Fresh tax concerns for many FPIs

Mumbai: Fresh tax worries are cropping up for India’s foreign portfolio investors (FPIs) that are structured as trusts and associations of persons (AOPs), this time on the dividend front.

Several such FPIs, including sovereign wealth funds, could end up paying 43 per cent tax on dividend received from listed companies because they’re not eligible for benefits under the Double Tax Avoidance Agreements (DTAAs). According to experts, only funds that are taxable entities in their home jurisdictions can avail of the treaty’s benefits.

FPIs structured as trusts and AOPs are not considered taxable entities in their home countries including the US, Singapore, Mauritius and Ireland. According to industry estimates, about 40 per cent of the FPIs in India have been set up as trusts while 10 per cent are AOPs.

The dividend tax structure was tweaked in the Union Budget for FY21, making dividend taxable in the hands of investors. Until now, it was taxed at the company level at a flat 20 per cent rate for all investors.

The changes were made keeping in mind FPIs that have the option to avail of treaty benefits. While the domestic rate for dividend tax on FPIs is set at 40 per cent plus surcharge, through DTAA, they can pay as little as 5 per cent-10 per cent. Now, concerns over this higher tax have prompted several funds to approach the finance ministry for an exemption.

“The FPIs are now at odds with a policy reform they had lobbied for nearly four years,” said the senior partner of a Big Four consultancy firm.
“Some of the funds have already sent representations to the government seeking an exemption.”

This is not the first time that FPIs structured as trusts are at the receiving end of higher taxation. In 2019, the government levied an additional surcharge on capital gains made by trusts. Following stiff opposition from foreign investors, the government exempted FPIs from the ambit of the law. Foreign funds now want the government to make a similar exemption.

“A foreign trust would generally not be liable to tax in its home country and so would be ineligible for treaty benefits such as under the Singapore treaty,” said Rajesh Gandhi, a partner at Deloitte.

“The US treaty is stricter because US trusts can only claim treaty benefits if the income is actually taxed in the US, either in the hands of the trust or beneficiaries.”

DTAAs ensure that a foreign investor doesn’t pay tax in both the home country and the country where investments are made. The investor pays tax in at least one of the countries. Hence, entities that are not taxable in their home country are not eligible to claim the benefit.

“FPIs structured such as trusts are considered transparent entities and the eligibility of tax treaty benefits either in the hands of trusts or investors is not straightforward,” said Amit Singhania, a partner at Shardul Amarchand Mangaldas. “In case tax treaty benefits are not available, then the tax rate on dividend could be as high as 43 per cent.”

From April 1 this year, all dividend declared and paid will not be subject to dividend distribution tax and will instead be taxed in the hands of the recipient, including FPIs, subject to withholding tax by the companies at 20 per cent.

Dividend received in May can be repatriated only on receipt of a tax deducted at source certificate from the company, which will be issued by July or August, thereby keeping the dividend amount idle for about three months with the merchant bankers of FPIs, said chartered accountant Priyank Ghia.