FII INVESTMENTS WITH

RESPECT TO DTAA

By

Kunal Nadkarni.

SUBMITTED TO:
Mr. Pinakin Mistry.

( ICICI Securities)

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 Index.

1. Introduction.

2. FII’s in India.

3. Regulations for FII in India.

4. Taxation agreements.

5. INDIA MAURITIUS DTAA.

6. FII Trends.

7. Conclusion.

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 Introduction

This topic deals with the various FII’s investing in the Indian Market and the
avenues available to them. It also analyses the advantages and the
disadvantages that are exclusive to each avenue. The topic also deals with
the procedures that govern the business of FII’s in India and the regulations
that they are subject to. Further on the topic covers the agreements that have
been entered into with various nations governing the investments made by
the players and their impact on the level of investment in the country. It also
covers the trends that have been witnessed in the investments that have been
made by FII’s in India over the last three years and how the DTAA signed
with the various countries have impacted the investments. The topic also
takes a look at the various cases with respect to the DTAA. The project then
seeks to conclude as to the manner in which the DTAA have assisted in
enhancing the flow of FII investment in India.

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 Introduction to FII

Meaning: FII means an entity established or incorporated outside India which

proposes to make investment in India.

Sub Account: Sub-account includes those foreign corporates, foreign

individuals, and institutions, funds or portfolios established or incorporated
outside India on whose behalf investments are proposed to be made in India by
a FII.

Designated Bank: Designated Bank means any bank in India which has been
authorized by the Reserve Bank of India to act as a banker to FII.

Domestic Custodian: Domestic Custodian means any entity registered with

SEBI to carry on the activity of providing custodial services in respect of
securities.
Broad Based Fund: Broad Based Fund means a fund established or
incorporated outside India, which has at least twenty investors with no single
individual investor holding more than 10% shares or units of the fund.
If the fund has institutional investor(s) it shall not be necessary for the fund to
have twenty investors.
Further if the fund has an institutional investor holding more than 10% of
shares or units in the fund, then the institutional investor must itself be broad
based fund.

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 FII REGISTRATION
Following entities / funds are eligible to get registered as FII:
1. Pension Funds
2. Mutual Funds
3. Insurance Companies
4. Investment Trusts
5. Banks
6. University Funds
7. Endowments
8. Foundations
9. Charitable Trusts / Charitable Societies
Following entities proposing to invest on behalf of broad based funds, are also
eligible to be registered as FIIs:
1. Asset Management Companies
2. Institutional Portfolio Managers
3. Trustees
4. Power of Attorney Holders
Applicant Eligibility:
a. Applicant’s track record, professional competence, financial
soundness, experience, general reputation of fairness and integrity.
(The applicant should have been in existence for at least one year)

b. Whether the applicant is registered with and regulated by an

appropriate Foreign Regulatory Authority in the same capacity in
which the application is filed with SEBI

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 c. Whether the applicant is a fit & proper person.

"Form A" as prescribed in SEBI (FII) Regulations, 1995.

Documentation:
a. Certified copy of relevant clauses (clauses permitting the stated
activities) of Memorandum of Association, Article of Association or
Article of Incorporation.

b. Audited financial statement and annual report for the last one year
(period covered should not be less than twelve months
Registration Fee: The fee is US $ 5,000 which is required to be paid at the
time of submitting the application for registration.

Mode of Payment: Demand Draft in favour of "Securities and Exchange Board

of India" payable at New York.

SEBI generally takes seven working days in granting FII registration.

However, in cases where the information furnished by the applicants is
incomplete, seven days shall be counted from the days when all necessary
information sought, reaches SEBI.
In cases where the applicant is bank and subsidiary of a bank, SEBI seeks
comments from the Reserve Bank of India (RBI). In such cases, 7 working
days would be counted from the day no objection is received from RBI.
Process of Registration:
1. Form “A” needs to be filled up with the required documents.
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 2. The form is then submitted to SEBI.
3. If the applicant is a bank or subsidiary of a bank the application needs
to be forwarded to RBI for its observations.
4. The application is then processed and registration certificate issued if
applicant is eligible.
5. In case the applicant is not eligible the fee is refunded with the reason
for rejection.
Validity: The FII registration is valid for 5 years, and needs to be renewed
thereafter.

Renewal process: Same as initial registration. Along with "Form A" and all the
relevant documents, the applicants are required to fill in additional form
(Annexure 1) while applying for renewal, also a renewal fee of US $ 5,000
needs to be paid. This needs to be done three months before expiry.

Process of Registration for Specific FII’s: 100 % debt FIIs are those that invest
in debt securities only. The procedure for registration of FII/sub-account, under
100% debt route is similar to that of normal funds besides a clear statement by
the applicant that it wishes to be registered as FII/sub-account under 100%
debt route.

The FII registration application should be sent to:

Securities and Exchange Board of India
Division of FII & Custodian
Mittal Court "B" Wing, First Floor
224, Nariman Point
Mumbai 400 021
India

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 SUB-ACCOUNT REGISTRATION

The following entities can register as sub account:

a. Institution or funds or portfolios established outside India, whether
incorporated or not.
b. Proprietary fund of FII.
c. Foreign Corporates
d. Foreign Individuals

Sub-account registration: The FII should apply on the behalf of the Sub-
account. Both the FII and the Sub-account are required to sign the Sub-account
application form.

Registration Process: "Annexure B" to "Form A" (FII application form). The
fee required to be paid is US $ 1,000 at the time of application via Demand
Draft payable at SEBI, New York. It takes three working days from receipt of
complete information for registration to be granted and is co-terminus with the
FII registration under which it is registered. The account can be renewed upon
payment of US $ 1,000.

POST-REGISTRATION PROCESSES

Procedure of Name Change: If a registered FII/sub-account undergoes name

change, then the FII needs to promptly inform SEBI about the change. It
should also mention the reasons for the name change and give an undertaking
that there has been no change in beneficiary ownership.

In case of name change of FII, the request should be accompanied with

documents from home regulator and registrar of the company evidencing
approval of name change, and the original FII registration certificate issued by
SEBI should be sent back for necessary amendment.

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Procedure for transferring Sub Account: The FII to whom the Sub-account is
proposed to be transferred has to send a request along with a declaration that it
is authorized to invest on behalf of the Sub-account. The transferor FII should
also submit a No-objection certificate.

Procedure for Change of domestic custodian: The FII should send a request,
along with no-objection certificate from existing domestic custodian, for
change in domestic custodian.

Account cancellation and non renewal: The FII would be required to send a
request for cancellation of its registration or registration of its Sub-account/s
clearly mentioning the name and registration number of the entity. The FII
should ensure that it / Sub-account has nil cash / securities holdings.

The registration of the FII / Sub-account would get expired at due date and it
would not be allowed to trade in Indian securities markets. If it is not interested
in renewal but has certain residual assets, it can apply for disinvestment.

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 INVESTMENT OPPORTUNITIES

Investment Avenues:
a. Securities in primary and secondary markets including shares,
debentures and warrants of companies, unlisted, listed or to be listed
on a recognized stock exchange in India;
b. Units of mutual funds;
c. Dated Government Securities;
d. Derivatives traded on a recognized stock exchange;
e. Commercial papers.
Investment Limits:
a. FII, on its own behalf, shall not invest in equity more than 10% of
total issued capital of an Indian company.
b. Investment on behalf of each sub-account shall not exceed 10% of
total issued capital of an India company.
c. For the sub-account registered under Foreign Companies/Individual
category, the investment limit is fixed at 5% of issued capital.
These limits are within overall limit of 24% / 49 % / or the sectoral caps as
prescribed by Government of India / Reserve Bank of India.

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Investment Limits on Debt instruments:
o For FII investments in Government debt, currently following limits
are applicable:

100 % Debt US $ 1.55

Route billion
70 : 30 US $ 200
Route million
Total US $ 1.75
Limit billion
o For corporate debt the investment limit is fixed at US $ 500 million.
Other Investment Limits:

Normal FII (70:30 100% Debt FII

Route)
Total investment in 100% investment shall
equity and equity related be made in debt
instruments shall not be security only.
less than 70% of
aggregate of all
investments.

Registration of Securities:
a. In the name of FII when making investments on its own behalf
b. In the name of sub-account when making investments on behalf of
Sub-account

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 DERIVATIVES POSITION LIMITS

Restrictions on investment:

The FII position limits in a derivative contract on a particular underlying

stock i.e. stock option contracts and single stock futures contracts are:
o For stocks in which the market wide position limit is
less than or equal to Rs. 250 Cr, the FII position limit in
such stock shall be 20% of the market wide limit.
o For stocks in which the market wide position limit is
greater than Rs. 250 Cr, the FII position limit in such stock
shall be Rs. 50 Cr.
FII Position limits in Index options contracts
FII position limit in all index options contracts on a particular underlying
index shall be Rs. 250 Crore or 15 % of the total open interest of the
market in index options, whichever is higher, per exchange.
This limit would be applicable on open positions in all option contracts on
a particular underlying index.

FII Position limits in Index futures contracts:

FII position limit in all index futures contracts on a particular underlying
index shall be Rs. 250 Crore or 15 % of the total open interest of the
market in index futures, whichever is higher, per exchange.

This limit would be applicable on open positions in all futures contracts

on a particular underlying index.

In addition to the above, FIIs shall take exposure in equity index

derivatives subject to the following limits:

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 i. Short positions in index derivatives (short futures,
short calls and long puts) not exceeding (in notional value)
the FII’s holding of stocks.
ii. Long positions in index derivatives (long futures, long
calls and short puts) not exceeding (in notional value) the
FII’s holding of cash, government securities, T-Bills and
similar instruments.
FII Position Limits in Interest rate derivative contracts
At the level of the FII:

The notional value of gross open position of a FII in exchange traded

interest rate derivative contracts shall be:
i. US $ 100 million.
ii. In addition to the above, the FII may take exposure in exchange
traded in interest rate derivative contracts to the extent of the
book value of their cash market exposure in Government
Securities.
At the level of the sub-account: The position limits for a Sub-account in
near month exchange traded interest rate derivative contracts shall be
higher of:
 Rs. 100 Cr
Or
 15% of total open interest in the market in exchange traded
interest rate derivative contracts.

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 OFFSHORE DERIVATIVES/PARTICIPATORY NOTES

Participation: FII/sub-account may issue, deal in or hold off-shore derivative

instruments such as Participatory Notes, Equity Linked Notes or any other
similar instruments against underlying securities, listed or proposed to be listed
on any stock exchange in India.

