It is common for taxpayers to arrange their affairs in a way that will give them tax benefits, which are through genuine and legitimate actions. It has been long that the discussion on the DTC (Direct tax code) has been going on, but the applicability has not happen yet. This budget saw government going one step towards it by announcing the application of GAAR concept. General Anti-avoidance Rule (GAAR) is a concept which generally empowers the Revenue Authorities in a country to deny the tax benefits of transactions or arrangements which do not have any commercial substance or consideration other than achieving the tax benefit.
With the increasing globalisation of economies and growth in cross border transactions, some countries have introduced legislation which has empowered the Revenue Authorities to question transactions and arrangements and disregard their form to deny tax benefit unless the taxpayer can establish the commercial legitimacy of the transaction.
By introducing GAAR Indian Government is trying to give powers to income tax authorities as to deny tax benefit to an entity if a transaction has been carried with the sole intention of tax avoidance. This will also see FII & FDI money coming to India through Mauritius route will now become taxable. It will also increase many litigations. This will avoid all the treaties between the countries for tax benefits like the one with Mauritius. The major concern will be the that the investors coming through tax havens such as Mauritius, would be affected. Most investments by FIIs and private equity funds into India are via Mauritius. India’s tax treaty with Mauritius gives an exemption from the capital gains being taxed. FIIs fear that if GAAR gets implemented in its current form, it could override India’s tax treaty with that country and thus the capital gains might become taxable. Now Singapore is seen the next destination but clarity on the treaty front is yet to be emerged.
Though, there is less of clarity about the exact ways in which these taxation rules will be implemented and how much would they impact, the initial concerns have left many investors in a jittery position, so as to consider withdrawing the investments being made in India. We have seen very dull activities by the FII’s in the past few sessions. Though FM has confirmed that P-note transactions will be outside this purview. FIIs invested a total of Rs 1.83 lakh crore through P-Notes as on February 2012, Securities and Exchange Board of India’s data shows. As per the data, the investments in P-Notes contributed a total of 16.4 per cent of the total assets under the custody of FIIs in the same period. Uncertainty still prevails and till the time there is clarity on implementation of GAAR, investments through Mauritius route and P-Notes, people will continue to wait and watch and trade cautiously.
Though this move of the government shows a step closer to the regulated tax rules for the country which is very positive in longer run but on the other hand this move will also be one of the method of revenue collection (which is very much desired and legal) for the government who is tackling the problem of fiscal deficit as well. Government has also laid down the program for the market borrowings. The amount comprises 65 percent of the government's gross borrowing target of 5.7 trillion rupees for 2012/13. A reason for the government to borrow heavily in the first half of 2012/13 is the heavy repayments worth 605.7 billion rupees due during April to June. The plan is Rs. 65,000cr in April 2012, Rs. 63,000 in May 2012, Rs. 60,000crs in June 2012, Rs. 61,000 crs in July 2012, Rs. 75,000crs in Aug 2012 and Rs. 46,000crs in Sep 2012 which totals to Rs. 3.7trillion through bond sales.
However despite higher borrowings by the government, the success will be decided by the rate cuts done by the RBI over the period. So a reformatory step (tax regulations) and rate cuts gradually will both help to improve the sentiments of the investors and the market.
(The author is Senior Vice President - Equity Research at Anand Rathi Financial Services)
