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An analysis by Economic Laws Practice (ELP), Taxand India
Mauritius has been popular for investments into India because of tax benefits resulting from the India-Mauritius Double Taxation Avoidance Agreement (DTAA), which allowed investors to avoid paying capital gains tax.
However, India revised this agreement in 2016 to stop some of these tax advantages, and now, with further amendments, anti-abuse measures have been added to prevent investors from using Mauritius just to get tax benefits.
Mitesh Jain and Hemal Shah from Economic Laws Practice (ELP), Taxand India, have authored a note analysing the amended treaty in more detail. Read the full article below.
The Renegotiation of the India-Mauritius Treaty: Implications for Tax Planning and Investment
Tax haven jurisdictions have long been under the radar of global tax authorities due to the perceived advantages they offer. Mauritius has been a favoured destination for investment in India, on account of the benefits provided by the India-Mauritius Double Taxation Avoidance Agreement (DTAA).
Under the terms of this agreement, capital gains from the sale of shares in an Indian company were exempt from taxation in the source country (India), and Mauritius did not impose capital gains tax either. Consequently, this allowed investors to earn capital gains income without being taxed.
India amended its tax treaties with Mauritius and Singapore in 2016 to discontinue the capital gains benefits provided in the treaties. However, the amended treaties did not incorporate the Principal Purpose Test or other anti-abuse provisions as per MLI minimum standards. Moreover, Mauritius did not classify its tax treaty with India as a Covered Tax Agreement under the Multilateral Instrument (MLI), which meant that the MLI did not alter the provisions of the India-Mauritius Double Tax Avoidance Agreement (DTAA).
In response to concerns about tax planning strategies which exploited gaps in tax rules, the Organisation for Economic Co-operation and Development (OECD) introduced the Action Plans on Base Erosion and Profit Shifting (BEPS), with significant support from the G20 countries.
One of the key measures introduced was the MLI, designed to modify existing bilateral tax treaties to prevent tax avoidance and improve dispute resolution. The Principal Purpose Test, recommended under the MLI, aimed to deny treaty benefits to entities with the primary objective of obtaining tax advantages.
India and Mauritius have now signed the protocol amending their DTAA, which now incorporates the minimum standards of anti-abuse provisions, i.e., the Preamble and the Principal Purpose Test (PPT). This change means that benefits of lower taxation as available under the treaty can be denied to investors investing via Mauritius if one of the primary purposes of investing via Mauritius was to obtain a tax benefit. This emphasises that simply having a Tax Residency Certificate (TRC) issued by Mauritius is no longer enough to claim tax benefits under the treaty.
The proposed amendment may not only impact new investments but also affect historical structures created with tax benefits as a primary purpose. Even grandfathered investments made on or before 31 March 2017 may need to satisfy the Principal Purpose Test to apply beneficial treaty provisions.
However, further clarification from the Income Tax Department through notifications or press releases regarding the government’s intent and the protocol’s applicability is awaited as it has been clarified that the concerns /queries are premature now since the Protocol is yet to be ratified and notified.
The proposed amendment could significantly impact cash inflows from Foreign Portfolio Investments (FPI) and Foreign Direct Investments (FDI) through Mauritius. Only investors with a legitimate business rationale for investing from Mauritius may benefit from the advantageous provisions of the DTAA. If the protocol is applied to historical investments made from Mauritius, investors failing to meet the test may need to revisit the structure/ withdraw their investments from India, leading to a potential decline in fresh investment from Mauritius.
Corporates and Foreign Portfolio Investors (FPIs) investing in India through Mauritius must now reassess and adapt their strategies to comply with the Principal Purpose Test (PPT). This requires demonstrating that the primary motivation for establishing an entity in Mauritius was not to gain benefits from the India-Mauritius Double Taxation Avoidance Agreement (DTAA). Additionally, they must prove that the Mauritian entity is a functioning business, not merely a nominal office address.
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