Foreign institutional investors (FIIs) and custodians dealing in the Indian market on behalf of participatory notes (PN) are in a quandary with regards to the remittance that has to be made to the PN holders.
According to persons familiar with the development, ever since uncertainty related to the implementation of General Anti Avoidance Rule (GAAR) erupted, many of the registered foreign investors and custodians are holding back the money due to the PN holders so that any possible tax liabilities could be met with.
Sources further add that some foreign investors are toying with the idea that a certain percentage of the money due to the PN holders should be held back if tax authorities feel the transaction qualifies for being taxed. ?FIIs are a worried lot as they are the front end for all the regulatory bodies,? said the managing partner of a law firm that deals in FII entities. ?The tax man is not going to go after the PN holder. He will issue a showcause notice to the FII. So, to deal with such a scenario, some FIIs feel that around 10-15% of the total sales can be held back to meet any future tax liabilities,? he said on conditions of anonymity.
Market players say there is a general fear among the FII community that post the implementation of GAAR, if the tax authorities feel that a specific transaction needs to be taxed, then the entire monetary burden will fall solely on the FII as the money by then could have been already remitted to the beneficiaries. This has led to a school of thought that a certain share of money should be held back. Incidentally, the last few weeks has seen a series of meetings between the foreign investor community and bureaucrats representing the finance ministry. The FII fraternity has pressed upon the government the need for urgent clarity since it is impacting the flow of money into the Indian equity market.
The roots of the matter can be found in the Union Budget 2012-13 when finance minister Pranab Mukherjee proposed to introduce GAAR to counter aggressive tax-avoidance schemes, while ensuring that it is used only in appropriate cases, by enabling a review by a GAAR panel.
It is believed that ever since the proposal was announced, a lot of Mauritius-based FIIs are evaluating the idea of moving to Singapore. Most of the FIIs operating in the Indian market are registered in Mauritius as India shares a double tax-avoidance agreement with the island nation. In March, Asia Securities Industry & Financial Markets Association (ASIFMA) wrote to the finance minister that post the GAAR announcement in the Budget, FIIs have started evaluating the tax risks and some of the institutional investors ?have told their clients that they will not take on any new India positions?.
The letter highlighted the fact that FIIs are significant sources of FDI in India, with assets under custody of more than $200 billion or 17% of the capitalisation of India?s equity markets.