Investing in Participatory Notes:

a. Any entity incorporated in a jurisdiction that requires filing of
constitutional and/or other documents with a registrar of companies
or comparable regulatory agency or body under the applicable
companies legislation in that jurisdiction;

b. Any entity that is regulated, authorised or supervised by a central

bank, such as the Bank of England, the Federal Reserve, the Hong
Kong Monetary Authority, the Monetary Authority of Singapore or
any other similar body provided that the entity must not only be
authorised but also be regulated by the aforesaid regulatory bodies;

c. Any entity that is regulated, authorised or supervised by a securities

or futures commission, such as the Financial Services Authority
(UK), the Securities and Exchange Commission (Sub-account), the
Commodities Futures Trading Commission (Sub-account), the
Securities and Futures Commission (Hong Kong or Taiwan),
Australian Securities and Investments Commission (Australia) or
other securities or futures authority or commission in any country ,
state or territory ;

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 d. Any entity that is a member of securities or futures exchanges such
as the New York Stock Exchange (Sub-account), London Stock
Exchange (UK), Tokyo Stock Exchange (Japan), NASD (Sub-
account) or other similar self-regulatory securities or futures
authority or commission within any country, state or territory
provided that the aforesaid mentioned organizations which are in the
nature of self regulatory organizations are ultimately accountable to
the respective securities / financial market regulators.

e. Any individual or entity (such as fund, trust, collective investment

scheme, Investment Company or limited partnership) whose
investment advisory function is managed by an entity satisfying the
criteria of (a), (b), (c) or (d) above.

Reporting requirements for FII/ Sub -account issuing

Participatory Notes
a. FII/sub-account who issue/renew/cancel/redeem PNs, require to
report on Monthly basis. The report should reach SEBI by the 7th
day of the following month.

b. The FII/sub-account merely investing/subscribing in/to the

Participatory Notes/Access Products/Offshore Derivative
Instruments or any such type of instruments/securities with
underlying Indian market securities are required to report on
quarterly basis (Jan-Mar, Apr-Jun, Jul-Sep and Oct-Dec).

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 c. FIIs/sub-accounts who do not issue PNs but have trades/holds Indian
securities during the reporting quarter (Jan-Mar, Apr-Jun, Jul-Sep
and Oct-Dec) require to submit 'Nil' undertaking on a quarterly basis.

d. FIIs/sub-accounts who do not issue PNs and do not have trades/

holdings in Indian securities during the reporting quarter. (Jan-Mar,
Apr-Jun, Jul-Sep and Oct-Dec): No reports required for that
reporting quarter.
Report on Participatory Notes:
o The format for reporting on issuance/ renewal / redemption of the
Participatory Notes is prescribed as per "Annexure B" is available
on www.sebi.gov.in and needs to be sent to
ODIreporting@sebi.gov.in, in MS Excel format only.

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 SEBI REGULATIONS
PRELIMINARY
Short title and commencement.
1. (1) These regulations may be called the Securities and Exchange Board of
India (Foreign Institutional Investors) Regulations, 1995.
(2) They shall come into force on the date of their publication in the Official
Gazette.
Definitions.
2. In these regulations, unless the context otherwise requires, -
(a) "Act" means the Securities and Exchange Board of India Act, 1992 (15 of
1992);
(b) "Certificate" means a certificate of registration granted by the Board under
these regulations;
(c) "Designated bank" means any bank in India, which has been authorised by
the Reserve Bank of India to act as a banker to Foreign Institutional Investors;

(d) "Domestic custodian" includes any person carrying on the activity of

providing custodial services in respect of securities;
(e) "Foreign Institutional Investor" means an institution established or
incorporated outside India which proposes to make investment in India in
securities;
(f) "Form" means a form specified in the First Schedule to these regulations;

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(g) "Government of India Guidelines" means the guidelines dated September
14, 1992 issued by the Government of India for Foreign Institutional Investors,
as amended from time to time;
(h) "Institution" includes every artificial juridical person;
(i) "Schedule" means a schedule to these regulations;
(j) "sub-account" foreign corporates or foreign individuals and those
institutions, established or incorporated outside India and those funds, or
portfolios, established outside India, whether incorporated or not, on whose
behalf investments are proposed to be made in India by a Foreign Institutional
Investor.

INVESTMENT CONDITIONS AND RESTRICTIONS

Commencement of investment.
14. A Foreign Institutional Investor shall not make any investments in
securities in India without complying with the provisions of this Chapter.
Investment restrictions.
15. (1) A Foreign Institutional Investor may invest only in the following:-
(a) securities in the primary and secondary markets including shares,
debentures and warrants of companies that are listed or to be listed on a
recognised stock exchange in India; and
(b) units of schemes floated by domestic mutual funds including Unit Trust of
India, whether listed on a recognised stock exchange or not
(c) dated Government Securities
(d) derivatives traded on a recognised stock exchange.

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(e) commercial paper
(f) Security receipts
(2) The total investments in equity and equity related instruments (including
fully convertible debentures, convertible portion of partially convertible
debentures and tradable warrants) made by a Foreign Institutional Investor in
India, whether on his own account or on account of his sub-accounts, shall not
be less than seventy per cent of the aggregate of all the investments of the
Foreign Institutional Investor in India, made on his own account and on
account of his sub-accounts.
Provided that nothing contained in sub-regulation (2) shall apply to any
investment of the Foreign Institutional Investor either on its own account or on
behalf of its sub-accounts in debt securities which are listed or to be listed on
any stock exchange if the prior approval of the Board has been obtained for
such investments.
The Board may while granting approval for the investments impose conditions
as are necessary with respect to the maximum amount which can be invested in
debt securities by the foreign institutional investor on its own account or
through its sub accounts.
A foreign corporate or individual shall not be eligible to invest through the
hundred percent debt route.
The conditions mentioned in sun-regulation (2) shall not apply to investments
made by foreign institutional investors in security receipts issued by
securitization companies or asset reconstruction companies under the
Securitisation and Reconstruction of Financial Assets and Enforcement of
Security Interest Act, 2002 and the rules made there under:
No foreign institutional investor shall invest in security receipts on behalf of its
sub account.

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Explanation: The expression debt securities shall include dated Government
securities, commercial paper and treasury bills
(3) In respect of investments in the secondary market, the following additional
conditions shall apply:-
(a) the Foreign Institutional Investor shall transact business only on the basis of
taking and giving deliveries of securities bought and sold and shall not engage
in short selling in securities;
Provided that nothing contained in clause (a) shall apply in respect of
transactions in derivatives traded on a recognized stock exchange.
(b) no transaction on the stock exchange shall be carried forward;
(c) the transaction of business in securities shall be only through stock brokers
who has been granted a certificate by the Board under sub section (1) of
section 12 of the securities and Exchange Board of India Act,1992.
Transactions in government securities, commercial paper, including treasury
bills shall be carried out in a manner specified by the Reserve Bank of India.
Provided further that nothing contained in clause (c) shall apply to sale of
securities by a Foreign Institutional Investor in response to a letter of offer sent
by an acquirer in accordance with the Securities and Exchange Board of India
(Substantial Acquisition of Shares and Takeovers) Regulations, 1997 or to sale
of securities by a Foreign Institutional Investor in response to an offer made by
any promoter or acquirer in accordance with the Securities and Exchange
Board of India (Delisting of Securities) Guidelines, 2003.
In case of an offer by a company to buy-back its securities, the foreign
institutional investor, may sell the securities held by it to such company, in
accordance with the Securities and Exchange Board of India (Buy-back of
securities) Regulations, 1998.
Provided further that nothing contained in clause (c) shall apply to divestment
of securities by the Foreign Institutional Investors in response to an offer by
20
Indian Companies in accordance with Operative Guidelines for Disinvestment
of Shares by Indian Companies in the overseas market through issue of
American Depository Receipts (ADR) or Global Depository Receipts (GDR)
No part of clause (c) shall apply to any bid for, or acquisition of, securities by a
Foreign Institutional Investor in response to an offer for disinvestment of
shares made by the Central Government or any State Government.
No part of clause (c) shall apply to purchase or sale of security receipts by a
foreign institutional investor.
A Foreign Institutional Investor or a sub-account, shall, subject to such
instructions as may be issued by the Board, deliver or cause to be delivered
only securities in dematerialized form for settlement of its transactions
undertaken on a recognised stock exchange, except in cases where the issuer of
such securities has established connectivity with all depositaries registered
with the Board under Securities and Exchange Board of India (Depositories
and Participants) Regulations, 1996.
(4) Unless otherwise approved by the Board, securities shall be registered -
(a) in the name of the Foreign Institutional Investor, provided the Foreign
Institutional Investor is making investments on his own behalf; or
(b) in his name on account of his sub-account, or in the name of the sub-
account, in case he is investing on behalf of the sub-account:
Provided that the names of the sub-accounts on whose behalf the Foreign
Institutional Investor is investing are disclosed to the Board by the Foreign
Institutional Investor.
(5) The purchase of equity shares of each company by a Foreign Institutional
Investor investing on his own account shall not exceed 10% percent of the total
issued capital of that company.
(6) In respect of a Foreign Institutional Investor investing in equity shares of a
company on behalf of his sub-accounts, the investment on behalf of each such
21
sub-account shall not exceed 10% percent of the total issued capital of that
company.
In case of foreign corporates or individuals, each of such sub-account shall not
invest more than 5% of the total issued capital of the company in which such
investment is made.
(7) The investment by the Foreign Institutional Investor shall also be subject to
Government of India Guidelines.
(8) A Foreign Institutional Investor or sub-account may lend securities
through an approved intermediary in accordance with stock lending scheme of
the Board.
Explanation- For the purposes of this regulation, the words security receipts,
asset reconstruction, securitisation company and reconstruction company, shall
have the meanings respectively assigned to them under the Securitisation and
Reconstruction of Financial Assets and Enforcement of Security Interest Act,
2002.
(1) A Foreign Institutional Investor or sub account may issue, deal in or hold,
off-shore derivative instruments such as Participatory Notes, Equity Linked
Notes or any other similar instruments against underlying securities, listed or
proposed to be listed on any stock exchange in India, only in favour of those
entities which are regulated by any relevant regulatory authority in the
countries of their incorporation or establishment, subject to compliance of
"know your client" requirement:
(2) A Foreign Institutional Investor or sub account shall ensure that no further
down stream issue or transfer of any instrument referred to in sub-regulation
(1) is made to any person other than a regulated entity."

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 GENERAL OBLIGATIONS AND RESPONSIBILITIES
Appointment of domestic custodian.
(1) A Foreign Institutional Investor or a global custodian acting on behalf of
the Foreign Institutional Investor shall enter into an agreement with a domestic
custodian to act as custodian of securities for the Foreign Institutional Investor.
(2) The Foreign Institutional Investor shall ensure that the domestic custodian
takes steps for -
(a) monitoring of investments of the Foreign Institutional Investor in India;
(b) reporting to the Board on a daily basis the transactions entered into by the
Foreign Institutional Investor;
(c) preservation for five years of records relating to his activities as a Foreign
Institutional Investor; and
(d) furnishing such information to the Board as may be called for by the Board
with regard to the activities of the Foreign Institutional Investor and as may be
relevant for the purpose of this regulation.
(3) A Foreign Institutional Investor may appoint more than one domestic
custodian with prior approval of the Board, but only one custodian may be
appointed for a single sub-account of a Foreign Institutional Investor.
Appointment of designated bank:
A Foreign Institutional Investor shall appoint a branch of a bank approved by
the Reserve Bank of India for opening of foreign currency denominated
accounts and special non-resident rupee accounts.

