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FM Defers GAAR By A Year, Halves Tax On PE Investors

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Bowing to pressure, Finance Minister Pranab Mukherjee on Monday announced a slew of measures to provide relief to the jewellery sector and postponed implementation of the general anti-avoidance rules (GAAR) by one year, but offered no concessions to Vodafone involved in tax dispute.

Moving the Finance Bill, 2012 for consideration and passage in the Lok Sabha, Mukherjee halved the capital gains tax for private equity investors to 10 per cent and relaxed the norms for arrest of persons involved in violation of Customs Act.

"The government has decided to withdraw the levy (one per cent excise duty) on all precious metal jewellery, branded or unbranded, with effect from March 17, 2012," he announced, bowing to demand within and outside the House.

He said the threshold limit for TCS (tax collection at source) on cash purchase of jewellery will be raised to Rs 5 lakh from the present Rs 2 lakh.

However, the Minister said, the threshold limit for cash purchase on bullion will be retained at Rs 2 lakh. Bullion will not include any coin or other article weighing 10 gm or less, he added, setting the tone for the debate on the crucial bill. .

As regards the GAAR, which has evoked sharp criticism from foreign investors, the Finance Minister said, "to provide more time to both tax payers and tax administration to address all issues, I propose to defer the applicability of the GAAR provisions by one year...(it) will now apply to income of financial year 2013-14 and subsequent years."

At the same time, Mukherjee said, he proposed to make some amendments to the GAAR provisions. These amendments including shifting of onus of proof to the revenue department from the tax payers, appointment of independent member in the GAAR panel and permitting investors, domestic and overseas, to seek ruling from the Authority for Advance Ruling (AAR).

In order to provide "greater clarity and certainty" in GAAR related issues, he said, a committee has been set up. It has held several rounds of discussions with various stakeholders including foreign institutional investors and will submit its report by May 31.

He made it clear that there would no relief to Vodafone- type overseas deals involving capital gains tax on sale of domestic assets and the proposed retrospective changes in the Income Tax Act would apply.

"I would like to confirm that clarificatory amendments do not override the provisions of the Double Taxation Avoidance Agreement (DTAA) which India has with 82 countries. It (retrospective changes) would impact those cases where the transactions has been routed through low tax or no tax countries with whom India does not have a DTAA," he said.

Sandip Sabharwal, CEO, Portfolio Management, Prabhudas Lilladher, Mumbai said: "GAAR (General Anti-Avoidance Rules) deferral is extremely good for markets and economy as a lot of fund flows had come to a stand still because of this."

"At a time when our current account deficit is so high we can't scare away foreign capital. Now that GAAR is deferred, India will stop underperforming global peers at least."

No Respite For Vodafone
Vodafone has won the Rs 11,000 crore tax case in the Supreme Court, but after the passage of the Finance Bill, the government can initiate proceedings to recover the tax.

"I have asked the Central Board of Direct taxes to issue a policy circular to clearly state this position after passage of the Finance Bill," he said.

The government had earlier said that under the Income Act, the revenue department cannot reopen cases of beyond six years.

Capital Gains Tax For PE Investors Halved
The Minister also announced that long term capital gains tax for private equity investors, domestic and foreign, will be halved to 10 per cent as is applicable for Foreign Institutional Investors (FIIs). Earlier, it was 20 per cent.

In order to provide depth to the capital markets through listing of companies, the Minister proposed to extend the benefit of tax exemption on long term capital gains to the sale of unlisted securities in an initial public offer.

"I propose to provide the levy of Securities Transaction Tax (STT) at the rate of 0.2 per cent on such sale of unlisted securities," he said.

As regards the levy one per cent Tax Deduction at Source (TDS) on transferee of immovable property (other than agricultural land), Mukherjee announced withdrawal of the budget proposal in view representation received from different stakeholders that the move would enhance compliance burden.

On the controversial and harsh proposal of making certain offences under the customs and central excise laws as cognisable and non-bailable, the Minister said, "In response to concerns expressed by members that the proposal regarding grant of bail only after hearing the public prosecutor is too harsh, I propose to omit this provision entirely.

"In addition, only serious offences under the customs law involving prohibited goods or duty evasion exceeding Rs 50 lakh, shall be cognisable. However, all these offences shall be bailable," he said.

