India: Finance Act, 2013 Finally Passed: Foreign Debt Further Encouraged

We had earlier sent you our hotline on Budget 2013 (India Budget Insights 2013-14) on February 28, 2013 in which we had discussed some of the key changes proposed under the Finance Bill 2013. A copy of the hotline can be found by clicking here. We then hosted a roundtable and webinar in collaboration with Asia Pacific Real Estate Association at our offices in Mumbai and later in New York on new structures evolving in the real assets space post Budget 2013 with a heavy focus on structured debt products. Copy of the transcript of the roundtable, our research paper on Singapore v. Mauritius, Cyprus debt crisis and our research paper on debt and private equity in real assets can be found by clicking here.

Budget 2013 has now been passed by the Parliament and signed into law by the President of India, with a few amendments and this Private Debt and Private Equity in Real Assets Update provides a brief analysis of some of the provisions that have been changed in the Finance Act, 2013 (as it has now been passed) with their impact on the private debt and private equity investments in the real assets industry.

1. Interest on foreign debt slashed from 40% to 5%

In a major shot in the arm to foreign debt investments in India, the Government has reduced the tax on interest income at the hands of Foreign Institutional Investors ('FII') and Qualified Foreign Investors ('QFI') from 40% to 5%, subject to certain ceiling as may be prescribed by the Government. The reduction of tax payable on foreign debt is a welcome surprise by the Government considering no such reduction was proposed (or even considered) for payments made in relation to debt securities issued by non-infrastructure sector companies at the time of the Budget proposal.The reduction in tax has been introduced by a new provision in the Income Tax Act, 1961 (Section 194LD) which provides that interest payments made to Foreign Institutional Investors (FIIs) and Qualified Financial Investors (QFIs) on or after June 1, 2013 but before May 31, 2015 on (i) rupee denominated bonds of an Indian company; and (ii) a Government security; would be subject to a tax at the rate of 5%, instead of the ordinary rate of up to 40% (FIIs were taxed at a lower rate of 20% on interest income). However, the lower withholding rate would be applicable only on interest paid on bonds whose interest rates do not exceed the rate as may be specified by the Central Government in this regard. At present, the Central Government is yet to prescribe the applicable cap on interest rates in this regard.

2. Elimination of debt allocation sub-limits in the FII / QFI regime

Foreign investment in listed rupee debt was earlier permitted only if an entity was an FII, and even then the investment was subject to the FII buying debt limits, which with the exception of a few cases expired upon redemption or sale of their debt investments. The total debt limits available were USD 25 billion for corporate bonds and USD 25 billion for infrastructure bonds. Later, even QFIs were allowed entry into the corporate debt markets but with a small window of USD 1 billion within which they could purchase listed corporate bonds.

Effective April 1, the Government announced a major rationalisation of foreign investment in corporate bonds. No more bidding now and no need to be an FII for purchasing debt limits '" QFI'"s basket to acquire corporate bonds has been extended from USD 1 billion to USD 51 billion. Just for a quick background, QFI's are foreign investors that can directly invest in listed equity and listed non-convertible debentures without the need to go through an FII. For a better understanding of the QFI regime, please read research paper debt and private equity in real assets by <clicking here.

Through corresponding circulars issued by the Reserve Bank of India and the Securities and Exchange Board of India, the various sub-limits for investment in debt in India have now been broadly merged into two categories '" government debt and corporate debt. More importantly, the process for allocating limits through auctions has been liberalized significantly, as now until overall investment reaches 90% (coming up to around USD 45.9 Billion!) of the total debt limit, investments can be made by eligible investors without going through the auction process. A large amount of such debt limits currently remains unutilized. For more details on rationalization of debt limits, please refer to our hotline - Foreign Debt Encouraged - Government Rationalises Debt Allocations'" by clicking here.

The rationalization of sub-limits and the liberalization of the operational mechanism for utilizing the debt will prove very useful to the investment community, especially on two counts '" (i) this would reduce the cost of the investor (as bidding costs for debt limits were quite expensive); and (ii) the investor would no longer be under an uncertainty as to whether would be able to acquire the debt limits, which became a huge concern especially when the ability to re-utilize the debt limits available was restricted under various SEBI debt limit circulars. Availability, allocation and expiry of debt limits and bidding for them were one of the largest challenges that were keeping foreign investors from considering investments in such listed debt instruments. However, with such simplification and importantly buybacks of shares being now subjected to an additional tax of 20%, foreign investors are likely to take the structured debt route for investing into India, especially in those classes where returns are expected by way of cash up-streaming.