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Investment Advice in publicly accessible media.
(1) A Foreign Institutional Investor or any of his employees shall not render
directly or indirectly any investment advice about any security in the publicly
accessible media, whether real-time or non real-time, unless a disclosure of his
interest including long or short position in the said security has been made,
while rendering such advice.
(2) In case, an employee of the Foreign Institutional Investor is rendering such
advice, he shall also disclose the interest of his dependent family members and
the employer including their long or short position in the said security, while
rendering such advice.
Maintenance of proper books of accounts, records, etc.
(1) Every Foreign Institutional Investor shall keep or maintain, as the case may
be, the following books of accounts, records and documents, namely:
(a) true and fair accounts relating to remittance of initial corpus for buying,
selling and realising capital gains of investment made from the corpus;
(b) accounts of remittances to India for investments in India and realising
capital gains on investments made from such remittances;
(c) bank statement of accounts;
(d) contract notes relating to purchase and sale of securities; and
(e) communication from and to the domestic custodian regarding investments
in securities.
(2) The Foreign Institutional Investor shall intimate to the Board in writing the
place where such books, records and documents will be kept or maintained.

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Preservation of books of accounts, records, etc.
Foreign Institutional Investor shall preserve the books of accounts, records and
documents for a minimum period of five years.
Appointment of Compliance Officer.
(1) Every Foreign Institutional Investor shall appoint a compliance officer who
shall be responsible for monitoring the compliance of the Act, rules and
regulations, notifications, guidelines, instructions etc issued by the Board or
the Central Government.
(2) The compliance officer shall immediately and independently report to the
Board any non-compliance observed by him.
Information to the Board:
Every Foreign Institutional Investor shall, as and when required submit to the
Board or the Reserve Bank of India, as the case may be, any information,
record or documents in relation to his activities as a Foreign Institutional
Investor.
Foreign Institutional Investors shall fully disclose information concerning the
terms of and parties to off-shore derivative instruments such as Participatory
Notes, Equity Linked Notes or any other such instruments, by whatever names
they are called, entered into by it or its sub-accounts or affiliates relating to any
securities listed or proposed to be listed in any stock exchange in India, as and
when and in such form as the Board may require.

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 PROCEDURE FOR ACTION IN CASE OF DEFAULT
Liability for Action in case of default.
A Foreign Institutional Investor who -
(a) fails to comply with any condition subject to which certificate has been
granted.
(b) contravenes any of the provisions of the Act, rules or regulations, shall be
dealt with in the manner provided under the Securities and Exchange Board of
India (Procedure for Holding Enquiry by Enquiry Officer and Imposing
Penalty) Regulations, 2002.

Amendments To Regulations

1. These Regulations may be called the Securities and Exchange Board of

India (Foreign Institutional Investors) (Amendment) Regulations, 2007.
2. They shall come into force on the date of their publication in the Official
Gazette.
3. In the Securities and Exchange Board of India (Foreign Institutional
Investors) Regulations, 1995.

(i) in regulation 2

a. clause (cc) shall be omitted.

b. clause (dd) shall be omitted.

c. in clause (f), the proviso shall be omitted.

26
(ii) in regulation 6, sub-regulation (2) shall be omitted.

(iii) in regulation 7, the third proviso shall be omitted.

(iv) in regulation 8, both the provisos shall be omitted.

(v) in regulation 15, in sub-regulation (3), for clause (d) the following
clause shall be substituted, namely -

(d) a Foreign Institutional Investor or a sub-account, shall, subject to

such instructions as may be issued by the Board, deliver or cause to be
delivered only securities in dematerialized form for settlement its
transactions undertaken on a recognised stock exchange, except in
cases where the issuer of such securities has not established
connectivity with all depositories registered with the Board under
Securities and Exchange Board of India (Depositories and Participants)
Regulations, 1996.

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 Double Taxation Avoidance Agreements (DTAA)

The Double Tax Avoidance Agreements (DTAA) are essentially

bilateral agreements entered into between two countries, in our case,
between India and another foreign state. The basic objective is to
promote and foster economic trade and investment between two
countries by avoiding double taxation.

The advantages of DTAA are as under,

a. Lower Withholding Taxes

b. Complete Exemption of Income from Taxes
c. Underlying Tax Credits
d. Tax Sparing Credits
e. Determination of Residential status.
The Provisions of DTAA override the general provisions of taxing statue of a
particular country. It is now well settled that in India the provisions of the
DTAA override the provisions of the domestic statute. Moreover, with the
insertion of Sec.90 (2) in the Indian Income Tax Act, it is clear that assessee
have an option of choosing to be governed either by the provisions of
particular DTAA or the provisions of the Income Tax Act, whichever are more
beneficial.
The NRI can certainly take the benefit of the provisions of DTAA entered into
between India and the country, in which he resides, more particularly in
respect of Interest Income from NRO account, Government securities, Loans,
Fixed Deposits with Companies and dividends etc.

28
What is Double Taxation Avoidance Agreements?
Consistent with the practice adopted in most of the countries in the world that
have taken to levy tax on income / capital, India has adopted the system under
which Income Tax on residents is imposed on the "total world income" i.e.
income earned anywhere in the world. Whereas a tax payer’s own country
(referred to as home country) has a sovereign right to tax him, the source of
income may be in some other country (referred to as host country) which
country also claims a right to tax the income arising in that country. The result
is that income arising to a resident out of India is subjected to tax in India as it
is part of total world income and, also in host country which provides the
source for that income.

In the case of non-residents, however, it is not the "total world income" but
only that income is subjected to tax in India which is earned in this country.
Since a resident is taxed in respect of foreign income in his own country as
well as in the country where it is earned, he is subjected to tax in both the
countries in respect of the same income. The purpose of double tax avoidance
agreement is to avoid such double taxation to the extent agreed upon.

Due to phenomenal growth in international trade and commerce and increasing

interactivity among the nations, residents of one country extend their sphere of
business operations to other countries. Cross-country flow of capital, services
and technology is the order of the day particularly after the country embarked
on the path of globalization of economy. Presence of double or multiple
taxation acts as a major determining factor in decisions relating to location of
investment, technology etc. as it affects the bottom-line of a business
enterprise. The effort is, therefore, to ensure that heavy tax burden is not cast
as a result of double or multiple taxation. The object is achieved by the
Government entering into agreements with other countries whereby the
respective jurisdiction is so identified that a particular income is taxed in one
country only or, in case it is taxed in both the countries, suitable relief is
29
provided in one country to mitigate the hardship caused by taxation in another
jurisdiction.

Such agreements are known as "Double Tax Avoidance Agreements" (DTAA)

also termed as "Tax Treaties". The statutory authority to enter into such
agreements is vested in the Central Government by the provisions contained in
Section 90 of the Income Tax Act in terms of which India has, by the end of
March 2002, entered into 64 agreements of this nature which are
comprehensive in the sense that they deal with different types of income which
may be subjected to double taxation.. In addition there are 12 agreements
which deal with only profit of enterprises engaged in operation of aircraft and
5 which are limited to shipping profit.

Apart from providing ways and means to avoid double taxation of same
income, the agreements generally provide for other matters of common interest
of the two countries such as exchange of information, mutual assistance
procedure for resolution of disputes and for mutual assistance in effecting
recovery of taxes.
Different models of such agreement have been developed over a period of
years which, with appropriate adjustments as a result of negotiations, are
adopted. These models, apart from providing a checklist for ensuring
comprehensive character of such agreements, assist in maintaining uniformity
in the format of "tax treaties" to the extent possible. Among the important
models are
1. OECD model which is essentially a model treaty between two
developed nations and

2. UN model which is more tilted towards the interest of developing

countries and is generally adopted in agreements between developed and
developing countries or, between two developing countries. The essential
difference in approach is that whereas OECD model lays more emphasis on the
home country taxation by assigning more jurisdiction to the country of
30
residence the UN model stands as a compromise between the source principle
and residence principle giving relatively more weight to source principle. It
assigns more taxing rights to the country of source i.e. the host country taking
into consideration greater flow of income from developing to developed
countries in the form of return on investment made by the developed countries
in developing countries and consideration for technology transfers etc.
provided by developed countries to developing countries.

There are some other models also like US model and Andean model which
have limited use. In its agreements with developed as well as developing
countries, India has adopted the UN model with proper adjustments as a result
of negotiations.

How can Double Taxation be avoided?

Broadly the tax treaties are meant to avoid double taxation. Double Taxation is
avoided by allocating or apportioning taxing rights of the Contracting States.
The methods adopted are: -

1. Assigning exclusive jurisdiction to one of the States. In such case, the

jurisdiction of the other contracting State is avoided. E.g. the article dealing
with "shipping and air transport" profit in the model treaty provides that the
profit derived by an enterprise of a contracting State shall be taxable only in
that State. The source country does not in such cases have taxing jurisdiction.
Another example is in respect of income from immovable property which, in a
large number of treaties, is made taxable only in the contracting State in which
such property is situated. Capital Gain from alienation of shipping or aircraft
operated in international traffic is also made taxable only in the contracting
State of which the alienator is a resident. This method is known as “Exemption
Method" as it exempts the income in the other state and thereby avoid double
taxation.

31
2. Sometimes whereas the exclusive right is provided to one State the other
State, instead of granting total exemption in respect of that income, grants
exemption with progression. This means that the income is included in the
total income for arriving at the average rate of tax only but no tax is charged
thereon. It is only the other income which is subjected to tax at the average rate
so worked out. Under this system double taxation is substantially avoided not
wholly.

3. By apportioning the tax liability. In respect of certain income, the primary

jurisdiction is vested in the home country i.e. State of residence. However, the
source country is also allowed to levy tax in respect of such income at the rate
lower than the normal domestic rate of taxation as may be agreed upon
between the contracting States. Examples of such apportionments are taxation
of dividend, interests, royalty, fees for technical services which are primarily
taxable in the country of residence but the source country has also been given
right to tax such income at the rate of tax not exceeding the rate specified in
the treaty. Thus, while the country of residence levies tax at the normal
domestic rate, the source country can tax it only at the rate not exceeding the
rate prescribed in the treaty.

i. The Double Taxation as a result of the source country also

levying tax is avoided by providing for credit to be given by
the home country in respect of the tax paid in the source
country. Thus whatever tax is paid in the State of source is
reduced from the tax payable in the State of residence. If,
therefore, the rates in two countries are equal, the total of
taxes paid in the two countries will be broadly equal to the
tax payable in the country of residence.
ii. In respect of business income also, the taxing right is
primarily with the home country. However, if an
establishment is carrying on business activities in the other
country through a permanent establishment situated in that
country, the income attributable to such activities is subjected
32
 to tax in the other country also. Double Taxation so resulting
is taken care of by the system of credit to be given by the
country of residence.

