India Passes Tax Cuts for Foreign Investors

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By Sondre Ulvund Solstad

May. 3 – India will cut the tax rate on income earned by non-residents from investments in corporate and government debt. The cut is part of India’s Finance Bill which was passed by the lower house of the Indian parliament on Tuesday. Several other key changes were also announced during the session, including changes to tax on income from infrastructure bonds and loan agreements, tax residency procedures, and a clarification regarding the applicability of the wealth tax on agricultural land.

The tax cut will lower the withholding tax rate on interest earned by foreign investors on government securities and rupee-denominated corporate bonds from 20 percent to 5 percent. Taking effect from June 1, the cut will be in effect for two years. It is seen as part of Finance Minister Chidambaram’s efforts to reduce the current Indian account deficit in the short term and spur growth in the long term by increasing foreign investment.

Speaking at Harvard University last month, Mr. Chidambaram stressed the importance of increasing long-term “patient” capital.

“India needs long term patient capital that is willing to collect a return over many years,” he said. “There is a perfect match here provided both sides work at reducing barriers. We constantly hear of moves in industrial countries to engage in financial protectionism, to keep savings at home in order to finance overextended industrial country governments. Any move in this direction would be terribly misguided.”

Mr. Chidambaram also declared that tax residency certificates (TRC) issued by foreign governments would qualify as proof of residency for tax purposes. This eased concerns among investors from countries with whom India has double-tax avoidance treaties, who feared that new regulations would make investment from these countries difficult.

“It is quite clear that tax residency certificates will be accepted. But additional information can also be asked by the government, but the TRC issued by a foreign government will be accepted as a certificate of residence,” Mr. Chidambaram said.

Furthermore, the finance minister announced cuts to tax on interest earned on foreign-currency denominated long-term debts. Non-residents are currently taxed 20 percent on interest earned from money borrowed in a foreign currency through the issue of a long-term infrastructure bond or a loan agreement. This rate will be lowered to 5 percent starting June 1.

The non-resident is required to provide a permanent account number (PAN) to the payee to take advantage of the cut, being otherwise subject to the original 20 percent rate.

“These amendments will attract more investments in long-term infrastructure which is a very important need of the country,” said Mr. Chidambaram.

Finance Minister Chidambaram also used the opportunity to clarify that next year’s proposed government budget would not seek to levy wealth tax on agricultural land, saying the matter was a “canard”. The perception of a new tax on agricultural land was becoming a political nuisance for the finance minister, who sought to firmly lay the matter to rest by amending the budget with a specific tax exclusion for agricultural and urban land.

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