Luxembourg third-most favoured base for foreign portfolio investors

Luxembourg has dethroned Singapore to become the third-most popular destination for foreign portfolio investors (FPIs) investing in Indian equities.
 

According to December 2017 data, total assets under custody (AUC) of Luxembourg-based FPIs was Rs 2.48 trillion, against Rs 2 trillion from Singapore. Also, the combined share of Mauritius and Singapore had gone down to 24.5 per cent in December 2017 against 28 per cent in January 2017.

This shift in FPI preference comes after Indian renegotiated its double tax avoidance agreement (DTAA) with Mauritius and Singapore. Luxembourg has traditionally been an important gateway for pooling of investments from European funds which are invested not only in India but across the globe. The country is preferred even for routing of debt investments, due to simpler rules and no compliance burden.

Experts say the share of Mauritius and Singapore could fall further, as FPIs explore other destinations for better tax sops. They say the trend could gain momentum after March 2019, when the full capital gains tax rate comes into effect for investors based out of Mauritius and Singapore.

 

Until March 2016, FPIs based out of Mauritius and Singapore used to pay zero capital gains tax due to the DTAA. Under the new agreement, they would be subject to 15 per cent tax on short-term capital gains (sale of shares held for less than one year). India doesn’t charge long-term capital gains (equity assets held for more than a year) tax for any class of investors. To ensure smooth transition for the DTAA, the Indian government proposed to charge half the original tax rate (7.5 per cent) for the period between April 2017 and March 2019.

“Some of the big-ticket FPIs have already planned to shift their investment vehicles to alternate destinations by March 2019. However, a majority of them are still using the Mauritius route for investing as they are still getting a rebate in the tax rate. Once these incentives are gone, we would see the share of Mauritius and Singapore dip much more,” said a custodian.

However, shifting would not be easy for FPIs, especially the mid and small sized ones, in the wake of new policies such as General Anti-Avoidance Rules (GAAR) which came into effect from the current financial year. Indian tax officials now have power to penalise any foreign fund which chooses or changes its gateway purely on tax considerations. The government also recently signed multi-lateral instruments (MLIs) under an OECD convention which tackles tax avoidance by multinational companies and institutional investors.

“After the advent of GAAR and other regulations, changing jurisdictions solely for tax purposes is no longer easy for overseas investors. The funds will have to fulfill several rigorous conditions such as the commercial substance test under GAAR. Having said that, about half a dozen big FPIs which have a pan-global presence might still be able to manage such a movement, as they have establishments around the world,” said Tejesh Chitlangi, partner, IC Universal Legal.

Another trend in the past year is emergence of France as a popular base to route funds here, with an AUC of Rs 646 billion. Traditionally, France has not been a favoured gateway to enter Indian markets. This is despite tax sops for investments coming from France being at par with Mauritius.

Also, inflow from Canada saw a big jump during 2017; their AUC rose to Rs 846 billion, from 600 billion.