What are the other matters related to DTAA?

1. Mutual Agreement Procedure

If there are any disputes in the interpretation / applications of the terms of DTA
Agreements, normal remedies of appeal etc. provided in the Income-tax Act
are available to the aggrieved party. The DTA Agreements also contain mutual
agreement procedure under which the aggrieved party may approach the
Competent Authority of the contracting State wherein he is a resident. The
Competent Authority will approach the competent Authority of the other
contracting State to arrive at a solution after mutual discussion. The provision
helps the foreign investor and other persons involved in international
transaction in avoiding litigation in foreign courts and enable them to settle
matters through the agency of respective competent authorities. The disputes
for settlement may be:-
a. Specific case provision

Where one considers that the action of one or both the states will result in
taxation not in accordance with the treaty.

b. Interpretative matters

Matters relating to interpretation of any particular article or term used in the

DTAA may be referred. For instance the provision was invoked by certain
countries to interprete the non-discrimination clause in the context of higher
rate of tax on foreign companies in India.

c. Legislative provision

33
Where no provision exists in the treaty to avoid double taxation in respect of
certain income, the authorities may be approached to do so.

2. Exchange of Information

Tax treaties makes provisions for exchange of information to give effect to the
provisions of the treaty. By virtue of such an arrangement the treaty partners
are supposed to provide information in respect of income earned by resident of
other country in their country. Such information may be supplied by a State
without request on its own or when required by the other country. No country
is expected to provide information which cannot be obtained under normal
laws of that country and exchange of information is subject to the condition of
confidentiality as laid down in the treaty.

3. Non-discrimination

The treaties contain provision prohibiting discrimination in the matter of

taxation between the nationals of the two countries. This means that nationals
of other treaty partner country cannot be subjected to taxation or other
connected requirement which is less favourable or more burdensome than the
requirement to which nationals of that country are subjected. The same rule
applies to the P.E. of the enterprise of the other State which is entitled to same
treatment as the enterprise of that State under similar circumstances. It is,
however permissible to grant to own residents any personal allowance, relief or
reduction not granted to non-residents on account of Civil States or family
responsibilities.

In India foreign companies are taxed at the rate higher than domestic
companies. A dispute generally arises as to whether this amounts to
discrimination prohibited under the treaty. This has been subject of
determination under the mutual assistance procedure invoked by certain
countries and it was agreed that the foreign companies should be subjected to
tax at the same rate as domestic companies. By the Finance Act 2001,
however, an Explanation was inserted in sub-section (2) of Section 90
34
clarifying that charge of tax at higher rate in respect of income of foreign
companies will not be regarded as less favourable charge or levy of tax where
the foreign company has not made prescribed arrangement for declaration and
payment of dividend within India. The amendment made nullifies the
agreements arrived at under Mutual Agreement Clause of the treaties with
certain countries unilaterally with retrospective effect and provides
interpretation to the already negotiated treaties, the validity of which may be
questioned.

4. Most - favoured nation (MFN) clause

In certain treaties, where it is intended not to discriminate between

countries within a group, a stipulation is incorporated generally through
protocol or Exchange of Notes that in case, after the coming into force of
the treaty, favourable terms in respect of specified matter are agreed to
with any other state, the same terms will be applicable in respect of that
treaty also. For instance in Indo-France treaty, the MFN clause provided
that if India demits its taxation at source in respect of income from
dividend, interest, Royalty etc. in any treaty with a member of OECD
after 1st September, 1989, the same terms will apply to Indo-France treaty
w.e.f. from the date the other treaty enters into force. As a consequence
when a rate of 10% in respect of interest, royalty and rent of equipment
was agreed to in Indo-German treaty w.e.f 1-4-1997 the original rates of
15% (for interest) and 20% (for royalty and equipment rental) in Indo-
France treaty were substituted by 10% w.e.f 1-4-97. After Indo – German
treaty, treaty with Sweden effective 1-4-1998 provided for nil taxation at
source in respect of rental of equipment which being more favourable
because applicable to Indo-France treaty also and such income became
taxable only on existence of a P. E in the state of source.

5. Treaty Shopping

Only the residents of two contracting states can avail of the benefits of the
relevant treaty. As the terms in all the treaties entered into by a State are
35
 not uniform and as there is no treaty with some States, efforts are made by
residents by third State to have access to the treaty benefits by routing the
investment / services through that State only with the object of having
access to the treaty. Such practices are known as "treaty shopping". The
practice of treaty shopping most commonly in use in Indian context is in
respect of Indo-Mauritius treaty which provide, for a much lower rate of
tax on dividend in the source country. Further, the right of taxation of
income from capital gain has been given only to the state of residence
under this treaty. The result is that a resident of Mauritius investing in
India is not liable to tax in India on capital gains accruing here. There
being no tax on capital gains under the domestic law of Mauritius, the
residents of that State become exempt from tax in both the countries. In
order to benefit from such a position arising from the treaty provisions,
residents of State other than Mauritius are making investment in India not
directly but through entities floated in Mauritius for deriving tax benefits.
This has resulted in majority of foreign investment in India coming from
Mauritius.

The only provision to check such practice in most of the treaties is that the
benefit of lower rate of source country taxation of dividend, interest, etc. is
available only if the recipient of such income is the beneficial owner of the
income. If, therefore, it can be shown that the person in whose name shares,
etc. are held is not the beneficial owner, the treaty provision will not be
applicable to him.

Indo-US treaty, however, contains specific provision to check such practice.

According to it the treaty will apply to a person (other than individual) only
if at least 50% beneficial interest in that entity is held directly or indirectly
by the residents any of the contracting State. This does not apply in respect
of income derived from active conduct of business.
With India and UAE amending their bilateral Double Taxation Avoidance
Agreement (DTAA), Foreign Institutional Investors (FIIs) from the Gulf nation
may now route their investments from Mauritius to minimize tax.
36
While individual investors in United Arab Emirates will continue pouring
money in India, the volume of funds from FIIs could be affected after the two
countries amended the treaty in March.

Institutions may now hesitate to park funds directly in India by routing them
through Mauritius.

But as per the amendments in India-UAE DTAA, gains arising on the sale of
stocks within one year are now being taxed at 10 per cent. Long-term capital
gains from sale of capital assets, other than listed securities, are now subject to
20 per cent tax.

Short-term capital gains from the sale of shares other than listed securities shall
be taxable at 30 per cent for individuals and 40 per cent for companies.

37
 INDIA MAURITIUS DTAA.

Personal Scope
This Convention shall apply to persons who are residents of one or
both of the Contracting States.
Taxes Covered
1. The existing taxes to which this Convention shall apply are:
(a) in the case of India : (i) the income-tax including any surcharge
thereon imposed under the Income-tax Act, 1961 (43 of 1961);
(ii) the surtax imposed under the Companies (Profits) Surtax Act,
1964 (7 of 1964); (hereinafter referred to as " Indian tax ").
(b) in the case of Mauritius :
the income-tax (hereinafter referred to as “Mauritius tax ").
2. This Convention shall also apply to any identical or substantially
similar taxes which are imposed by either Contracting State after the
date of signature of the present Convention in addition to, or in place
of, the existing taxes referred to in paragraph 1 of this Article.
3. The competent authorities of the Contracting States shall notify to
each other any significant changes which are made in their respective
taxation laws.
General Definitions
1. For the purposes of this Convention, unless the context otherwise
requires:
(a) the term ' India ' means the territory of India and includes the
territorial sea and airspace above it as well as any other maritime
38
zone referred to in the Territorial Waters, Continental Shelf,
Exclusive Economic Zone and other Maritime Zones Act, 1976 (Act
No. 80 of 1976), in which India has certain rights and to the extent
that these rights can be exercised therein as if such maritime zone is
a part of the territory of India;
(b) the term ' Mauritius ' means all the territories, including all the
islands, which in accordance with the laws of Mauritius, constitute
the State of Mauritius and includes:
(i) the territorial sea of Mauritius; and
(ii) any area outside the territorial sea of Mauritius which in
accordance with international law has been or may hereafter be
designated, under the laws of Mauritius concerning the Continental
Shelf as an area within which the rights of Mauritius with respect to
the sea bed and sub-soil and their natural resources may be exercised
(c) the terms ' a Contracting State ' and the other Contracting State'
mean India or Mauritius as the context requires;
(d) the term ' tax ' means Indian tax or Mauritius tax as the context
requires, but shall not include any amount which is payable in
respect of any default for omission in relation to the taxes to which
this Convention applies or which represents a penalty imposed
relating to those taxes ;
(e) the term ' person ' includes an individual, a company and any
other entity, corporate or non-corporate, which is treated as a taxable
unit under the taxation laws in force in the respective Contracting
States ;
(f) the term ' company ' means any body corporate or any entity
which is treated as a company or a body corporate under the taxation
laws in force in the respective Contracting States ;

39
 (g) The term enterprise of a Contracting State' and ' enterprise of the
other Contracting State' mean respectively an industrial, mining,
commercial plantation or agricultural enterprise or similar under
taking carried on by a resident of a Contracting State and an
industrial, mining, commercial, plantation or agricultural enterprise
or similar undertaking carried on by a resident of the other
Contracting State ;
(h) the term ' competent authority ' means in the case of India the
Central Government in the Ministry of Finance (Department of
Revenue) or their authorised representative; and in the case of
Mauritius, the Commissioner of Income-Tax or his authorised
representative;
(i) the term ' national ' means any individual possessing the
nationality of a Contracting State and any local person,
partnership or association deriving its status from the laws in
force in the Contracting State;
(j) the term ' international traffic ' means any transport by a ship or
aircraft operated by an enterprise which has its place of effective
management in a Contracting State, except when the ship or aircraft
is operated by the enterprise solely between places in the other
Contracting State.
2. In the application of the provisions of this Convention by a
Contracting State, any term not defined therein shall, unless the
context otherwise requires have the meaning which it has under the
laws in force of that Contracting State relating to the areas which are
the subject of this Convention.

Residents

40
1. For the purposes of the Convention, the term “resident of a
Contracting State " means any person who under the laws of that
State, is liable to taxation therein by reason of his domicile,
residence, place or management or any other criterion of similar
nature. The terms “resident of India” and resident of Mauritius shall
be construed accordingly.
2. Where by reason of the provisions of paragraph 1, an individual is
a resident of both Contracting States, then his residential status for
the purposes of this Convention shall be determined in accordance
with the following rules;
(a) he shall be deemed to be a resident of the Contracting State in
which he has a permanent home available to him; if he has a
permanent home available to him in both Contracting States, be shall
be deemed to be a resident of the Contracting State with which his
personal and economic relations are closer (hereinafter referred to as
his " centre of vital interests ");
(b) if the Contracting State in which he has his centre of vital interest
cannot be determined, or if he does not have a permanent home
available to him in either Contracting State he shall be deemed to be
a resident of the Contracting State in which he has a habitual abode
(c) if he has a habitual abode in both Contracting States or in neither
of them, he shall be deemed to be a resident of the Contracting State
of which he is a national;
(d) if he is a national of both Contracting States or of neither of them, the
competent authorities of the Contracting States shall settle the question by
mutual agreement.
3. Where by reason of the provision of paragraph 1, a person other
than an individual is a resident of both the Contracting States, then it
shall be deemed to be a resident of the Contracting State in which its
place of effective management is situated.
41
Permanent Establishment
1. For the purposes of this Convention, the term ' permanent
establishment ' means a fixed place of business through which the
business of the enterprise is wholly or partly carried on.
2. The term ' permanent establishment ' shall include:
(a) a place of management
(b) a branch
(c) an office
(d) a factory
(e) a workshop
(f) a warehouse, in relation to a person providing storage facilities
for others
(g) a mine, an oil or gas well, a quarry or any other place of
extraction of natural resources
(h) a farm, plantation or other place where agricultural, forestry,
plantation or related activities are carried on ; (i) a building site or
construction or assembly project or supervisory activities in
connection therewith, where such site, project or supervisory activity
continues for a period of more than nine months.
3. Notwithstanding the preceding provisions of this Article, the term
permanent establishment shall be deemed not to include:
(a) the use of facilities solely for the purpose of storage or display of
merchandise belonging to the enterprise;
(b) the maintenance of a stock of goods or merchandise belonging to
the enterprise solely for the purpose of storage or display;
42
(c) the maintenance of a stock of goods or merchandise belonging to
the enterprise solely for the purpose of processing by another
enterprise;
(d) the maintenance of a fixed place of business solely for the
purpose of purchasing goods or merchandise or for collecting
information for the enterprise;
(e) the maintenance of a fixed place of business solely-- (i) for the
purpose of advertising, (ii) for the supply of information, (iii) for
scientific research, or (iv) for similar activities.
which have a preparatory or auxiliary character for the enterprise.
4. Notwithstanding the provisions of paragraphs 1 and 2 of this
Article, a person acting in a Contracting State for or on behalf of an
enterprise of the other Contracting State (other than an agent of an
independent status to whom the provisions of paragraph 5 apply)
shall be deemed to be a permanent establishment of that enterprise in
the first-mentioned State if:
(i) he has and habitually exercises in that first mentioned State, an
authority to conclude contracts in the name of the enterprise unless
his activities are limited to the purchase of goods or merchandise for
the enterprise ; or
(ii) he habitually maintains in that first-mentioned State a stock of
goods or merchandise belonging to the enterprise from which he
regularly fulfils orders on behalf of the enterprise.
5. An enterprise of a Contracting State shall not be deemed to have a
permanent establishment in the other Contracting State merely
because it carries on business in that other State through a broker,
general commission agent or any other agent of an independent
status, where such persons are acting in the ordinary course of their
business. However, when the activities of such an agent are devoted
43
 exclusively or almost exclusively on behalf of that enterprise, he will
not be considered an agent of an independent status within the
meaning of this paragraph.
6. The fact that a company, which is a resident of a Contracting State
controls or is controlled by a company which is a resident of the
other Contracting State, or which carries on business in that other
Contracting State (whether through a permanent establishment or
otherwise) shall not, of itself, constitute either company a permanent
establishment of the other.
Income from Immovable Property
1. Income from immovable property may be taxed in the Contracting
State in which such property is situated.
2. The term “immovable property " shall be defined in accordance
with the law and usage of the Contracting State in which the property
is situated. The term shall in any case include property accessory to
immovable property livestock and equipment used in agriculture and
forestry, rights to which the provisions of general law respecting
landed property apply, usufruct of immovable property and rights to
variable or fixed payments as consideration for the working of, or the
right to work, mineral deposits, oil wells, quarries and other places of
extraction of natural resources, ships, boats and aircraft shall not be
regarded as immovable property.
3. The provisions of paragraph 1 shall apply to income derived from
the direct use letting, or use in any other form of immovable
property.
4. The provisions of paragraphs 1 and 3 shall also apply to the
income from immovable property of an enterprise and to income
from immovable property used for the performance of independent
personal services.

44
Business Profits
1. The profits of an enterprise of a Contracting State shall be taxable
only in that State unless the enterprise carries on business in the
other Contracting State through a permanent establishment situated
therein. If the enterprise carries on business as aforesaid, the profits
of the enterprise may be taxed in the other State but only so much of
them as are attributable to that permanent establishment.
2. Subject to the provisions of paragraph 3 of this Article, where an
enterprise of a Contracting State carries on business in the other
Contracting State through a permanent establishment situated
therein, there shall in each Contracting State be attributed to that
permanent establishment the profits which it might be expected to
make if it were a distinct and separate enterprise engaged in the same
or similar activities under the same or similar conditions and dealing
wholly independently with the enterprise of which it is a permanent
establishment. Where the correct amount of profits attributable to a
permanent establishment cannot be readily determined or the
determination thereof presents exceptional difficulties, the profits
attributable to the permanent establishment may be estimated on a
reasonable basis.
3. In determining the profits of a permanent establishment, there
shall be allowed as deductions expenses which are incurred for the
purposes of the business of the permanent establishment including
executive and general administrative expenses so incurred, whether
in the State in which the permanent establishment is situated or
elsewhere.
4. No profits shall be attributed to a permanent establishment by
reason of the mere purchase by that permanent establishment of
goods or merchandise for the enterprise.

45
 5. For the purposes of the preceding paragraphs, the profits to be
attributed to the permanent establishment shall be determined by the
same method year by year unless there is good and sufficient reason
to the contrary.
6. Where, profits include items or income which is dealt with
separately in other Articles of this Convention, then the provisions of
those Articles shall not be affected by the provisions of this Article.
Shipping and Air Transport
1. Profits from the operation of ships or aircraft in international
traffic shall be taxable only in the Contracting State in which the
place of effective management of the enterprise is situated.
2. If the place of effective management of a shipping enterprise is
abroad a ship, then it shall be deemed to be situated in the
Contracting State in which the home harbour of the ship is situated,
or, if there is no such home harbour, in the Contracting State of
which the operator of the ship is resident.
3. The provisions of paragraph 1 of this Article shall also apply to
profits from the participation in a pool, a joint business or an
international operating agency.
4. For the purposes of paragraph 1, interest on funds connected with
the operation of ships or aircraft in international traffic shall be
regarded as profits from the operation of such ships or aircraft, and
the provisions of Article 11 shall not apply in relation to such
interest.
5. The term " operation of ships or aircraft " shall mean business of
transportation of persons, mail, livestock or goods, carried on by the
owners or lessees or charterers of the ships or aircraft, including the
sale of tickets for such transportation on behalf of other enterprises,

46
 the incidental lease of ships or aircraft and any other activity directly
connected with such transportation.
Associated Enterprises
Where:
(a) an enterprise of a Contracting State participates directly or
indirectly in the management, control or capital of an enterprise of
the other Contracting State, or
(b) the same persons participate directly or indirectly in the
management, control or capital of an enter prise of a Contracting
State and an enterprise of the other Contracting State,
and in either case conditions are made or imposed between the two
enterprises in their commercial or financial relations which differ
from those which would be made between independent enterprises,
then any profits which would, but for those conditions, have accrued
to one of the enterprises, but, by reason of those conditions, have not
so accrued, may be included in the profits of that enterprise and
taxed accordingly.

Dividends
1. Dividends paid by a company which is a resident of a Contracting
State to a resident of the other Contracting State may be taxed in that
other State.
2. However, such dividends may also be taxed in the Contracting
State of which the company paying the dividends is a resident and
accordingly to the laws of that State, but if the recipient is the
beneficial owner of the dividends the tax so charged shall not exceed

47
(a) five per cent of the gross amount of the dividends if the beneficial
owner is a company which holds directly at least 10 per cent of the
capital of the company paying the dividends;
(b) fifteen per cent of the gross amount of the dividends in all other
cases.
This paragraph shall not affect the taxation of the company in respect
of the profits out of which the dividends are paid.
3. Notwithstanding the provisions of paragraph 2,
dividends paid by a company which is a resident of Mauritius to
a resident of India may be taxed in Mauritius and according to
the laws of Mauritius, as long as dividends paid by companies
which are residents of Mauritius are allowed as deductible
expenses for determining their taxable profits. However, the tax
charged shall not exceed the rate of the Mauritius tax on profits
of the company paying the dividends.
4. The term ' dividends ' as used in this Article means income from
shares or other rights, not being debt-claims, participating in profits,
as well as income from other corporate rights which is subjected to
the same taxation treatment as income from shares by the laws of the
Contracting State of which the company making the distribution is a
resident.
5. The provisions of paragraphs 1, 2 and 3 shall not apply if the
beneficial owner of the dividends, being a resident of a Contracting
State, carries on business in the other Contracting State of which the
company paying the dividends is a resident, through a permanent
establishment situated therein or performs in that other State
independent personal services from a fixed base situated therein and
the holding in respect of which the dividends are paid is effectively
connected with such permanent establishment or fixed base. In such

48
 a case, the provisions of Article 7 or Article 14, as the case may be,
shall apply.
6. Where a company which is a resident of a Contracting State
derives profits or income from the other Contracting State, that other
State may not impose any tax on the dividends paid by the company,
except in so far as such dividends are paid to a resident of that other
State or in so far as the holding in respect of which the dividends are
paid is effectively connected with a permanent establishment or a
fixed base situated in that other State, nor subject the company's
undistributed profits to a tax on the company's undistributed profits
even if the dividends paid or the undistributed profits consist wholly
or partly of profits or income arising in such other State.
Interest
1. Interest arising in a Contracting State and paid to a resident of the
other Contracting State may be taxed in that other State.
2. However, subject to the provisions of paragraphs 3 and 4 of this
Article, such interest may also be taxed in the Contracting State in
which it arises and according to the laws of that State.
3. Interest arising in a Contracting State shall be exempt from tax in
that State provided it is derived and beneficially owned by:
(a) the Government or a local authority of the other
Contracting State;

(b) any agency or entity created or organised by the Government of

the other Contracting State; or
(c) any bank carrying on a bonafide banking business which is a
resident of the other Contracting State.

49
4. Interest arising in a Contracting State shall be exempt from tax in
that Contracting State to the extent approved by the Government of
that State if it is derived and beneficially owned by any person (other
than a person referred to in paragraph 3) who is a resident of the
other Contracting State provided that the transaction giving rise to
the debt-claim has been approved in this regard by the Government
of the first-mentioned Contracting State.
5. The term ' interest ' as used in this Article means income from
debt-claims of every kind, whether or not secured by mortgage, and
whether or not carrying a right to participate in the debtor's profits,
and, in particular, income from Government securities and income
from bonds or debentures, including premiums and prizes attaching
to such securities, bonds or debentures. Penalty charges for late
payment shall not he regarded as interest for the purpose of this
Article.
6. The provisions of paragraphs 1, 2 3, and 4 shall not apply if the
recipient of the interest, being a resident of a Contracting State,
carries on business in the other Contracting State in which the
interest arises, through a permanent establishment situated therein, or
performs in that other State independent personal services from a
fixed base situated therein, and the debt-claim in respect of which the
interest is paid is effectively connected with such permanent
establishment or fixed base. In such case, the provisions of Article 7
or Article 14, as the case may be, shall apply.
7. Interest shall be deemed to arise in a Contracting State when the
payer is that Contracting State itself, a political sub-division, a local
authority or a resident of that State. Where, however, the person
paying the interest, whether be is a resident of a Contracting State or
not, has in a Contracting State a permanent establishment in
connection with which the indebtedness on which the interest is paid
was incurred, and such interest is home by that permanent

50
 establishment, then such interest shall be deemed to arise in the
Contracting State in which the permanent establishment is situated.
8. Where, by reason of a special relationship between the payer and
the recipient or between both of them and some other person, the
amount of the interest paid, having regard to the debt-claim for
which it is paid, exceeds the amount which would have been agreed
upon by the payer and the recipient in the absence of such
relationship, the provisions of this Article shall apply only to the last-
mentioned amount. In that case, the excess part of the payments shall
remain taxable according to the law of each Contracting State, due
regard being had to the other provisions of this Convention.
Royalties
1. Royalties arising in a Contracting State and paid to a resident of
the other Contracting State may be taxed in that other State.
2. However, such royalties may also be taxed in the Contracting
State in which they arise, and according to the law of that State, but
the tax so charged shall not exceed 15 per cent of the gross amount
of the royalties.
3. The term " royalties " as used in this Article means payments of
any kind received as a consideration for the use of, or the right to
use, any copyright of literary, artistic or scientific work (including
cinematograph films, and films or tapes for radio or television
broadcasting), any patent, trade mark, design or model, plan, secret
formula or process or for the use of, or the right to use, industrial,
commercial or scientific equipment, or for information concerning
industrial, commercial or scientific experience.
4. The provisions of paragraphs 1 and 2 shall not apply if the
recipient of the royalties, being a resident of a Contracting State
carries on business in the other Contracting Slate in which the
royalties arise, through a permanent establishment situated therein,
51
 or performs in that other State independent personal services from a
fixed base situated therein, and the right or property in respect of
which the royalties are paid is effectively connected with such
permanent establishment or fixed base. In such a case, the provisions
of Article 7 or Article 14, as the case may be, shall apply.
5. Royalties shall be deemed to arise in a Contracting State when the
payer is that Contracting State itself, a political sub-division, a local
authority or a resident of that State, where, however, the person
paying the royalties, whether he is a resident of a Contracting State
or not, has in a Contracting State a permanent establishment in
connection with which the liability to pay the royalties was incurred,
and such royalties are borne by such permanent establishment, then
such royalties shall be deemed to arise in the Contracting State in
which the permanent establishment is situated.
6. Where, by reason of a special relationship between the payer and
the recipient or between both of them and some other person the
amount of royalties paid, having regard to the use, right or
information for which they are paid, exceeds the amount which
would have been agreed upon by the payer and the recipient in the
absence of such relationship, the provisions of this Article shall
apply only to the last mentioned amount. In that case, the excess part
of the payments shall remain taxable according to the laws of each
contracting State, due regard being had to the other provisions of this
Convention.
Capital Gains
1. Gains from the alienation of immovable property, as defined in
paragraph 2 of Article 6, may be taxed in the Contracting State in
which such property is situated.
2. Gains from the alienation of movable property forming part of the
business property of a permanent establishment which an enterprise
52
 of a Contracting State has in the other Contracting State or of
movable property pertaining to a fixed base available to a resident of
a Contracting State in the other Contracting State for the purpose of
performing independent personal services, including such gains from
the alienation of such a permanent establishment (alone or together
with the whole enterprise) or of such a fixed base, may be taxed in
that other State.
3. Notwithstanding the provisions of paragraph 2 of this Article,
gains from the alienation of ships and aircraft operated in
international traffic and movable property pertaining to the operation
of such ships and aircraft, shall be taxable only in the Contracting
State in which the price of effective management of the enterprise is
situated.
4. Gains derived by a resident of a Contracting State from the
alienation of any property other than those mentioned in paragraphs
1, 2 and 3 of this Article shall be taxable only in that State.
5. For the purpose of this Article the term " alienation " means the
sale, exchange, transfer or relinquishment of the property or the
extinguishment of any rights therein or the compulsory acquisition
thereof under any law in force in the respective Contracting States.
Independent Personal Services
1. Income derived by a resident of a Contracting State in respect of
professional services or other independent activities of a similar
character shall be taxable only in that State unless he has a fixed base
regularly available to him in the other Contracting State for the
purpose of performing his activities. If he has such a fixed base, the
income may be taxed in the other Contracting State but only so much
of it as is attributable to that fixed base.
2. The term ' professional services ' includes especially independent
scientific, literary, artistic, educational or teaching activities, as well
53
 as the independent activities of physicians, lawyers, engineers,
architects, dentists and accountants.
Dependent Personal Services
1. Subject to the provisions of Articles 16, 17, 18, 19, 20 and 21, salaries,
wages and other similar remuneration derived by a resident of a Contracting
State in respect of an employment shall be taxable only in that State unless the
employment is exercised in the other Contracting State. If the employment is
so exercised, such remuneration as is derived therefrom may be taxed in that
other Contracting State.
2. Notwithstanding the provisions of paragraph 1 of this Article
remuneration derived by a resident of a Contracting State in respect
of an employment exercised in the other Contracting State shall be
taxable, only in first-mentioned State if:
(a) the recipient is present in the other State for a period or periods
not exceeding in the aggregate 183 days in the relevant " previous
year " or " year of income ", and
(b) the remuneration is paid by, or on behalf of, an employer who is
not a resident of the other State and
(c) the remuneration is not borne by a permanent establishment or a
fixed base which the employer has in the other State.
3. Notwithstanding the preceding provisions of this
Article, remuneration in respect of an employment exercised
abroad, a ship or aircraft in international traffic may be taxed
only in the Contracting State in which the place of effective
management of the enterprise is situated.

54
Directors' Fees
Directors' fees and other similar payments derived by a resident of a
Contracting State in his capacity as a member of the board of
directors of a company which is a resident of the other Contracting
State may be taxed in that other Contracting State.

Artistes and Athletes

1. Notwithstanding the provisions of Articles 14 and 15, incised by
an entertainer or an athlete in his capacity as such, and ture, radio or
television artistes and musicians and by athletes, from their personal
activities as much may be taxed in the Contracting State in which
these activities are exercised.
2. Where income is derived from personal activities exercised by an
entertainer or an athlete in his capacity as such, and accrues not to
the entertainer or athlete himself but to another person, that income
may, notwithstanding the provisions of Articles 7, 14 and 15, be
taxed in the State in which the activities of the entertainer or athlete
are exercised.
3. Notwithstanding the provisions of paragraph 1 of this Article,
income derived by an entertainer or an athlete who is a resident of a
Contracting State from his personal activities as such exercised in the
other Contracting State, shall be taxable only in the first-mentioned
Contracting State, if those activities in the other Constituting State,
are supported wholly or substantially from the public funds of the
first-mentioned Contracting State, including any of its political sub-
divisions or local authorities.

55
 4. Notwithstanding the provisions of paragraph 2 of this Article and
Articles 7, 14 and 15, where income is derived from personal
activities exercised by an entertainer or an athlete in his capacity as
such in a Contracting State and accrues not to the entertainer or
athlete himself but to another person, that income shall be taxable
only in the Contracting State, if that other persons is supported
wholly or substantially from the public funds of that other
Contracting State, including any of its political sub-divisions or local
authorities.

Governmental Functions
1. Remuneration, other than pension, paid by the Government of a
Contracting State to an individual who is a national of that State in
respect of services rendered to that State, shall be taxable only in that
State.
2. Any pension paid by the Government of a Contracting State to an
individual who is a national of that State, shall be taxable only in that
Contracting State.
The provisions of paragraphs 1 and 2 of this Article shall not apply
to remuneration and pensions in respect of services rendered in
connection with any business carried on by the Government of either
of the Contracting States for the purpose of profit.
4. The provisions of paragraph 1 of this Article shall likewise apply
in respect of remuneration paid under a development assistance
programme of a Contracting State, out of funds supplied by that
State to a specialist or volunteer seconded to the other Contracting
State with the Consent of that other State.
5. For the purpose of this Article, the term " Government " shall
include any State Government or local or statutory authority of either
56
 Contracting State and, in particular, the Reserve Bank of India and
the Bank of Mauritius.
Non-Governmental Pensions and Annuities
1. Any pension, other than a pension referred to in Article 18, or any
annuity derived by a resident of a Contracting State sources within
the other Contracting State shall be taxed only in the first-mentioned
Contracting State.
2. The term “pension” means a periodic payment made in
consideration of past services or by way of compensation for injuries
received in the course of performance of services.
3. The term “annuity " means a stated sum payable periodically at
stated times during life or during a specified or ascertainable period
of time, under an obligation to make the payments in return for
adequate and full consideration in money or money's worth.
Students and Apprentices
1. A student or business apprentice who is or was a resident of one of
the Contracting States immediately before visiting the other
Contracting State and who is present in that other Contracting State
solely for the purpose of his education or training shall be exempt
from tax in that other Contracting State on ;
(a) payments made to him from sources outside that other
Contracting State for the purposes of his maintenance, education or
training ; and
(b) remuneration from employment in that other Contracting State, in
an amount not exceeding Rs. 15,000 in Indian currency or its
equivalent in Mauritius rupees at the parity rate of Exchange during
any " previous year " or " year of income " as the case may be,

57
 provided that such employment is directly related to his studies or is
undertaken for the purpose of his maintenance.
2. The benefits of this article shall extend only for such period of
time as may be reasonable or customarily required to complete the
education or training undertaken, but in no event shall any individual
have the benefits of this Article for more five consecutive years from
the date of his first arrival, in that other Contracting State.
Professors, Teachers and Research Scholars
1. A Professor, Teacher and Research Scholar who is or was a
resident of one of the Contracting States immediately before visiting
the other Contracting State at the invitation of that other Contracting
State or of a university, college, school or other approved institution,
in that other Contracting State for the purpose of teaching or
engaging in research, or both, at the university, college, school or
other approved institution, shall be exempt from tax in that other
Contracting State on any remuneration for such teaching at research
for a period not exceeding two years from the date of his arrival in
that other Contracting State.
2. This Article shall not apply to income from research if the
research is undertaken primarily for the private benefit of a specific
person or persons.
3. For the purposes of this Article and Article 20 an individual shall
be deemed to be a resident of a Contracting State if he is resident in
that Contracting State in the " previous year " or the year of income "
as the case may be, in which he visits the other Contracting State or
in the immediately preceding " previous year " on the " year of
income ".
4. For the purpose of paragraph 1, “approved institution "
means an institution which has been approved in this regard by
the competent authority of the concerned Contracting State.
58
Other Income
1. Subject to the provisions of paragraph 2 of this Article, items of
income of a resident of a Contracting State, wherever arising, which
are not expressly dealt with in the foregoing Articles of this
Convention, shall be taxable only in that Contracting State.
2. The provisions of paragraph 1 shall not apply to income, other
than income from immovable property as defined in paragraph 2 of
Article 6, if the recipient of such income being a resident of a
Contracting State, carries on business in the other Contracting State
through a permanent establishment situated therein, or performs in
that other State independent personal services from a fixed base
situated therein and the right or property in respect of which the
income is paid is effectively connected with such permanent
establishment or fixed base. In such case, the provisions of Article 7
or Article 14, as the case may be, shall apply.

