Following an order dated 13 April 2020 issued by the Government of India, Mauritius is henceforth once again regarded as an eligible country for the purpose of registration as Category I Foreign Portfolio Investor (“FPI”) under the SEBI (Foreign Portfolio Investors) Regulations, 2019 (“FPI Regulations”). The SEBI had previously issued a circular dated 7 April 2020 whereby it allowed jurisdictions which are not members of the Financial Action Task Force (“FATF”) but “from any country specified by the Central Government by an order or by way of an agreement or treaty with other sovereign Governments…” to be considered eligible for a Category I FPI Licence. Pursuant to the order dated 13 April 2020, Mauritius is therefore the first country to have been identified as such.
Mauritius is one of the biggest investors in India and this development can only be regarded as being very positive inasmuch as it places Mauritius at the same level as members of the FATF. In February 2020, the FATF had quite surprisingly classified Mauritius on the list of jurisdictions under increased monitoring, and that had been a major cause for concern for investors and fund managers with respect to the eligibility of Mauritian entities to obtain FPI Licences.
To fully grasp the importance of the implications of the above Order, it is relevant to understand the difference between the different categories of FPI Licences available to investors in India. Funds from FATF jurisdictions are eligible to register as Category I FPIs whereas funds based in non-FATF jurisdictions are eligible to register as Category II FPIs (unless the investment manager of the latter is itself registered as a Category I FPI). Therefore, following the FATF Release in 2020, a fund based in Mauritius could be registered as a Category II FPI in India.
One of the major differences between the two categories is that for Category II FPIs, ultimate beneficial owners are required to share their proof of identity as part of the KYC process, unlike for Category I FPIs.
Furthermore, Category II FPis do not have access to offshore derivative instruments, i.e. instruments which an FPI is eligible to issue overseas against securities it holds and which are listed on the Indian Stock Exchange. This is one of the prerogatives of Category I FPIs, together with benefiting from tax benefits from indirect share transfers.
Indeed, it should be noted that under Indian tax laws, income which arises from the transfer of shares in a foreign entity deriving value from underlying assets in India is taxable as this is deemed to be an indirect transfer of Indian shares. However, these provisions did not apply to investments held in Category I and II FPIs until the coming into force of the Indian Finance Act 2020 amending Indian tax laws to exempt only investments held in Category I FPIs. Mauritius funds with Mauritian investment managers did benefit from a reprieve inasmuch the Finance Act provided for a grandfathering of the exemption in relation to investments held in Category I and II FPIs registered prior to September 2019.
Therefore this Order of the Government of India comes as a relief to FPIs based in Mauritius and will allow future investment funds registered in Mauritius to hold investments in Indian securities. For those Category I and II FPIs registered prior to September 2019, they will continue to benefit from the abovementioned advantages.
In the meantime, the Financial Services Commission of Mauritius is actively working with FATF to address the remaining action items during the ‘increased monitoring’ period.
It is important to note that as per the provisions of the tax treaty between India and Mauritius, India has a source-based right to tax gains arising from the transfer of shares. In the event the transfers are characterized as capital gains, the latter should be taxable only in Mauritius.
With respect to interest income, provided the beneficial owner thereof resides in Mauritius, Indian tax should not exceed 7.5% of the gross interest paid. This is subject to the funds crossing the hurdles of the General Anti Avoidance Rule (“GAAR”) to be eligible for lower rates of tax under treaty.
Article compiled by Dev Erriah, Managing Partner of Mauritian member firm Erriah Chambers.