, while tabling the Finance Bill in Lok Sabha, finance minister Pranab Mukherjee said that the ministry would delay by one year, until FY2013-14, the introduction of measures to crack down on tax evasion. “The retrospective amendments will not be used to re-open cases where the assessment orders have been finalised,” said Mukherjee.

Experts believe that although the anxiety of foreign investors has been addressed to a great extent with this amendment in the Finance Bill, there are other draconian provisions within GAAR that need to be addressed as well.

“There are other provisions, such as tax residency certificates to avoid payment of tax and withholding tax, are yet to be addressed. However, today’s announcement is a big relief for domestic investors who now have the time to realign and restructure the businesses in sync with the GAAR provisions,” said Girish Vanvari, executive director (taxation) with KPMG.

According to Mukherjee, the government will remove a provision which puts the onus on the tax payer to prove that there has been no tax avoidance. “Instead, the onus will be on the tax officials to prove it,” he said.

The finance minister also announced 0.2 per cent securities transaction tax or STT on deals involving unlisted companies instead of a withholding tax. The imposition of a withholding tax had negative implications on private equity or venture capital investors who look at exiting their investments in private companies.

The overall change in regulations also bring cheer to the PE/VC community since the one-year window gives them some time to finish fundraising and investment in companies with whom deals are under way.

“This delay will help fasten the pace of fundraising and investments as investors (LPs), as well as fund managers and promoters. Also, the decision to implement prospectively is pragmatic and investor friendly,” said Mahendra Swarup, president of the industry body India Private Equity and Venture Capital Association (IVCA).

Dinesh Kanabar, deputy CEO and chairman (Tax) of KPMG India said that the statement of the finance minister that the burden of proof would rest with the officials is a welcome move.

But he added, “On the other hand, the government seems to be persistent with the introduction of retrospective amendment for taxation of overseas transfer.”

Kanabar has said the point that assessments which have attained finality will not be re-opened is very interesting. “It remains to be seen as to whether the chapter would be closed vis-à-vis Vodafone both on the withholding matter as well as the substantive liability on the taxability of the transaction,” he said.

While the Finance Bill is yet to be passed by the Parliament, many believe that GAAR will be watered down to accommodate investor concerns. “A lot more people perhaps now feel that the final shape of GAAR will be diluted to the extreme level and with the announcement of delay in implementation, there is time and opportunity for interactions to be held and more robust guidelines to be issued,” said Nishith Desai, founder and managing partner of the Mumbai-based law firm Nishith Desai and Associates.

“One more important thing that needs to be clarified is whether GAAR will over-ride the existing tax treaties. This will violate the constitutional provisions. Moreover, there has to be clarity on the prospective implementation of the provisions and till that time, we need to wait and watch,” he added.

With India going to polls next year, there are doubts whether GAAR will be implemented as scheduled.

In another big move, the FM also said the government is bringing tax parity between foreign institutional investors (FIIs) and other overseas investors including foreign PE firms, for capital gains in private companies. The FM said while FIIs are charged 10 per cent long term capital gains tax in unlisted Indian companies, this is pegged at 20 per cent at present which will be brought down to 10 per cent.

Angel Investments To Get Tax Breather

In another big relief for private investments in startup ecosystem, the FM said the government would provide some exemptions to take care of the concerns on angel investments. Although he did not give details, he said that an enabling provision would be provided in income tax law to exempt certain notified class of investors from the applicability of a budget proposal on closely held companies.

In the Budget, the finance minister had proposed that any consideration received by a closely held company in excess of the fair market value of its shares would be taxable. Under the Budget proposal, the government said it would treat all individual investments (which would also include genuine angel money) into a company as “income from other sources” and it would be subject to a tax of 30 per cent at the hands of the companies (including all genuine startups).

VCCircle had earlier reported that even as the government is unlikely to withdraw the entire provision, targeted at curbing money laundering and tax evasion, an amendment stating that deals under Rs 5 crore individually and Rs 10 crore overall will be exempt could be on the cards.

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