To shut down two lucrative investment routes preferred by foreign investors, the Modi Government has signed an amended tax treaty the island republic on 10 May in Port Louis.

The amendment to the 1983 India-Mauritius treaty, which will come into force on 1st April, 2017 will have following impact:

 

• Will shut the door on investors using Mauritius and Singapore to avoid paying taxes in India, starting in the next financial year, as it moves to curb tax evasion in a move that could also impact capital inflows.

 

• Will get the right to tax capital gains on investments channelled through Mauritius

 

• limitation of benefit clause that will ensure that only genuine Mauritius-based companies get the benefit of the bilateral tax treaty

 

• Designed to curb treaty abuse, tax evasion and round-tripping of funds

 

• Impact on foreign investors who route their investments from these two countries to avoid paying capital gains tax in India

 

To understand the impact of changes in the treaty, you need to know what the original treaty speaks:

India-Mauritius treaty was signed in 1983. The India-Mauritius Double Taxation Avoidance Agreement (DTAA) mandated that capital gains can only be taxed in Mauritius. The agreement helped Mauritius’ rise as a financial centre, and it became the source of the biggest foreign investment into India.

 

Why change?

The treaty with Mauritius was renegotiated because the Indian government believes that a chunk of the funds coming from Mauritius are not real foreign investments, but meant to avoid Indian taxes, a practice known as “round-tripping”.

 

Clarification:

Capital gains taxes will be imposed only on future investments from Mauritius, not existing ones. Long-term equity investment, with over 12 months of tenure, will continue to be exempt from capital gains tax.

 

Changes from April, 2017:

• From 1st April, 2017 to 31st March,2019, Mauritius and Singapore based firms will have to pay tax on the capital gain at 50% of domestic tax rate of India

 

• From 1st April, 2019, capital gain on sale/ transfer of Indian Shares by Mauritius or Singapore based firms, 100% domestic tax rate shall be applicable.

 

• Interest income arising in India to resident of Mauritius will be subject to 7.5% withholding tax after 31st March, 2017.

 

In brief, we can say that under the amended treaty, the right to tax capital gains will be available to the country where the income arose. With this, both countries are now moving into a source-based taxation of capital gains from the adopted residence-based taxation methodology for capital gains taxation.

 

Around 50% of foreign direct investment into India comes through Mauritius and Singapore, according to Indian government data. Some 34% of it is channelled through Mauritius and 16% through Singapore.

 

With this, Mauritius will lose its edge as a popular jurisdiction for routing investments into India. Mauritius currently has ‘NIL’ tax rate on capital gains.

 

The changes in the tax treaty will complement the government’s efforts to plug tax evasion and tax avoidance and its fight against black money—untaxed, unaccounted wealth hidden away by Indians.

 

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