1. Mauritius double taxation agreement: Welcome sign that government is tackling the root of problem

Mauritius double taxation agreement: Welcome sign that government is tackling the root of problem

The new double taxation agreement with Mauritius is a welcome sign that the government is now tackling the root of the problem

By: | Updated: May 13, 2016 4:45 PM

Almost 25 years ago, I brought up the issue of the Mauritius laundry. The double taxation agreement was tweaked to charge the same capital gains tax to investments from Mauritius in India as would have applied to them in Mauritius. The twist in the tale was that there was no capital gains tax in Mauritius while India had a tax of 10% for short-term investments (held for less than one year) and 20% for long-term investments.

This resulted in Mauritius becoming a much larger investor in India than the US, UK, etc. Most investment funds were owned by non-Mauritian entities with registration in the country. Any office building in Mauritius has numerous solicitors’ offices and each display innumerable name plates of companies including the largest in the world. These foreign companies could now send funds to India for investment, but as Mauritian entities.

The investments in India would be in some cases for setting up of manufacturing facilities. If the facility was sold later at a profit, there would be no capital gains tax. But a majority of investors and funds invested in the financial products, mainly in the stock market. For many years since, foreign investment into India was in the form of institutional investments, and not as direct investments for setting up manufacturing. Apart from NRI funds, it was the largest source of foreign funds.

Another result was that Indian stock markets became exceedingly volatile. Investments would be liquidated usually at higher prices and the proceeds sent back to Mauritius, only to come back for new financial investments.

This also became the route for converting Indian black (unaccounted) money into white, by sending the money through hawala to Mauritius and legitimately sending it back for investment, so that when it was remitted back it was clean. We can speculate that this route was created by powers in the government, mainly as a laundry to make their Indian black money white.

The new agreement with Mauritius initiated by the prime minister, will levy a capital gains tax at the Indian rate for two years. After that a full rate as applicable in India will entail. The clever part is that name-plate companies in Mauritius can no longer use this route. They must have a minimum expenditure on operations in Mauritius.

Many of us have criticised the Modi government, but on controlling unaccounted money it has started to go to the root of the problem. Thus, there is a concerted move to produce defence products in India, which have been a source of corruption and unaccounted money for years. Banks are being made to reduce debts and companies are selling assets to do so, including the illegal ones held abroad. There is more scrutiny of import and export prices, the source for under and over-invoicing. Foreign banks both in India and abroad are under scrutiny for hawala transactions. Names of Indian bank account holders abroad are now becoming available, the most comprehensive being from a law firm in Panama. Media and investigating agencies of the government are looking more closely at the government transactions for illegal profits held in “black”. Lower tax rates have also reduced the temptation to generate black funds. Allowing Indians to legally remit fairly large sums abroad has reduced the need to hold money abroad.

Over the years, the people who have accumulated “black” money and assets in India and overseas have developed government systems and procedures to enable them to do so more easily. Sectors like real estate and construction are the ones contributing to black money and the laws and tax policies for them must reduce their incentive to generate unaccounted income. The public distribution system has vast leakages ranging from procurement, prices, transportation, storage and bogus ration cards. The vast social expenditures by the UPA government generated huge leakages. Ministers and bureaucrats had designed schemes to ensure that illegal money can be generated by siphoning off as much as 50% or more of government expenditures. But Aadhaar, more bank accounts, direct benefits transfers, will reduce black money generation.

The onus is on the country to plug the loopholes created over the years. This has already started. Thus, property taxes must be reduced; land transfers made simpler; investigations into economic crimes made speedier—with faster judgments and stiffer penalties including confiscation. The goods and services tax will cut evasion of indirect taxes and consequent accumulations of black money. The money laundering through Mauritius will now close; this must also apply to Cyprus. All ways to send black money out and bring it legally in India, must close. This must also be applied to participatory notes that enable Indians to invest anonymously in India through overseas banks.

The new double taxation agreement with Mauritius is a welcome sign that the government is now tackling the root of the problem. Our investigation and penalties for such wrong doing must be faster and more severe.

The author is former director general, NCAER, and was the first chairman of the CERC. Views are personal

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