METHODS FOR ELIMINATION OF DOUBLE TAXATION

Elimination of Double Taxation
1. The laws in force in either of the Contracting States shall continue
to govern the taxation of income in the respective Contracting States
except where provisions to the contrary are made in this Convention.
2. (a) The amount of Mauritius tax payable under the laws of
Mauritius and in accordance with the provisions of this Convention,
whether directly or by deduction, by a resident of India, in respect of
profits or income arising in Mauritius, which has been subjected to
tax both in India and in Mauritius, shall be allowed as a credit
against the Indian tax payable in respect of such profits or income
provided that such credit shall not exceed the Indian tax (as
computed before allowing any such credit) which is appropriate to
59
the profits or income arising in Mauritius. Further, where such
resident is a company by which surtax is payable in India, the credit
aforesaid shall be allowed in the first instance against income-tax
payable by the company in India and as to the balance, if any,
against surtax payable by it in India.
(b) In the case of a dividend paid by a company which is a resident
of Mauritius to a company which is a resident of India and which
owns at least 10 per cent of the shares of the company paying the
dividend the credit shall take into account (in addition to any
Mauritius Tax for which credit may be allowed under the provisions
of sub-paragraph (a) of this paragraph) the Mauritius tax payable by
the company in respect of the profits out of which such dividend is
paid.
3. For the purposes of the credit referred to in paragraph 2, the term '
Mauritius tax payable ' shall be deemed to include any amount which
would have been payable is Mauritius tax for any year but for an
exemption or reduction of tax granted for that year or any part
thereof under :
(i) Section 33, 34, 34A and 34B of the Mauritius Income Act (41 of
1974);
(ii) any other provision which may subsequently be made granting an
exemption or reduction of tax which the competent authorities of the
Contracting States agree to be for the purposes of economic
development).
4. (a) The amount of Indian tax payable under the laws of India and
in accordance with the provisions of this Convention, whether
directly or by deduction, by a resident of Mauritius, in respect of
profits or income arising in India, which has been subjected to tax
both in India and Mauritius shall be allowed as a credit against
Mauritius tax payable in respect of such profits or income provided
60
that such credit shall not exceed the Mauritius tax (as computed
before allowing any such credit) is appropriate to the profits or
income arising in India.
(b) In the case of a dividend paid by a company which is a resident
of India to a company which is a resident of Mauritius and which
owns at least 10 per cent of the shares of the company paying the
dividend, the credit shall take into account (in addition to any Indian
Tax for which credit may be allowed under the provisions of sub-
paragraph (a) of this paragraph) the Indian tax payable by the
company in respect of the profits out of which such dividend is
paid).
5. For the purposes of the credit referred to in paragraph 4. the term '
Indian tax payable ' shall be deemed to include any amount by which
tax has been reduced by the special incentive measures under:
(i) Section 10(4), 10(4A), 10(6), (viia), 10(15) (iv), 10(28), 10A,
32A, 33A, 35B, 54E, 80HH, 80HHA, 80-I, 80L, of the Indian
Income-tax Act, 1961 (43 of 1961),
(ii) any other provision which may subsequently be enacted granting
a reduction of tax which the competent authorities of the Contracting
States agree to be for the purposes of economic development.
6. Where under this Convention a resident of Contracting State is
exempt from tax in that Contracting State in respect of income
derived from the other Contracting State, then the first mentioned
Contracting State may, in calculating tax on the remaining income of
that person, apply the rate of tax which would have been applicable
if the income exempted from tax in accordance with this Convention
had not been so exempted.

61
SPECIAL PROVISIONS
Non-Discrimination
1. The nationals of a Contracting State shall not be subjected in the
other Contracting State to any taxation or any requirement connected
therewith which is other or more burdensome than the taxation and
connected requirements to which nationals of that other State in the
same circumstances are or may be subjected.
2. The taxation on a permanent establishment which an enterprise of
a Contracting State has in the other Contracting State shall not be
less favourably levied in that other State than the taxation levied on
enterprises of that other State carrying on the same activities in the
same circumstances.
3. Nothing contained in this Article shall be construed as obliging a
Contracting State to grant persons not resident in that State any
personal allowances, relief’s, reductions and deductions for taxation
purpose which are by law available only to persons who are so
resident.
4. Enterprises of a Contracting State, the capital of which is wholly
or partly owned or controlled, directly or indirectly by one or more
residents of the other Contracting State, shall not be subjected in the
first mentioned Contracting State to any taxation or any requirement
connected therewith which is other or more burdens than the taxation
and connected requirements to which other similar enterprises of that
first mentioned State are or may be subjected in the same
circumstances.
5. In this Article, the term “taxation " means taxes which are the
subject of this Convention.

62
Mutual Agreement Procedure
1. Where a resident of a Contracting State considers that the actions
of one or both of the Contracting States result or will result for him
in taxation not in accordance with this Convention, he may,
notwithstanding the remedies provided by the national laws of those
States, present his case to the competent authority of the Contracting
State of which he is a resident. This case must be presented within
three years of the date of receipt of notice of the action which gives
rise to taxation not in accordance with the Convention.
2. The competent authority shall endeavor, if the objection appears to
it to be justified and if it is not itself able to arrive at an appropriate
solution, to resolve the case by mutual agreement with the competent
authority of the other Contracting State, with a view to the avoidance
of taxation not in accordance with the Convention. Any agreement
reached shall be implemented notwithstanding any time limits in the
laws of the Contracting States.
3. the competent authorities of the Contracting States shall endeavor
to resolve by mutual agreement any difficulties or doubts arising as
to the interpretation or application of the Convention. They may also
consult together for in the elimination of double taxation in cases not
provided for the Convention.
4. The competent authorities of the Contracting States may
communicate with each other directly for the purpose of reaching an
agreement to have an oral exchange of opinions; such exchange may
take place through a Commission consisting of representatives of the
competent authorities of the Contracting States.

63
Exchange of Information or Document
1. The competent authorities of the Contracting States shall exchange
such information or document as is necessary for carrying out the
provisions of this Convention or for prevention of evasion of taxes
which are the subject of this Convention. Any information or
document so exchanged shall be treated on secret but may be
disclosed to persons (including courts or other authorities) concerned
with the assessment, collection enforcement, investigation or
prosecution in respect of the taxes which are the subject of this
Convention, or to persons with respect to whom the information or
document relates.
2. The exchange of information or documents shall be either on a
routine basis or on routine basis or on request with reference to
particular cases or both. The competent authorities of the Contracting
States shall agree from time to time on the list of the information or
documents which shall be furnished on a routine basis.
3. The provisions of paragraph 1 shall not be construed so as to
impose on a Contracting State the obligation:
(a) to carry out administrative measures at variance with the laws or
administrative practice of that or of the other Contracting State;
(b) to supply information or documents which are not obtainable
under the laws in the normal course of the administration of that or
of the other Contracting State ;
(c) to supply information or documents which would disclose any
trade, business, industrial, commercial or professional secret or trade
process or information the disclosure of which would be contrary to
public policy.

64
Diplomatic and Consular Activities
Nothing in this Convention shall affect the fiscal privileges of
diplomatic or consular officials under the general rules of
international law or under the provisions of special agreement.
FINAL PROVISIONS
Entry into Force
Each of the Contracting State shall notify to the other completion of
the procedures required by its law for the bringing into force of this
Convention. The Convention shall enter into force on the date of the
later of these notifications and shall thereupon have effect:
(a) in India, in respect of income and capital gains assessable for any
assessment year commencing on or after 1st April, 1983 ;
(b) In Mauritius, in respect of income and capital gains assessable for
any assessment year commencing on or after 1st July, 1983.
Termination
The Convention shall remain in force indefinitely but either of the Contracting
States may, on or before the thirtieth day of June in any calendar year
beginning after the expiration of a period of five years from the date of its
entry into force, give the other Contracting State through diplomatic channels,
written notice of termination and in such event, this convention shall cease to
have effect:
(a) in India, in respect of income and capital gains assessable for the
assessment year commencing on 1st day of April in the second
calendar year next following the calendar year in which the notice is
given, and subsequent years ;

65
 (b) in Mauritius, in respect of income and capital gains
assessable for the assessment year commencing on 1st day of
July in the second calendar year next following the calendar
year in which the notice is given, and subsequent years.

CASES ON INDIA MAURITIUS DTAA

Union of India v. Azadi Bachao Andolan (2003) 132 Taxman 373.

The Hon’ble Supreme Court had an occasion to examine the DTAA entered
into with the Government of Mauritius in the case of Union of India v. Azadi
Bachao Andolan (2003). Under the DTAA, capital gains accruing in India to a
resident of Mauritius are not liable to tax in India subject to certain exceptions.
This was clarified by the CBDT by stating that capital gains of any resident of
Mauritius by alienation of shares of an Indian company shall be taxable only in
Mauritius and the same will not be liable to tax in India. Subsequently, the
issue of ‘treaty shopping’ by non-resident foreign companies to avoid capital
gains tax on transfer of shares in Indian companies arose. In order to clarify the
situation, the CBDT issued a circular stating that a certificate of residence
issued by Mauritius authority will be conclusive proof of residential status and
beneficial ownership in Mauritius for the purpose of applying the DTAA. The
Supreme Court reversed the above decision of the Delhi High Court and made
wide-ranging observations on many matters including tax planning
considerations. The Court held that the judicial consensus in India has been
that section 90 is specifically intended to enable and empower the Central
Government to issue a notification for implementation of the terms of a
DTAA. Therefore, the provisions of such an agreement would operate even if
inconsistent with the pro- visions of the Income-tax Act. Circular 789 is a
circular within the meaning of section 90, therefore, it must have the legal
consequences contemplated by section 90(2). The circular shall prevail even if
it is inconsistent with the provisions of the Income-tax Act, insofar as assesses
covered by the provisions of DTAA are concerned. The Court observed that
many developed countries tolerate or encourage “treaty shopping”, even if it is
unintended, improper or unjustified, for other non- tax reasons, unless it leads
66
to significant loss of tax revenue. The Court cannot judge the legality of “treaty
shopping” merely because one section of thought considers it improper. The
court cannot characterize the act of incorporation under the Mauritian law as a
sham or a device actuated by improper motives. The Court held that the
impugned circular was issued under section 119 and hence valid.

