The levy of the minimum alternative tax (MAT) on foreign portfolio investors (FPIs) in the recently concluded assessment cycle for FY12 (by draft orders) as well as notices issued to FPIs for reopening of past assessments has once again raised the subject of the need for conceptual clarity being available to all stakeholders as far as income-tax provisions are concerned. FPIs have been surprised, indeed shocked, to receive these notices and have expressed concern over the applicability of MAT to them, to various government and regulatory quarters.
According to press reports, the finance minister has said that India certainly is not a tax haven and that the raising of a legitimate demand cannot be construed to be an act of tax terrorism. Conceptually, both the finance minister’s comments and the concern of FPIs are unarguably sound and correct, when viewed in isolation.
Having said this, FPIs’ concern over the applicability of MAT to them ought not to be considered to be illegitimate or incorrect. If one travels down the memory lane, one will recollect that the provisions of MAT were first introduced in the Finance Bill, 1987, with effect from April 1, 1989, to subject those companies to tax which distributed decent, indeed large amounts of dividends to their shareholders but did not pay tax as a result of tax concessions and incentives that were then available.
India was a closed economy at that time and the liberalisation of the economy happened four years later in 1991, when the remarkably bold step was taken to permit foreign investment in certain sectors. FPIs followed in 1993 after the regulations for the capital markets were framed and the Securities and Exchange Board of India (Sebi) was formed. Successively, after this, MAT provisions were reintroduced in the Finance Bill, 1996, and then again revised in the Finance Bill, 2000, with legislative intent pointing towards its applicability to domestic companies.
To then say that the applicability of MAT to “every” company, indeed even to FPIs which are corporates with no place of business in India, was always intended would require presumption of a degree of clairvoyance. And if this were the case, the levy of MAT for the first time on these FPIs in 2015, a couple of decades later, is puzzling. It seems that considerable weightage is being accorded to an advance ruling which was delivered in October 2012.
First of all, this ruling is only binding to the applicant and the income-tax authorities (in that particular case) and at best can have persuasive value otherwise. What is to be appreciated is that there is technical basis to refute the ruling and not to miss highlighting that there are other advance rulings and tribunal judgments which have held that MAT ought not to apply to foreign companies especially that do have a place of business in India. Again, two years’ audit cycles passed from the time of that advance ruling before the authorities have chosen to levy MAT in 2015.
In case of the financial services industry, the need for predictable tax treatment in the capital markets is a common prerequisite globally. The capital markets require a higher degree of tax certainty than other industries, given that millions of capital market transactions are conducted every day, affecting multiple market participants (funds, fund managers, financial institutions, custodians, brokers, etc). To that extent, the markets will only operate efficiently if each and every trade has a predictable result for investors and for market participants. In the case of FPIs, these are typical institutions where the investors keep changing and a levy of tax that has retroactive effect creates considerable difficulties for them. Like in the case of Indian mutual funds, the investors in these FPIs typically keep changing regularly.
The need, therefore, to declare a net asset value (NAV) which provides for all known and certain liabilities including tax liabilities is paramount. Clarity in the applicability of tax provisions (based on a stable, transparent and consistent tax regime) would help allocate the liability to the right set of investors which indeed must economically bear the same. The levy of MAT on account of an assessment happening three years after the end of the relevant financial year and the reopening of the assessments of these FPIs to now levy MAT will cause them to consider the liability for past years, while declaring their present NAV which economically burdens the current investors for tax on income they potentially did not and would not enjoy.
The Indian tax legislation has been seeing instances of lack of clarity at a conceptual level in the past years. Consider the provision relating to dis-allowance of expenditure incurred to earn income not chargeable to tax contained in Section 14A of the Income-Tax Act, which was introduced in 2001. Till 2009, there was no prescription of the computation of the dis-allowance. Even when Rule 8D was inserted in the Income-Tax Rules in 2009, the method of computation prescribed has been the subject matter of litigation, which continues even today. To obviate the need for prolonged litigation and to foster an environment of certainty and indeed comfort for taxpayers at large, it is critical that conceptual clarity be provided to the taxpayers on issues of contention currently in the income-tax legislation and, going forward, any significant amendment to the income-tax legislation be made only after a process of due consultation with the stakeholders.
As far as the applicability of MAT to FPIs is concerned, the finance minister in his speech and the Memorandum to the Finance Bill, 2015, has been gracious to acknowledge that the issue needs “rationalisation”. The way the “clarification” has been proposed has raised certain fundamental issues regarding the prescription of lower rates of tax on certain incomes otiose (such as the concessional 5% tax rate on interest), which will hopefully be addressed. For the past, however, a refresh of the intention behind the introduction of MAT, a proper consideration of the jurisprudence and contentions on non-applicability of MAT, and the established acceptance by the tax authorities themselves on non-applicability for two decades, are clearly recommended. All of these should provide clarity at the conceptual level that MAT was never intended to apply to FPIs and clarifying the law on this will resonate well with the government’s stated objective, of providing a transparent, consistent and stable tax regime.
The author is tax leader for Financial Services, EY. Views are personal