Government of India versus FPI: Is there a solution?

MUMBAI/NEW DELHI: Markets fell 500 points on Monday. Punters’ worries about current tax disputes between Modi Sarkar and foreign portfolio investors (FPIs) being one reason why the Sensex dived.

There has been a battle of phrases between FPIs and North Block. And it looks as if this will be a bitter dispute. But that need not be the case. FPIs have reasons to complain. But GoI is less inflexible than it appears. Specifically, FPIs can serve themselves better by challenging a tax ruling rather than lobbying to change it.

ET spoke to a large number of market players and government officials, including an extensive on-record interaction with the Union revenue secretary, Shaktikanta Das, for this story.

Why FPIs are mad

India’s taxmen sent a raft of notices to FPIs on minimum alternate tax (MAT)supposedlyowedintherecent past. MAT can’t belevied from this financial year on FPIs. So,why did taxmen, despite this signal in the budget, dredge up retrospective tax demands on 150 FPIs? Officials say numbers are much lower.

The broader argument that MAT must not be levied on entities that don’t have a balance sheet in India hasn’t cut ice with taxmen, who have cited a verdict by the Authority of Advance Rulings( AAR)tosupport their tax claims. Tax experts and FPIs say even AAR is not a sufficient justification. Their argument is a nutshell: AAR rulings on MAT and FPIs are not uniform and taxmen have cherry picked rulings that allow them slap retrospective notices.

A 2012 AAR verdict on Castleton Investment Ltd (CIL) held that MAT is applicable to foreign companies even if they do not have a permanent establishment in the country.

But FPIs say there are AAR verdicts that contradict this finding. They point to, among other verdicts, an AAR 2010 ruling in the Bank of Tokyo-Mitsubishi UFJ case in 2010. That ruling held MAT can only be levied on domestic companies and not on foreign companies with no balance sheet in India.

These contradictory AAR verdicts are the source of trouble FPIs and tax experts say, adding that taxmen often resort to issuing competitive tax demands to look good to their bosses. AAR rulings are company specific, FPIs say. So, if taxmen are taking the Castleton ruling as a basis for wide-ranging retrospective tax demands,the question is why the Bank of Tokyo ruling is not taken as the basic ruling.

Tax officials say they have to follow judgement as otherwise they risk an adverse comment from Comptroller and Auditor General for causing revenue loss to exchequer.

What experts fear

Tax experts are unanimous the taxmen vs FPI issue is hurting India’s growth prospects, even as they appreciate Modi government decisions like deferring GAAR and not appealing the Vodafone judgment.

Ketan Dalal, senior tax partner, PwC, said “tax uncertainty is much higher in Indiacomparedto other investment destinations” and that the “problem is compounded by the lack of quick resolution”.”The MAT controversy and ongoing issues on transfer pricing could affect inflows of funds to some extent, and thereby growth”, Dalal observed.

Some experts say while tax policies usually have a 15 per cent weight in an investment decision, for India-related decisions currently,tax policy weightage is almost 40 per cent. This takes investment away from India to destinations like Philippines and Indonesia.

Dinesh Kanabar,CEO of tax advisory firm Dhruva, says “the advance rulings regime is three years in arrears. We have a tax panel that’s yet to come out with recommendations and several great initiatives lack implementation.”

“Tax terrorism and tax haven are cliches. What is needed is a predictable tax policy implemented in an even-handed manner,”added Kanabar.

Some foreign investors were rattled by Finance Minister Arun Jaitley’s remark that India was not a “tax haven”. “Where is the question of tax heaven in the issues being raised? We are just demanding a fair taxation policy,a consistent tax policy that doesn’t change with the whim of a tax officer or a minister,” said a foreign investor who did not want to be identified.

Why GoI says cool it

India’s revenue secretary, Shashikant Das, the key official in tax matters, told ET foreign investors are getting unnecessarily worried.

“World over when a regulatory procurement is not liked by the stakeholders they go to the next higher judicial forum and appeal and get relief if there is merit in their case. The authority for advance ruling has given a ruling. They went to the authority. We did not go. The authority gave a ruling in favour of the revenue. Since it is against you, you are saying this ruling is not good. If it is not good go to the next higher legal forum. Instead of that you come to the government and say waive it. Howcan the government waive it?”, Das told ET.

Das, however, did not want to comment on whether MAT can be applied to FPIs, but other tax officials ET spoke towere clear.

“FPIs may have a corporate balance sheet outside but they all have separate income and expenditure statement for their India operations,” said one official who did not want to be quoted.

How GoI defends the taxman

ET asked Das about FPI critique that taxmen are cherrypicking AAR rulings for retrospective tax claims and also that taxmen are making revenue claims under pressure or peer group competition.

The secretary’s response was that FPIs had time to challenge adverse rulings but they didn’t. And that taxmen are simply doing their duty, there’snorevenue pressure.

The other official quoted earlier said tax officials have to follow judgements and rulings as otherwise auditwould raise objections.

“Why a ruling where in tax was due to government was not applied,” he said refuting cherry picking allegation.

The secretary also says FPIs’ demand on withdrawing notices is untenable.” What they are asking and expecting is a retrospective exemption. That is difficult. We are following the letter of law. Notices issues are legitimate action within the ambit of law.”

“FPIs can still go to court”, Das pointed out.

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On taxmen’s alleged over enthusiasm, he makes this point: “If a tax officer makes an incorrect assessment…arrears outstanding in his books go up-…he becomes accountable…so nobody is interested in making assessments that cannot stand the scrutiny of law.”

His conclusion: “The argument that tax officers are under pressure to raise revenues so they make these kind of assessment is not correct.” Das also says budget’s tax estimates are realistic so there’s no revenue pressure behind these tax demands.

Tax terrorism? ‘No way’

North Block dismisses all accusations of tax terrorism, arguing neither the FPI-MAT issue not the tax demand on Cairn justifies such a critique.

Officials point out that most FIIs come through Singapore and Mauritius and MAT does not apply to them.

Das says for the government to waive an extant tax demand is against its responsibilities to Parliament and voters.”How does the government explain it (a waiver) to Parliament? How does the government explain it to the people of the country?”

The secretary says proof of government reasonableness is that FPIs were exempt from MAT in 2015 once North Block examined the issue. But previous tax demands can’t be swept away, he insisted.

“Perceptive and serious investors distinguish between a legitimate and illegitimate action. Will it (tax demands on FPI) kill investor sentiment? Myreply is “no” because serious investors knows where the government is wrong and where it is right”,Das told ET.

“This sloganeering should stop. We should get down to some serious business”, India’s most powerful revenue bureaucrat tells investors critiquing the government.

There is some support for this view. “These draft orders can and will be contested by the aggrieved FPIs in further appeals. Thus this issue is unlikely to resolved for a few years till clarity emerges at the Supreme Court and will result in these past years being contested in appeals at various levels by both the Tax department as well as tax payers” says Sudhir Kapadia of EY.

Will investors be convinced, that’s the big question.