Concerned over flow of black money into stock market, the Supreme Court-appointed SIT today asked regulator Sebi to compulsorily identify real owners of foreign funds coming through the controversial P-Note route and also prosecute those using equities for tax evasion.
In its third report on steps required to check the black money menace, the Special Investigation Team (SIT) said it is not enough for Sebi to ban individuals and companies from stock markets and the regulator needs to initiate prosecution proceedings and take all necessary “preventive and punitive” actions.
The SIT also questioned the current practice of P-Notes being transferable in nature and said “Sebi needs to examine if this provision of allowing transferring of P-Notes is in any way beneficial for easing foreign investment”.
P-Notes or Participatory Notes are typically Offshore Derivative Instruments issued abroad by Foreign Institutional Investors (FIIs) or their associates against the underlying Indian securities.
While norms have been tightened considerably for P-Notes over the years, they remain popular among foreign investors since they allow them to invest in Indian markets without undergoing the significant cost and time implications of directly investing in the India.
To prevent misuse of exemption on Long Term Capital Gains (LTCG) tax for money laundering, the panel has suggested a slew of measures such as having an “effective monitoring mechanism” by Sebi to study such unusual rise of stock prices.
Noting that the watchdog has a strong IT infrastructure that can generate red flags about such activities, SIT said those “red flags could be built upon trading volumes, entities which contribute to trading volume, financial background of firms through their annual returns and any other indicators”.
To make the deterrent mechanism stringent, SIT said that barring entities — which evade tax through stock markets — from securities market would not be enough.
“In case it is established, that stock platforms have been misused for taking LTCG benefits, prosecution should invariably be launched under relevant sections of Sebi Act,” it said.
Recently, Sebi had barred more than 250 entities, including individuals and companies, from the securities market for suspected tax evasion and money laundering through stock market platforms.
In order to prevent misuse of P-Notes, the panel has recommended that obtaining information on “beneficial ownership” is of crucial importance.
“Sebi needs to examine the issue raised above and come up with regulations where the ‘final beneficial owner’ of P-Notes /ODIs are known,” it noted.
Since P-Notes are transferable in nature, SIT said tracking their true beneficial owner becomes more difficult as layering of transactions can be made very complex.
“Sebi needs to examine if this provision of allowing transferring of P-Notes is in any way beneficial for easing foreign investment.
“Any investor wanting to invest through P-Notes can always invest afresh through an Foreign Portfolio Investor (FPI) instead of buying from a P-Note holder,” it said.
Making suggestions, the panel said that Sebi should have individual Know Your Customer (KYC) information.
“In no case should the KYC information end with name of a company. In case a company is the holder of P notes/ODIs, Sebi should have information of its promoters/directors who exercise effective control over the company,” SIT said.
With regard to companies or trusts represented by service providers like lawyers or accountants, the regulator needs to have information on the real owners/effective controllers of such entities, it added.