Call this the GAAR effect. A group of foreign institutional investors on Wednesday met the Finance Secretary, Mr R. S. Gujral, at his North Block office to get clarifications on the proposed General Anti-Tax Avoidance Rules (GAAR).
This meeting comes in the backdrop of fears that any capital gains made by FIIs from share sales in India would be subjected to tax if the taxman were to invoke the proposed GAAR. The rules will come into effect from April 1 after the Finance Bill is passed by Parliament.
The clarifications sought centred around the grounds on which the proposed GAAR would be invoked and what would constitute as “impermissible avoidance arrangements”, the Finance Secretary, Mr Gujral told newspersons after the meeting.
The trigger event, according to the Finance Bill, is the presence of an “impermissible avoidance arrangement, whose main or one of the main purpose is a tax benefit”. Also one of the four regulatory tests should be satisfied for trigger of GAAR.
Trigger point
FIIs fear that the taxman would end up invoking GAAR as the rules provide that “lack of commercial substance” or “deemed lack of commercial substance” would be a valid trigger point and a transaction could be considered as an “impermissible arrangement”. Once GAAR is invoked, the taxman can negate the treaty benefits available to the FII.
Their main concern is about short-term capital gains coming under the tax net, Mr Gujral said. Currently, short-term capital gains made by most FIIs are tax exempt as they claim treaty benefits. By applying GAAR, the taxman can now bring to tax what is exempt by virtue of treaty benefits.
Mr Gujral said that some of the concerns of FIIs would be taken on board while framing the rules for GAAR implementation. The effort would be to ensure that unintended consequences do not occur, he noted.
Tax experts feel that the tax threat on FIIs is for real if GAAR is brought into force as many of these foreign investors lack commercial substance in jurisdictions like Mauritius. Those who attended the meeting include representatives of JP Morgan, CLSA, Morgan Stanley, Goldman Sachs and Credit Suisse. The CBDT Chairman, Mr Laxman Das, was also present.