Mauritius rejects compensation to plug double taxation loopholes

Despite an offer to monetarily compensate Mauritius for losses as a result of tightening tax norms, India has given up hope for the time being of amending the 26-year double taxation avoidance agreement (DTAA) with the tiny Indian Ocean tax haven off the southeast coast of Africa.

Mauritius accounts for nearly half of all foreign direct investment (FDI) inflows to India.

Indian tax officials said the treaty has been costing the exchequer over Rs 4,000 crore annually for some years in terms of revenue foregone on account of the capital gains exemption for investors routing their funds through Mauritius.

A finance ministry official said the key change to the treaty being pushed by India is to move from a "residence-based system of taxation" to a "source-based" system, meaning investors from Mauritius would need more than a proforma registered office in the island to qualify for tax breaks.

Concerted negotiations were conducted at Port Louis, the island's capital city, between government representatives of both countries this February. The talks were held three weeks before Union Budget 2008-09 was presented in Parliament on February 29.

"An attempt was made, but nothing came of it. India even offered to compensate Mauritius for potential loss of revenue on account of a change to the treaty. Now, there is very little chance of the DTAA being amended for at least a year or so," an official said, adding that the time to take a "political decision" had come.

The government was willing to offer Rs 500 crore as compensation, the official said, adding that India already contributes in other ways to the country including defence cooperation.

The attempt to plug the misuse of the Mauritius double-taxation avoidance agreement was made in response to a specific promise set out in the National Common Minimum Programme drawn up by the United Progressive Alliance when it came to power in May 2004.

While some progress has since been made to tighten similar agreements with other countries, the Mauritius treaty is the big one. Consider this: from April 2000 to December 2007, FDI inflows from the tax haven stood at $20.1 billion, nearly 45 per cent of total inflows of nearly $51 billion during the period.

"The country lost the opportunity to amend or even abrogate the treaty in 1992-93, when Mauritius made capital gains non-taxable. Now it seems difficult as any unilateral move on our behalf will have consequences (on the already volatile stock market)," the official added.

To date, India has signed comprehensive double taxation avoidance agreements with 72 countries (on February 21, the Indian Cabinet approved a similar agreement with the Grand Duchy of Luxembourg).

Indian tax authorities have managed to tighten clauses in many of these treaties. "Only 12 to 13 treaties have residence-based taxation, of which seven or eight have been revised. The others are in the process of being revised. The only ones left are Mauritius and Singapore, but the latter has safeguards," the official added.