Mukherjee said the RBI is formulating a scheme for subsidiarisation of Indian branches of foreign banks to "ring fence" Indian capital and Indian operations from economic shocks external to the Indian economic scenario.

"To support this effort, I propose to provide tax neutrality for such subsidiarisation," he said.

With a view to augmenting long-term low cost funds from abroad, the minister announced that the lower rate of 5 per cent withholding tax will be applicable to all businesses, in addition to infrastructure sector.

"This lower rate of tax would also be available for funds raised through long term infrastructure bonds in addition to borrowing under a loan agreement," Mukherjee said.

On concerns of state governments on Service Tax, he said, "I have decided to address their concerns by making changes in the definition of 'service' which will exclude the activities specified in the Constitution as 'deemed sale of goods'. The definition of 'works contract' has also been enlarged to include movable properties."

Besides, exemption for specified services relating to agriculture in the Negative List has also been extended to agricultural produce enlarging the scope of the entry.

Good For The Market
A deferment of GAAR can perk up sentiment in general, but the overall mood towards emerging markets is so weak there may not be a flood of investments, says Abheek Barua, chief economist, HDFC Bank. Under the GAAR regime, authorities can deny tax benefit to any arrangement that is entered into primarily to avoid tax. The rule will almost certainly tax foreign institutional investors that route portfolio investments into India through token operations in Mauritius with which India has a tax treaty.

Foreign investors had raised concerns on two Indian provisions seeking to tax indirect investments and combat tax evasion. The first gives India power to retroactively tax the indirect transfer of assets. The second targets tax evaders via the General Anti-Avoidance Rule (GAAR), putting the onus on investors registered in countries with special tax exemptions with India to prove they do not intend to explicitly avoid tax. Last week, Mark Mobius, one of the world's best-known emerging market investors, had termed the proposed tax rules as a big mistake.

Macquarie's Asia hedge fund in March exited its short positions in Indian single stock futures in response to the controversial proposed tax rules, fearing they would lower investment returns.

Indian markets could have lost an estimated $10 billion worth investments from the overseas funds and ultra-rich foreign individuals over a period of little more than one month on taxation worries.

These investors, who mostly invest through P-Notes (participatory notes) in the Indian markets have either pared their exposure to the Indian securities or have deferred their investments ever since India proposed a new tax policy, the General Anti-Avoidance Rule (GAAR) late in March 2012, industry sources said.

FIIs Infuse Rs 876 Cr In Equities
However, with the government being on the backfoot on the tax issues, overseas investors infused Rs 876 crore into Indian equity markets in the first week of May on hopes the government may review the General Anti Avoidance Rule (GAAR) provisions in coming days to address most of the concerns of FIIs, say experts.

Foreign institutional investors (FIIs) had pulled out over Rs 1,100 crore from equity markets last month due to fears that proposed GAAR provisions could lead to heavy tax burden for investors putting money through tax-friendly places like Mauritius.

FIIs made gross purchase of equities worth Rs 6,716.50 crore and sold shares valued Rs 5,840.40 crore translating into a net inflow of Rs 876.10 crore during May 2-4, according to the data available with the market regulator Sebi.

Market experts said there is widespread expectations that government may review GAAR (General Anti Avoidance Rule) provisions in the coming days. The revision expected to address most of the concerns of the FIIs.

However, last month FIIs pulled out Rs 1,109 crore after investing a hefty sum of Rs 43,951 crore the first three months of 2012.

This was the first instance of monthly net outflows by FIIs since November 2011.

The last month's withdrawal was attributed by marketmen to a host of factors including government's GAAR proposal announced in the Budget which has been the real dampener for several FIIs whose clients had used participatory-notes to invest in the Indian stock market.

The sentiment was further soured by ratings agency S&P's move to lower India's outlook to negative from stable, citing slow progress on its fiscal situation and deteriorating economic situation, experts added.

During the current month, foreign fund houses poured in Rs 876.10 crore in the stock market and Rs 748.10 crore in the debt market, taking the collective net inflow by FIIs in stocks and bonds to 1624.20 crore.

The BSE barometer Sensex has fallen 320.11 points, or 1.87 per cent on the last trading session to close at 16,831.08 points.

With the latest inflows, FIIs investment reached to Rs 43,717.70 crore into the equity market so far this year and Rs 16,358.60 crore into the debt market during the same period.

FII pulled out over Rs 2,700 crore from the equity market in 2011 calender year.