By Saurabh Kumar, Managing Partner of SK Attorneys.
Background
The recent aggressive stand taken by the revenue authority is against the basic commitment made by Prime Minister Narender Modi Government at the time of coming into power in May, 2014. While, the long-term impact of retroactive tax on inflows into the country is “not yet clear”, imposing Minimum Alternative Tax (MAT) on Foreign Institutional Investors (now rechristened as Foreign Portfolio Investors) has further compounded the prevailing confusion.
Foreign Institutional Investors (FIIs) are entities established or incorporated outside India and make proposals for investments in India. These investment proposals by the FIIs are made on behalf of sub accounts, which may include foreign corporate, individuals, and funds etc. These FIIs, governed and regulated by the Securities and Exchange Board of India – SEBI (Foreign Institutional Investors) Regulations, 1995 [now rechristened as SEBI (Foreign Portfolio Investors) Regulations 2014], must hold a valid Certificate of Registration as FIIs, from the Indian Market Regulator, for the purpose of purchasing and selling Indian securities.
SEBI has placed a set of restrictions on FIIs in terms of investment caps, registration, know-your-client (KYC norms) and lock in periods and so on. MAT was initially introduced for companies showing book profits and declaring dividends to their shareholders having no or insignificant taxable income under the Income Tax Act because of the exemptions, deductions and incentives provided thereon in the form of a liberal rate of depreciation, sector and region specific exemptions, deductions etc.
MAT is in consonance with a fundamental canon of taxation- all entities must be taxed (on “Deemed Profit”) in proportion to their ability to pay. The current MAT regime under the (Indian) Income Tax Act is similar to the first such regime-the US Alternate Minimum Tax (AMT).
As with the Indian law, the legislative intent for introducing this kind of taxation was to ensure that “no taxpayer with substantial economic income can avoid significant tax liability by using exclusions, deductions and credits”.
These companies are popularly known as “zero tax” companies. In other words, MAT is a way of making companies pay minimum amount of tax. It is applicable to all companies except those engaged in infrastructure and power sectors.
Section 115JB of the Income Tax Act, 1961 (the Act), which provides for levy of income tax on “deemed profit” commonly known as MAT) has been a vexed issue for large FIIs, investing their moneys in Indian market. After lot of representations made to the new government, finally the Budget of 2015 brought some cheers to the investor community, as capital gains income of such FIIs, are proposed to be exempted from MAT, going forward.
Prima facie moving against the intent of the Indian government, its revenue authorities issued draft assessment notices to FIIs demanding tax on the gains derived from India with retrospective effect beginning the financial year 2007-08. According to a reply in the Parliament, it is estimated that the revenue authorities have issued as many as 68 notices amounting to demand worth INR 602 crore (approximately USD 100 million).
However, the current Finance Minister, Mr. Arun Jaitley, reiterated that the tax demand on FIIs is a legacy issue and since it is a view taken by a judicial authority(1), which has already been challenged before the Supreme Court of India (Court of Final Instance). Authority for Advance Rulings (AAR) held that MAT is applicable on foreign companies too and this has opened Pandora Box. Emboldened by such retrogressive orders, domestic tax authorities started sending show cause/demand notices left right and center, to FIIs for paying MAT on capital gains.
This has been a long settled issue in pursuance to various favorable rulings including the 2010 ruling (2), wherein AAR held that MAT did not apply to foreign companies, the Act defines foreign company as a company having a place of business in India, hence this suggestion. Even the notes on clauses explaining the provisions of MAT, past circular issued by the Central Board of Direct Taxes (CBDT) and the Budget speech of then finance minister support this contention.
This has again put the foreign investors in a situation similar to post Vodafone era when the Parliament introduced retrospective amendments to the taxability of the indirect transfer of shares. There is no option left, except to wait and watch how the higher appellate courts in India, including the Supreme Court will take a view on applicability of MAT on Foreign Companies, in general. However, that would not be without huge litigation cost, in terms of time and money, which FIIs will have to spend. Overall, not very favorable situation for India, more particularly when the new government has promised to progressively reduces tax litigation and attract foreign investment.
Another mute question and the important one is, What happens to the investors, claiming benefits of exemption under the bilateral tax treaties, like Mauritius, Singapore etc.? Can the exemption under the Double Tax Avoidance Agreement (DTAAs) be taken away by applying MAT?
Some of the arguments that may favor the FIIs
MAT is nothing but “Income Tax”, which is levied on deemed profit;
Levy of “Income tax” is modified / governed by the tax treatment agreed under the bilateral tax treaties;
Section 90 of the Act, which allows the Indian Government to enter in such tax treaties, for allowing relief from charging of Income tax. Sub-section (2) provides, that where such bilateral tax treaties are entered into, then the entities (including “foreign companies”), to whom such treaty applies, the provisions of the Act shall apply to the extent they are more beneficial to such entities.
