The taxation dispute between the Indian government and foreign investors seems never-ending. It came to the fore again this month when foreign investors (FIs) were asked to pay a minimum alternative tax (MAT) for capital gains made in Indian stock markets. The estimates of the tax demand vary between Rs. 40,000 crore, a figure that has also been cited by Finance Minister Arun Jaitley, and just over Rs.600 crore, as quoted by his junior minister Jayant Sinha. Whatever the number is, the tax issue has been a sore point with foreign investors. Sanjay Vijayakumar has this explainer on MAT.

What is MAT?

MAT was first introduced in 1996 to make companies pay at least some tax. That is because some were paying little or no tax, as they were enjoying tax exemptions, but at the same time were reporting profits and even paying handsome dividends to the shareholders.

According to brokerage CLSA, the list of MAT companies in India includes several large companies such as Shree Cement, Dabur, and Godrej Consumer, power utilities such as NTPC, Power Grid Corporation, and JSW Energy, and infra developers such as Adani Ports. The core business of these companies enjoys certain tax exemptions. But these companies do report accounting profits. And so, the Government levies MAT.

How is MAT calculated?

MAT is calculated at 18.5 per cent on the book profit (the profit shown in the profit and loss account) or at the usual corporate rates, and whichever is higher is payable as tax. Payers of MAT are eligible for tax credit, which can be carried forward for 10 years and set off against tax payable under normal provisions.

Why is this an issue for foreign institutional investors in Indian capital markets now?

As mentioned in the introduction, foreign portfolio investors, or foreign funds that invest in stock markets here, have received notices for liabilities under MAT to the tune of Rs.40,000 crore. But how is this possible, especially after Mr. Arun Jaitley said in his recent Budget speech that he was exempting foreign investors from paying MAT taxes? True, he said that, but that is effective only from April 1, 2015, and does not cover prior years.

How much are foreign institutional investors taxed currently?

Foreign investors in India have had to pay 15 per cent on short-term listed equity gains, 5 per cent on gains from bonds, and nothing on long-term gains.

What does the new tax demand mean to them?

According to CLSA, MAT will be applicable on short-term and long-term capital gains and interest income. Also, the potential tax liability could go back as far as financial year 2008-09.

What is the stance taken by the foreign institutional investors?

According to Vikas Vasal, Partner-Tax with consultants KPMG, foreign investors are of the view that MAT should be levied only on the domestic companies and not on foreign companies or foreign investors. One of their key arguments is that MAT can be levied only on book profits, to compute which there must be a requirement to maintain books of accounts. As there is no such requirement, foreign investors argue, they should not be asked to pay MAT.

How are the tax authorities going about this?

Taxmen are disputing the stance of foreign investors. They are going ahead with their demand, as the 2015 Budget did not provide for MAT relief retrospectively. The relief is available only from April 1, 2015.

The tax authorities would also be looking forward to how a tax case involving Castleton Investments, a fund, is decided. In 2012, the Authority for Advance Rulings ruled that Castleton, having transferred shares from a Mauritius entity to a Singapore one, is liable to pay MAT. The Authority for Advance Rulings is constituted to provide clarity on tax assessment in cases largely involving non-residents. Their rulings, however, are only persuasive and not binding.

The case is now pending in the Supreme Court.

Are there any other rulings on such issues?

A note by consultancy EY cites a few, including a 2010 case involving Timken and Praxair Pacific Ltd. In this, the Authority for Advance Rulings held that foreign companies not having presence in India are not liable to MAT provisions.

And in September 2014, the Delhi Income-tax Appellate Tribunal delivered a similar ruling in a case involving The Bank of Tokyo and Mitsubishi UFJ. It observed that the intention of the legislature was very clear — that MAT provisions are not applicable to foreign companies.

So, the Supreme Court judgement on the Castleton case would be keenly watched for more clarity on the issue.

Has the Finance Minister responded in any way?

