Late on Tuesday, the Central Board of Direct Taxes (CBDT) put on hold a December circular that had sought to extend rules on indirect share transfer to foreign portfolio investors (FPIs).
This comes as a major relief to FPIs as well as private equity and venture capital investors, who had made representations to the finance ministry to rescind the 21 December circular.
What really was the government looking to tax?
The circular dealt with indirect transfer provisions, or taxation of transactions in which share transfers happen overseas but the underlying assets are in India.
When were such provisions first introduced?
In 2012, the United Progressive Alliance government had introduced indirect transfer provisions in the Income Tax Act with retrospective effect. This was done after the government could not levy a tax on the purchase of Hutchison Whampoa’s India-based telecom assets by British telecom major Vodafone Group Plc in a $11-billion deal.
Later, the government clarified that only those transactions wherein at least 50% of the underlying assets are based in India will be subject to such capital gains taxation. This was done based on the recommendations by a committee headed by Parthasarathi Shome.
In 2015, the Narendra Modi government further clarified on the issue. The next year, it formed a working group to decide whether such provisions were applicable to FPIs. It was on the basis of the recommendations made by this working group that the December circular was issued.
Why were FPIs opposed to it?
FPIs, VCs and others feared that such provisions would give rise to double taxation because, by implication, they would be taxed even if they sold their shares overseas. Moreover, an overseas individual investor would also get taxed without any tax credit in his home country.
According to a Business Standard report, even the Direct Taxation Avoidance Agreement would not come to their rescue. “The tax arises when Indian assets of the funds constitute 50% of the total asset value of funds globally or Rs 10 crore. However, those having less than 5% of fund shares would be exempted from the tax,” the report says.
How many entities would this have impacted?
According to an analysis by Bloomberg columnist Andy Mukherjee, it would have impacted as many as 181 publicly traded funds, with $39 billion under management, whose India exposure is more than 50% of their total assets.
What happens next?
Citing unnamed sources, Business Standard reports that the government could confine the applicability of the circular to private equity funds and the mergers and acquisitions space, while exempting listed entities and offshore derivative instruments. There is, however, no official word from the government on this yet.
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