Obviously, where the tax treaties provides for capital gains exemption and simultaneously applying MAT under the Act, betrays the spirit of the DTAA. Thus, as the MAT levies a tax the provisions of the Act to that extent, are not beneficial and hence cannot apply. This needs to be reviewed expeditiously;
There are judicial precedents available to support the argument that Section 115JB does not/cannot override provisions of Section 90(2) of the Act. Meaning thereby, that where one claims exemption under tax treaty, MAT will not apply.
It is important to understand and realize that the provisions of Section 90(2) of the Act overrides any other provisions of the Act. To appreciate this, refer to sub-section 90(2A) of the Act, which provides, “Notwithstanding anything contained in sub-section(2), the provisions of Chapter X-A of the Act shall apply to the assesses even if such provisions are not beneficial to him.” Chapter X-A relates to provisions of GAAR and under this Chapter, section 95 starts with, “Notwithstanding anything contained in the Act———.”, provisions of GAAR will apply. Despite of such non obstante cla us e (see underlined), it was deemed necessary, to expressly clarify by way of section 90(2A) of the Act, that it will override section 90(2) of the Act. Same has not been provided for Section 115JB of the Act, which deals with MAT.
It, therefore, appears that MAT provisions cannot take away exemption agreed under the tax treaty.
The Minister of State for Finance, Mr. Jayant Sinha while having a telephonic conversation with the FIIs reiterated that the MAT for FIIs is a legacy issue, which is sub-judice. Hence, it is not possible for the current government to deal with it retrospectively. Further, he emphasized that FIIs domiciled in countries with favorable DTAAs shall get the benefit of the tax treaty. Funds domiciled in Mauritius, Netherland and Singapore will not have any MAT liabilities in India. In response to the commitment made by the Finance Ministry, CBDT issued an Instruction(3) providing some reliefs in cases to FIIs seeking treaty benefits under the provisions of respective DTTAs. The decisions on such claims may be taken within one month from the date such claim is filed.
Recently, the Bombay High Court in his interim order has provided immediate relief to Aberdeen, a foreign portfolio investor facing MAT demand from the income tax department by staying the demand notice slapped on the fund manager on technical grounds.
Legal Remedies available
The aggrieved taxpayer may approach the Commissioner Income Tax (Appeals) under Section 246A of the Act or the Dispute Resolution Panel (DRP) as provided under Section 144C of the Act if the taxpayer wants to raise objections against the draft assessment Order. Section 144C was inserted in the Act by the Finance Act, 2009 and came into effect from 1 October 2009. It is advisable that the aggrieved taxpayer may approach the DRP as the DRP has to complete the hearing and give its final directions within a period of nine months from the end of the month in which the draft order was forwarded to the taxpayer.
Another option that may be available to the aggrieved taxpayer would be to approach the High Court directly through writ petitions filed under Section 226 of the Indian Constitution— the pretext for taking
Instruction No. F. No. 500/36/2015 – FTD-1 dated 24 April 2015 recourse to a writ remedy being the safeguard of natural justice and fundamental rights. The power of high courts to issue writs emanates from Article 226 of the Constitution. It is exercised where the judicial conscience of a court dictates it to act for the enforcement of the fundamental rights of any citizen. Any citizen can invoke the aid of the court under Article 226 against illegal encroachment of rights, attempted by order of any authority, which takes or proposes to take action not authorized under the law.
SK Attorneys Comments
To avoid any such deterrence to foreign investors, it is imperative that the government should bring in the certainty of taxation, avoidance of retrospectively and provide an enabling environment to business and investment, both domestic and foreign. With similar underlying intent, the Government of India on 7 May 2015 referred the matter to Law Commission headed by Mr. Justice A P Shah to expeditiously resolve tax disputes with foreign investors with a mandate to look into controversial issue of payment of MAT by FIIs.
It is expected that the Commission will deliberate on various implications of this vexatious issues and recommend resolution of the dispute for perpetuity. Further, the Government of India showing its proactive and a pro-investors stance, on 11 May 2015 issued another Instruction4 reiterating its earlier position that no coercive action be taken for recovery of demand already raised by invoking provisions of MAT in the cases for foreign companies and shall be put on hold unless the case is getting barred by limitation.
This is a positive approach measure taken by the government to usher India as investment friendly nation for the foreign investors. However having said so, SK Attorneys holds the conviction that this does not bring full certainty to the central issue.
1 Castleton Investment Limited (AAR No.999 of 2010)
2 The Timken Company (AAR No.836 of 2009)
3 Instruction No. F. No. 500/36/2015 – FTD-1 dated 24 April 2015
The author can be reached: info@skattorneys.in.
fii-news.com
