India’s domestic equity markets were jittery on May 11, 2016, on news of a phased-out removal of capital gains tax exemption under the India-Mauritius treaty, to be effective March 2017 onwards, according to Singapore banking group, DBS.
These amendments will also have implications on tax treatments under the India-Singapore treaty. Changes here are relevant as Mauritius and Singapore together account for a third of foreign inflows into India (assets under custody) and over half of the FDI flows, the bank pointed out in its daily economic report on Asian economies.
On the economic front, investors have been provided sufficient time to internalise the changes, as its implementation will be staggered (partially applicable from March 2017 and completely from March 2019) and will not be applied retrospectively. In fact, there is a likelihood that investment flows might be front-loaded to tap the current favourable tax benefits.
“Further out, we do not expect flows to dry up as tax benefits to investors will still accrue if held for longer, but short-term/hot-money interests will lose the tax advantage,” said the bank.
Moreover, re-channelling investments through other low tax regimes will become tougher as the GAAR (General tax avoidance agreement) comes into effect from April 2017 onwards.
“Overall these measures are intended to plug potential tax loopholes and have been well-flagged by the authorities,” noted DBS.
In this light, the recent build-up in foreign reserves will help contain India’s vulnerability to external shocks and cover the gradual rise in external debt.
Total foreign reserves rose to a record high at US$363 billion by late-April, up US$11 billion from end of last year and US$16 billion plus from the lows earlier this year.
“Earlier this year, the authorities had dipped into the reserves to offset foreign equity outflows and defend downside pressure on the currency,” observed DBS, pointing out that intervention data from the RBI also reinforces this view.
The shift in sentiments since March saw the tide turn in favour as foreign portfolio inflows soared to US$5 billion in March-April 2016. This saw the central bank return to the other side of the table to mop-up up strong foreign inflows.
“Not only did this prevent the currency from appreciating too much on the back of hot-money flows, but also helped to bridge the systemic liquidity shortage,” DBS pointed out.
Given the likelihood that the US Fed might consider further rate normalisation this year and the looming Brexit risk, the central bank is likely to remain focused on building the reserves stock in the months ahead, believes DBS. fii-news.com
