Singapore and India to Include Limitation of Benefits in DTAA Amendment: Implications for Foreign Investors

By Mike Vinkenborg 

On December 30, 2016 Singapore and India agreed on amending their Double Taxation Avoidance Agreement (DTAA) for capital gain income. With the new agreement, which will implemented on April 1, 2017, India aims to tackle investments coming into the country through shell companies and prevent tax avoidance. This follows the agreements reached by India and Mauritius in May 2016 and India and Cyprus in November that year, when they similarly amended their respective DTAAs by implementing a Limitation of Benefits (LOB) clause. The India-Singapore DTAA, last amended in 2005, had the provision that any changes in the Mauritius treaty would automatically apply to the Singapore DTAA. All three DTAA amendments will come into effect on April 1, 2017.

Singapore-India relations

Singapore and India have historically maintained good relations. Approximately 250,000 Singaporeans are of Indian descent, amounting to 7.4 percent of its population. When India announced its “Look East” policy in 1992, Singapore was one of the first countries to establish deeper ties with the country, recognizing its potential as a regional power.

Hereafter, Singapore has been a pioneer in integrating India with the ASEAN region, which was further strengthened in 2005 when the two countries signed the India-Singapore Comprehensive Economic Cooperation Agreement (CECA). Five years after, the entire ASEAN region followed suit when the ASEAN-India CECA was brought into effect. Consequently, economic ties between the two countries are at high levels and today, Singapore is one of India’s largest trade partners. Bilateral trade in the 2015/2016 fiscal year (running from April to March) amounted to an estimated US$15 billion. And largely due to the DTAA, FDI flowing from Singapore to India amounted to US$50.6 billion from April 2000 to December 2016, reaching a high of US$13.7 billion in 2015/2016.

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It will be interesting to see how the DTAA amendments will influence these numbers in the future. Mauritius and Singapore have been the main providers of FDI to India since 2000. In the same 2000-2016 period, FDI inflows from Mauritius amounted to US$95.9 billion, nearly double the amount of Singapore’s US$50.6 billion. With the amendment of both treaties and the India-Cyprus treaty, however, it will become harder for shell companies to benefit from preferential tax treatment in any of the three island states.

Implications of amendments

Similarly to the amendments to the Mauritius and Cyprus DTAAs, the India-Singapore treaty will implement a LOB clause as of April 1, 2017. This clause has the intention of curbing black money laundering. In particular, it aims to prevent tax-avoidance attempts known as ‘round-tripping’, where money would leave India to one of the treaty partners and returns back to India labeled as foreign investments, thereby benefiting from preferential tax treatment.

In the amended treaty, any company classified as a shell or conduit company shall not be entitled to the DTAA benefits. In the law, a shell or conduit company is defined as “any legal entity falling within the definition of resident with negligible or nil business operations or with no real and continuous business activities carried out in that Contracting State”. Conversely, a company is not classified as a shell or conduit company – and is thus entitled to DTAA benefits – if:

• It is listed on a recognized stock exchange of the Contracting State; or
• Its annual expenditure on operations is at least S$200,000 in Singapore, or INR 5,000,000 in India.

To provide certainty to investors, all shares acquired before April 1, 2017 will be grandfathered and not subject to capital gain income tax irrespective of the sell date. From April 1, 2017, a two-year transition period starts during which capital gains on shares will be taxed in the source country at half the normal tax rate. After that, from April 1, 2019 onwards, all companies identified as a shell or conduit company will be subject to the full tax rate in the source country, currently standing at 15 percent in India.

Looking forward

The amendment of India’s capital gain tax treaties is part of the country’s larger battle against black money laundering. Other measures include the recently signed “Joint Declaration” with Switzerland, allowing for automatic exchange of information between the countries. As a result, as of September 2019 the Indian government will be able to receive financial information of accounts held by Indians in Switzerland from 2018 onwards. The other well-known measure is the replacement of INR 500 and INR 1,000 currency notes with the newly introduced INR 500 and INR 2,000 notes to battle corruption.

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For international investors, the treaty amendments indicate that they may have to look at different investment models. Analysts frequently point to the Netherlands as an alternative. Given the preferential corporate tax environment in the country and its treaty with India, the Dutch route is hinted as the preferential one. For now, the Dutch and Indian governments have indicated that they will leave the existing treaty unchanged. However, this could turn out to be temporary as it is possible that India may be looking to adopt uniform taxes for all investors in the future, thereby taxing all investments equally irrespective of the destination.

For Singapore, it remains to be seen how these changes will affect its relations with India in the future. As the Mauritius-India DTAA was without any LOB clauses before the coming amendment, whereas the DTAA with Singapore already had a less stringent LOB provision, the relative advantage of Singapore to Mauritius has actually increased. As such, it already overtook Mauritius as the largest FDI provider in the 2015/2016 fiscal year as investors anticipated the treaty amendments.

Looking forward, it can be expected that India will level the playing field for all countries altogether and thus eliminate the relative advantage of all countries with treaties still in place. In that case, the stable relationship between Singapore and India might turn out to be fruitful for future cooperation. With many Indian investors in Singapore and vice versa, it is likely that Singapore will remain one of the main providers of FDI to India. Furthermore, Singapore’s economic stability, strategic location, and role within the ASEAN region can help to maintain its status as a stopover for investments into India. In any case, in order to define the optimal entry strategy for India, foreign investors are advised to keep a close eye on developments in the years to come.    

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