3. GAAR / Tax residency

There was some amount of anticipation in the market on the GAAR front, especially in light of the Press Release made by Ministry of Finance on January 14, 2013. However, the Government failed to cover all bases that it had promised through the Press Release. Some of the key changes made to GAAR under Finance Act, 2013 are as follows:

  • To defer the implementation of GAAR for 2 years.
  • GAAR shall apply only if the main purpose of an arrangement is to obtain a tax benefit. Previously, GAAR would apply even if obtaining the tax benefit is one of the main purposes of an arrangement. Presumably, the new GAAR provisions may not apply if an arrangement is backed by sufficient business purpose.
  • Factors such as the holding period of the investment, availability of an exit route and whether taxes have been paid in connection with the arrangement may be relevant but not sufficient for determining commercial substance. Interestingly, these were the key factors considered by the Supreme Court of India when it decided that the USD 11.1 billion Vodafone-Hutch transaction was not a sham and could not be taxed in India.
  • GAAR cases shall be scrutinized by an Approving Panel chaired by a retired High Court Judge, a senior member of the tax office (of the rank of Chief Commissioner of Income Tax) and a reputed academician or scholar with expertise in taxation or international trade and business. Previously, provisions relating to the Approving Panel only contemplated members from the tax department, which raised key questions on independence, lack of objectivity and bias.

Further, the Finance Act, 2013 has also added language in relation to availing of treaty benefits, requiring for an assessee claiming treaty benefits to provide such documents and information as may be prescribed. It remains to be seen if this language will be utilized to deny treaty benefits to bona fide investors.

4. Transfer of '"Real'" Assets by Infra / Realty Companies at Reckoner Value

As a background, Section 50C (Special provision for full value of consideration in certain cases) of the ITA provides for computation of capital gains by a transferor in cases where land and building (not development rights) are transferred at a price below the circle rate of the property. Under this provision, if the consideration accruing / received by a transferor is less than the value adopted / assessed / assessable by any authority of a State Government for the purpose of payment of stamp duty on such transfer, the value so adopted / assessed / assessable shall, for the purposes of computing capital gains from transfer of such asset, be deemed to be the full value of the consideration received / accruing as a result of such transfer. However, since Section 50C was limited only to capital assets, transfers by real estate developers were outside the purview of Section 50C as real estate for real estate developers would qualify as stock-in-trade and hence business income, not capital gains. Several Indian real estate assets could be flipped to the fold of offshore companies for the purpose of offshore listings under this route at prices much below market value, as the founders would acquire shares in the offshore company.

The Finance Act 2013 has now inserted a new section 43CA (Special provision for full value of consideration for transfer of assets other than capital assets in certain cases) in the ITA. Under this provision, where the consideration accruing / received by a transferor of an asset (other than a capital asset), being any land or building or both, is less than the value adopted / assessed / assessable by any authority of a State Government for the purpose of payment of stamp duty on such transfer, the value so adopted / assessed / assessable shall, for the purposes of computing profits and gains from transfer of such asset, be deemed to be the full value of the consideration received / accruing as a result of such transfer. Extending such deeming fiction to assets other than capital assets is likely to be a major dampener for real estate developers who may want to do an intra-group transfer or restructuring at book value. This may also adversely impact potential restructuring by asset-heavy companies such as infrastructure and real estate companies looking to introduce foreign investment in SPVs where the land / building has been held at the holding company level '" as the transfer by the holding company of the land / building at value below the circle rate to the SPV into which foreign investors may invest may no longer be tax efficient.

In addition to the insertion of 43CA, the Finance Act, 2013 has also added an additional anti-avoidance provision making modification to Section 56(2)(vii)(b). Previously 56(2)(vii)(b) stated that where any immovable property, whose stamp duty value exceed INR 50,000, was received by an individual or a Hindu Undivided Family or 'HUF' (an India specific entity that relates to ancestral property held collectively by a family and administered by the head of the family) without payment of any consideration, then tax would be levied on the stamp duty value of the immovable property on such Individual / HUF. The Finance Act, 2013 has now extended the scope of this provision to also apply even in cases where the Individuals / HUFs receive a consideration lower than the stamp duty value.

CONCLUSION

Budget 2013 has been a big disappointment for the real estate sector primarily on account of imposition of "distribution tax" on buyback of shares. Currently, most companies involved in real estate distributed profits to private equity investors by way of buyback, which resulted in capital gains at the hands of the investor and would be exempt in most cases as the investor would be from a traety jurisdiction like Mauritius, Singapore etc. private equity investors will now have to look at other options, for instance, capital reduction, secondary sales to promoters etc. to receive their yield on the project or final exits in a tax efficient manner. Please refer to our research paper debt and private equity in real assets by clicking here and also to a recent newspaper article on the matter by clicking here.

Budget 2013 has also failed to address some of the important relaxations which the industry was looking forward to. For instance, the tax pass though status has only been limited to Venture Capital Funds registered as Category I Alternate Investment Funds and not to other categories of Alternative Investment Funds (including real estate funds largely organized as Category II Alternative Investment Funds). There has been no relaxation in the taxation of indirect transfer of shares which were at times used to give an exit to foreign investors which could not exit at India level on account of 3 year lock-in. Also, there has been no clarity on the applicability of Indian minimum alternate tax ("MAT") to foreign companies and to SEZ in particular. However, the encouragement to structured debt products is likely to go long way in developing private equity in real assets space which has been largely inclined towards debt products in the recent past.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Ruchir Sinha
 
In association with
Related Topics
 
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions