Black money: Failure to sign Foreign Account Tax Compliance Act with US may hurt India

NEW DELHI: The government’s ability to keep a secret could determine whether it will be able to sign a key accord with the US before the year-end deadline. It’s not just private capital flows that face the risk of higher withholding tax there if India is unable to sign the pact on exchanging data related to bank accounts, but interest earned on RBI’s US treasury bond holdings could also face such levies, potentially hurting government finances.

This goes to the heart of the misgivings the government had with regard to passing on 627 names of overseas account holders to the Supreme Court in the black money case — information that had been obtained from other countries under bilateral treaties. Such data are usually meant to be kept confidential and revealed only if the information leads to prosecution.

The government was forced to pass on the list after the apex court insisted. The latter then handed the ‘sealed cover’ to the special investigation team (SIT), which is probing the matter. SIT had the names anyway, the Centre having given it the list on June 27. India cannot sign Foreign Account Tax Compliance Act (FATCA) accord before December 3, when SC will hear the case next.

This has raised the prospect that India could miss the December 31 deadline for signing the pact. Unless it’s made explicit that New Delhi will respect confidentiality clauses, it may not be able to sign the accord.

RBI has already written to Finance Minister Arun Jaitley seeking early accession to the agreement, arguing that a delay could have serious consequences for the country’s financial sector.

“We are awaiting clarity on signing the agreement,” said an official, expressing the government’s helplessness in the matter.

The central bank transferred its entire Rs 52,679-crore surplus from its earnings to the government earlier this year, immensely improving finances and alleviating fiscal slippage concerns. Not signing FATCA could put this under a cloud. The apex court has directed the Justice MB Shah-led SIT to look at the issue of confidentiality clauses along with other matters in international treaties after the government sought clarity. SIT has been asked to give a report by end-November to the apex court.

FATCA was enacted by the US in 2010 as part of the Hiring Incentives to Restore Employment (HIRE) Act to combat tax evasion by its nationals holding investments in offshore accounts and over 100 countries have already signed it.

There are two options under FATCA — an individual financial entity can enter into an accord with US revenue authorities or a country can sign the agreement covering its financial entities, saving them the trouble of doing so individually. Without a treaty, payouts by US financial entities would face a mandatory withholding tax of 30%.

If the court endorses confidentiality clauses incorporated in international treaties to protect data, India will have to rush through domestic processes, including Cabinet approval for the agreement, officially sign FATCA and notify it, something that should be possible in 27 days. However, any lack of clarity on confidentiality or hiccups in meeting the deadline could lead to serious economic consequences.

RBI, which manages the country’s debt, parks a large chunk of its money in US treasury bonds. Its holdings were pegged at a little more than $79 billion as of September. Under inter-governmental agreements (IGA), central banks are completely exempt from any requirements. Under FATCA, if an IGA is not signed, they are otherwise exempted except for their earnings on investments in certain categories.

To be sure, US has provided for grandfathering — which means the provisions will not apply — for treasury bonds outstanding on March 18, 2012, and which have not been materially modified since. But there is a risk that the penal provisions of the new rules under the pact could apply beyond that cutoff. This would hurt the country’s reserves as well as the surplus transfer to the government by the central bank.

Indian companies could also face difficulties in raising external commercial borrowings or see their costs go up as payouts to non-compliant jurisdictions would mean an additional withholding tax outgo of 30% not just in the US but also in other countries, including OECD nations that have endorsed it. Breaches of the confidentiality clause could also expose India to similar risks.