The finance ministry on Thursday turned down foreign institutional investors' demand that capital market transactions be exempted from the proposed General Anti-Avoidance Rule, to be implemented from April 2013.
In draft guidelines on GAAR, on which stakeholders' comments were invited, the ministry rejected suggestions to prescribe a flat tax on all foreign institutional investor transactions but tried to soften the blow by clarifying non-resident investors among FIIs would not be taxed.
This means the government would tax the net capital gains of only FIIs registered in India and not seek the identity of sub-account holders.
"In other words, the custodians will now have to cut the tax deducted at source mandatorily.
"Earlier, they did not cut TDS on transactions by FIIs from tax havens," said an investment banker.
The Central Board of Direct Taxes said exempting capital market transactions and having a flat tax on FII gains without distinction between various transactions were not viable options, as they were not permitted under the provisions of the Income Tax Act.
After stakeholders' comments, the board would come out with the final guidelines.
It, however, said a safe harbour could be provided to FIIs subject to the payment of taxes in keeping with domestic law.
Safe harbour rules exempt taxpayers from detailed scrutiny and allow tax authorities to accept the transfer price declared by the assessee.
GAAR provisions would apply to income arising or accruing after April 1, 2013.
"Where an FII chooses not to take any benefit under an agreement entered into by India under Section 90 or 90A of the (Income Tax) Act and subjects itself to tax in accordance with the domestic law provisions, then the provisions of Chapter X-A shall not apply to such FII or to its non-resident investors," the CBDT proposed in the draft guidelines issued late on Thursday.
Finance Secretary R S Gujral categorically denied speculation that GAAR proposals were being dropped or deferred.
The finance ministry plans to address all tax-related issues in three to four weeks to revive investor sentiment.
"All concerns pertaining to tax issues need to be addressed, whether it is GAAR, retrospective amendment or tax on software companies. . . Certain things always create some grey areas.
If the legislative intent needs to be put appropriately, we will do that. . . These are not small issues," Gujral told reporters after a meeting with officials on international taxation issues.
GAAR guidelines give illustrations to help investors understand what permissible and impermissible arrangements are.
It said where only a part of the arrangement was impermissible, the tax consequences would be limited to only that part of the arrangement.
Only arrangements where the tax benefit in a year is above a particular threshold will be covered by GAAR provisions to spare small taxpayers.
Time limits for completing various actions under GAAR would also be defined.
