The Indian government's budget proposal earlier this month to increase taxes on those with annual incomes of more than 20 million rupees($292,269) has rattled many foreign portfolio investors(FPIs).
The realisation that the new tax likely applies to the trusts through which many foreign investors put money into Indian financial markets sent stocks plunging last week. Now, their advisors say the investors are threatening to pull funds from India unless rules are amended so that they won't take a tax hit.
WHAT ARE THE NEW RULES?
In her budget, Indian Finance Minister Nirmala Sitharaman proposed a tax increase of 3% for individuals with an annual income of between 20 and 50 million rupees, and 7% for those earning more than 50 million rupees.
The additional taxes apply to individuals, and groups of individuals who are an Association of Persons (AoP) or a body of individuals. It takes the tax rate of someone earning 20 million rupees up to 39 percent, and for those earning more than 50 million rupees the rate climbs to at least 42.7 percent.
WHO WILL BE AFFECTED?
There are about 9,400 foreign portfolio investors registered in India, largely from tax domiciles in the United States, Mauritius, Ireland, Luxembourg, Singapore and the United Kingdom, who have invested nearly $50 billion in Indian equity, debt and hybrid instrument markets.
Tax experts say 30-40% of them, registered as trusts, could be affected by the new rules.
WHAT IS THE LIKELY INCREASE IN TAX BURDEN?
The FPIs registered as trusts will be taxed as AoPs at the new rates. Though they will continue to be charged at the basic tax rate of 15% and 10% on short term and long term capital gains in financial markets, the increase in the overall income tax rates mean their tax bills will go up substantially.
For corporate funds, there is no change in the tax burden on long term or short term capital gains.
Amit Maheshwari, partner at Ashok Maheshwari & Associates, said many countries don't tax foreign investors on capital gains from listed securities and there is no discrimination against trusts.
"From an investment perspective India could become uncompetitive and expensive," he said.
WILL FPIs WITHDRAW FUNDS OR CHANGE STRUCTURE?
Tax consultants with overseas investors said the majority of investors are unlikely to withdraw their current investments particularly in the debt market though they would continue to lobby for withdrawal of tax rules.
Future investments in India could depend not only on tax rates but on corporate earnings and the fundamentals of the Indian economy compared with other countries.
Large number of FPIs may continue to use trusts and pay higher tax, tax experts said, as their promoters find the structure convenient and always have the option to shift to other markets.
To read the full article, click here