India’s Tax Regime: A Recent Era for Foreign Investment
The Supreme Court of India’s recent ruling in the Tiger Global case has fundamentally altered the landscape for foreign investment into India. Decades of reliance on tax residency certificates (TRCs) as a shield against capital gains tax are over. The court’s decision emphasizes substance over form, demanding genuine commercial presence and economic rationale for offshore investment structures.
The Demise of the ‘Easy Exit’
For years, a Mauritius-based entity with a TRC was often sufficient to claim treaty protection and avoid capital gains tax when exiting Indian investments. Here’s no longer the case. The Supreme Court has clarified that a TRC is merely an “entry ticket” – a starting point for scrutiny, not a guarantee of treaty benefits. Tax authorities can now “look behind” the structure to assess its true economic substance.
What Does ‘Substance’ Signify?
Establishing substance requires demonstrating that the Mauritius entity is a genuine operating platform, not merely a shell company. This includes:
- Regular Board Meetings: Contemporaneous records of board and investment committee meetings held in Mauritius, demonstrating real debate and decision-making.
- Physical Presence: Evidence that the “head and brain” of the operation are located in Mauritius, not elsewhere.
- Financial Records: Financial statements and tax returns demonstrating ongoing business and meaningful operational expenditure exceeding treaty thresholds.
- Documented Intent: Detailed board minutes outlining the commercial rationale for the Mauritian entity.
The burden of proof now rests squarely on the taxpayer to demonstrate genuine substance.
Impact on Existing Investments
The ruling similarly impacts investments made before April 2017, which previously benefited from a degree of “grandfathering” protection. The court has ruled that this protection does not provide blanket immunity if the underlying structure lacks commercial rationale or is deemed abusive.
Indirect Transfers Under Scrutiny
The Supreme Court also affirmed that gains from indirect transfers – selling shares of a foreign company that derives its value from Indian assets – are taxable in India, even under the India-Mauritius tax treaty. This reinforces the application of Judicial Anti-Avoidance Rules (JAAR) alongside statutory rules to deny treaty benefits to transactions lacking substance.
Restructuring: A Risky Path
Investors with existing Mauritius structures face a difficult dilemma: restructure now or risk future challenges. Hurried restructurings solely aimed at preserving treaty relief may be viewed as impermissible avoidance arrangements. Genuine transformation, relocating real control, functions and risks, and demonstrating clear, non-tax business reasons for any restructuring, is the safer course.
M&A Implications: Increased Due Diligence
Mergers and acquisitions involving Indian assets will require increased due diligence. Buyers can no longer rely on treaty positions at face value. Transactional lawyers will need to account for potential challenges based on domestic source rules, treaty eligibility, and GAAR/JAAR doctrines. Expect more granular warranties on tax residency, place of effective management, and commercial substance, as well as broader and longer tax indemnities.
A Shift Towards a More Assertive Tax Posture
The Tiger Global ruling signals a lasting shift towards a more assertive and substance-driven tax posture in India. The court has emphatically endorsed India’s tax sovereignty and confirmed that circular-based safe harbors have been superseded by statute.
Future Strategies for Foreign Investors
Long-term investors in India should assume closer scrutiny of cross-border exits and build higher effective tax scenarios into their return models. Consideration should be given to holding Indian assets directly, or through more substance-rich platforms in Mauritius or Singapore, or exploring onshore options like GIFT City.
FAQ
Q: What is a Tax Residency Certificate (TRC)?
A: A TRC is a document issued by a country to confirm the tax residency of an individual or entity.
Q: What is the General Anti-Avoidance Rule (GAAR)?
A: GAAR is a set of rules that allow tax authorities to deny tax benefits if a transaction is primarily designed to avoid tax.
Q: Does this ruling affect all foreign investments in India?
A: While the ruling specifically concerns investments routed through Mauritius, it sets a precedent for increased scrutiny of all cross-border transactions.
Q: What is GIFT City?
A: GIFT City (Gujarat International Finance Tec-City) is a special economic zone in India offering tax benefits and a favorable regulatory environment for financial services.
Did you realize? The Tiger Global case originated from a 2018 deal involving the sale of Flipkart to Walmart.
Pro Tip: Document everything. Detailed records of board meetings, financial transactions, and commercial rationale are crucial for demonstrating substance.
This ruling represents a significant turning point for foreign investment in India. Investors must adapt to a new era of increased scrutiny and prioritize genuine commercial substance over tax arbitrage.