Yes, the ministry has said that foreign investors domiciled in countries that have tax treaty pacts with India do not have to pay MAT taxes. These countries include

Singapore and Mauritius. Also, the Central Board of Direct Taxes has directed authorities to close treaty cases in a month. According to Rajesh H. Gandhi, partner, Deloitte Haskins and Sells LLP, more than 30 per cent of investments by foreign institutional investors come from treaty countries.

However, those outside of treaty countries, it could be long drawn legal battle. About a third of such investments come from the U.S. India’s treaty with the U.S. does not cover capital gains provision, according to London-based ICI Global, a lobby representing foreign investors.

Why is this important for Indian markets?

Foreign investors have been the major drivers of the stock market. They have pumped in over $50 billion in the Indian markets since the election of Prime Minister Narendra Modi in May last year. Any uncertainty over tax is likely to hurt investor sentiment.

Question: There has been much debate on MAT which FIs have been asked to pay for capital gains in the Indian stock market. Explain what MAT is and the main points surrounding the debate.

MAT/Minimum Alternative Tax: Key Features 

• Taxation dispute between the Indian government and foreign investors has taken another turn with the FIs being asked to pay minimum alternative tax/MAT for capital gains made in the Indian stock market 

• Estimates of MAT have been varying between INR 40,000 crore and INR 600 crore

• MAT was introduced in 1996. It was intended to ensure companies pay at least some tax

• MAT was introduced because many firms were paying little or no tax as they were benefitting from tax exemptions

• They were reporting profits and dividends for shareholders 

List of MAT firms in India includes large companies such as:

• Godrej Consumer• Shree Cement • Dabur• Power utilities/NTPC, JSW Energy and Power Grid Corporation• Infra Developers like Adani Ports

Method of Calculating MAT

• MAT is computed at 18.5% on book profit or profit shown in profit and loss account

• It is also calculated on usual corporate rates and whichever is higher is payable as tax

• MAT payers are eligible for tax credit which can be carried on for another 10 years and set off against tax payable under normal provisions 

Main Points Surrounding the Debate

• Foreign portfolio investors or foreign funds investing in stock markets

• Though the budget said MAT would not be relied on FIs, that is only effective from April 1st, 2015 and does not cover previous years 

• FIs have agreed to pay 15 percent on short tern listed equity gains, 5% on gains from bonds and nothing for long term gains 

• As per the CLSA, MAT will apply for long as well as short term capital gains and interest income

• Potential tax liability could stretch as far as 2008-2009

• FIs want MAT to only be levied on domestic companies and not foreign companies and/or investors

• They hold that MAT can be levied only on book profits for which there should be a requirement to maintain book of accounts

• As this requirement is absent, FIs say they should not be made to pay MAT

• Taxmen are saying that 2015 Budget did not provide for MAT relief in a retrospective basis; relief is only available from April 1, 2015

• Authority for Advance Rulings hold that international companies not having any presence in India are not liable to MAT provisions as per a 2010 case involving Timken and Praxis Pacific Ltd.

• In September 2014, Delhi’s Income Tax Appellate Tribunal delivered a similar ruling in a case involving Bank of Tokyo and Mitsubishi UFJ

• Intention of legislatures was that MAT cannot be applied for foreign companies 

• SC judgement on the Castleton case is also awaited 

• Finance Ministry has said FIs domiciled in countries with tax treaty pacts do not have to pay MAT taxes; this includes Singapore and Mauritius 

• Central Board of Direct Taxes has also directed authorities to close treaty cases within a month; more than 30% of investments by FIIs come from treaty nations, according to an estimate by Deloitte Haskins and Sells 

Facts and Stats

• Those outside of treaty countries could be involved in a long drawn legal battle

• A third of such investments are from US; India’s treaty with the US does not cover capital gains

provision according to lobbies representing FIs

• FIs are the major drivers of the stock market 

• They have injected over USD 50 billion in the Indian markets since PM Modi’s election last year