CASE: The Authority for Advance Ruling (AAR) has given a new
dimension to the tax-treatment of income earned by Foreign Institutional
Investors (FIIs) investing directly in Indian stocks. In a landmark ruling
given to US and Canada based Fidelity Group, the quasi judicial authority
has ruled that the income from sale of Indian equities by the 38-odd off-
shore funds managed by this group will be treated as capital gains. What
this implies is that the profits of these funds from investments in securities
will be treated as capital gains and not as business income.
The AAR provides a ruling on the potential tax liabilities of foreign
investors operating in India. The latest ruling could mean that foreign
portfolio investors may have to pay a 10% capital gains tax, if they off-
load shares within one year of holding them. Investments in stocks, if held
for a year or more, are exempt from long-term capital gains tax.
The ruling will, however, not have any impact on FIIs routing investments
through Mauritius or Singapore. Mauritius does not tax capital gains and
Mauritius-based FIIs are exempted from paying capital gains tax here.
This benefit has now been extended to Singapore-based FIIs under the
improved protocol on double taxation between India and Singapore,
subject to certain conditions.
The AAR’s ruling comes as a blow to several US-based FIIs, who were
hoping to get a capital gains tax waiver. These FIIs were banking on an
earlier ruling by the authority to Fidelity Series VIII. The AAR had held
that the trading income of this company would be taxable only in the US
and not in India as it did not have a permanent establishment (PE) here.
After this ruling, around 38 FIIs of the Fidelity Group, having a similar
structure and operating through sub-accounts, sought a ruling on the tax
treatment on investments in shares in India. Although an advance ruling is
67
 binding only on the applicant and the tax department, it has a “persuasive”
value as other taxpayers can quote this ruling.
Fidelity Advisor Series VIII was a business trust organised under the US
law. It was registered with SEBI as a sub-account of an FII and had
appointed an Indian custodian a bank providing custodial and banking
services to a number of clients. The trading operations were carried out
through brokers in India. The company had approached the AAR to
specifically determine whether gains accruing from trading in Indian
securities would be treated as business income or capital gains. The
authority, which looked at the frequency of purchase and sale of shares,
held that the gains were in the nature of “business income” and should be
taxable according to the provisions of the Indo-US Tax Treaty. Since the
company was executing the trades through a custodian in India, who was
also offering similar services to several FIIs, the AAR held that the agent
had an independent status and cannot be treated as a permanent
establishment in India. In the absence of a PE in India, the trading income
of Fidelity Advisor Series VIII was held to be taxable only in the US and
not in India.

Most of the FIIs come from countries that have a tax-treaty with India and
most of them do not have a permanent establishment or a fixed place of
business in India. In such cases, in view of the new ruling, if their income
from sale of shares is categorised as capital gains, they will have to pay a
10% short-term capital gains.

Landmark Judgement of Supreme Court on Indo-Mauritius DTAA

The tax authorities in India, recognizing the need to curtail the 'abuse' of the
Indo- Mauritius treaty denied the benefit of the treaty to some offshore
business companies (OBC) registered in Mauritius that had claimed exemption
from tax under the Income Tax Act, by rejecting the certificate of residence
furnished by them. Such OBCs were claiming exemption of capital gains from
stock market operations, which gave the right of taxation of such capital gains
68
to Mauritius. At around the same time, there were fluctuations in the stock
markets and general perception that the action of the department denying the
benefit of Mauritius residency to some Mauritius based FIIs was the root cause
for such fluctuations. It was projected that this would have or had resulted in
huge outflows of foreign investment from India. To clear the doubts, as also
clarify the intent of the Indo-Mauritius DTAA, the Board issued Circular 789
dated 13 April 2000, inter alia, requiring the assessing officer to accept the
certificate of residence granted under the local legislation of Mauritius to
OBCs operating from third countries including India.
Considering a 'public interest litigation' (PIL), Delhi High Court quashed
the above circular as bad in law on the grounds that the income tax officer was
entitled to lift the corporate veil in order to ascertain whether a company was
actually resident of Mauritius or not in exercise of his quasi-judicial powers
and any attempt by the Board to interfere with this would be contrary to the
intendment of the Act.

Review of Indo Mauritius DTAA:

India and Mauritius are discussing various ways and means through which the
misuse of a Double Taxation Avoidance Agreement (DTAA) between the two
nations can be avoided, although the latter is not keen on a solution suggested
by India on grounds that the measures aimed at tracking offshore
companies based in the island could hurt genuine firms in Mauritius.
India has proposed source-based taxation of capital gains available for firms
based in Mauritius as a possible solution to the problem arising from abuse of
the bilateral treaty.
“The Mauritian government is not willing to consider this solution as in their
view, this would adversely affect their offshore financial services sector, which
contributes almost 11 per cent of their gross domestic product (GDP) and
would hurt even the genuine companies of Mauritius”, said an informed
source, who did not wish to be identified.
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The problem has arisen because of "round tripping" or “treaty shopping” by
Indian entities moving money out of the country and then getting it back into
India through what is known as GBC 1 companies incorporated in Mauritius,
in the process gaining from capital gains exemptions available for companies
based in the island.
A GBC 1 company is an entity, which undertakes any of the 12 categories of
business (which include aircraft financing and leasing, asset management,
financial services and pension funds) and carries out business from within
Mauritius by employing persons all of whom are resident outside Mauritius.
Round-tripping refers to routing of investments by a resident of one country
through the other country back to his own country. For example, a resident of
India investing directly in shares of an Indian company would be taxable on
capital gains arising from transfer of shares. However, if the same resident
routes his investments through Mauritius to buy the shares of an Indian
company and claims that these investments were made through a resident
Mauritius entity, then the taxes can be avoided under the DTAA.
A joint working group (JWG) comprising representatives of the Indian and the
Mauritius government was constituted in October last year to address these
concerns. “In all the four meetings of the JWG held so far, India has
consistently emphasized its concerns on round tripping and treaty shopping,"
said a government source.
Besides, the Indian government has also been unable to extract effective
information from Mauritius, particularly those pertaining to the banking sector
as the Mauritius Revenue Authority is not empowered under domestic law to
obtain and share banking information. The income tax law of Mauritius allows
its revenue authorities to get details of bank accounts held by persons directly
from banks only where a person has been convicted of an offence relating to
dangerous drugs or weapons.

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"The only channel available in the Mauritian domestic law for obtaining
banking information is through a judge in chamber," a government official
said.
“India has requested the Mauritius government to inform New Delhi regarding
number of cases in which they have approached the Judge in Chamber as this
channel is not available to India directly. The Mauritius Government has so far
not reverted back," a source said.
There are three major nations Cyprus, the United Arab Emirates and Mauritius
with whom the problem of “round tripping” had arisen for India While Cyprus
and UAE have agreed to source-based taxation, Mauritius remains a key
concern.

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 FII TRENDS

Equity Markets:

Reporting Direct Portfolio Total (Rs.

Period Investment Investment Crore)
(Rs. Crore) (Rs.crore)
1990-91 174 11 185
1991-92 316 10 326
1992-93 965 748 1713
1993-94 1838 11188 13026
1994-95 4126 12007 16133
1995-96 7172 9192 16364
1996-97 10015 11758 21773
1997-98 13220 6696 19916
1998-99 10358 257 10101
1999-00 9338 3026 22450
2000-01 18406 12609 31015
2001-02 29240 9639 38879
2002-03 22552 4738 27290
2003-04 21482 52279 73761

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Reporting Gross Gross Sales Net Net
period Purchases (Rs. Crores) Investment Investment
(Rs. Crores) (Rs. Crores) ( US $)
Q1 04-05 10663.50 10116.80 516.40 118.20
Q2 04 -05 12385.10 9999.80 2385.60 515.10
Q3 04-05 20626.30 13942.70 6683.80 1472.90
Q4 04-05 1095.50 1086.10 9.40 2.20
Q1 05-06 25914.60 20586.10 5328.60 1225.50
Q2 05-06 26347.50 21701.30 4646.80 1065.50
Q3 05-06 33004.40 23669.40 9335.00 2046.60
Q4 05-06 52941.10 46252.20 6688.80 1508.60
Q1 06-07 39783.10 39303.50 479.50 105.70
Q2 06-07 32212.20 26787.00 5424.70 1165.90
Q3 06-07 42270.30 45937.60 3667.40 797.40
Q4 06-07 50678.50 51760.30 1082.00 243.90
April 2007 48141.20 41462.20 6679.20 1515.70
th
17 May 2007 22030.30 22723.20 692.70 161.80

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 CONCLUSION & RECOMMENDATIONS

Revenue consideration is not the sole factor determining the contents of a

DTAA and promotion of friendly relations and special interests with certain
countries do play a significant role, limited examination of some of the
important issues concerning the administration and implementation of DTAAs
and taxation of non residents engaged in maritime business revealed
shortcomings and inadequacies which needed to be removed and procedures
strengthened.

A well-directed and clear strategy was not in place to remove inconsistencies

and shortcomings in DTAAs especially those relating to definition of
permanent establishment, limitation of treaty benefits, disallowing or
consciously allowing ‘treaty shopping’, amendment of DTAAs and enforcing
exchange of information clauses effectively. Cost benefit analysis of DTAAs
had not been conducted. It is recommended that DTAAs may be examined
critically through a phased and well monitored programme so that interests of
revenue are safeguarded and one sided concessions are avoided.

Monitoring and co-ordination of all aspects relating to mutual agreement

procedure (MAP) cases, exchange of information (EOI) and assistance in tax
recovery both in the Board and the field offices of the department, were not
effective enough to safeguard interests of revenue and derive the optimum
advantage from various DTAAs. Procedures relating to MAP, EOI and
recovery of tax be suitably codified and implementation monitored so that
there is consistency and clarity in action being taken by assessing officers

A proactive action plan was not evolved to investigate cases of FIIs/sub

accounts claiming residence in Mauritius so that effective place of
management was investigated and determined in fulfillment of the spirit and
intention of Indo- Mauritius DTAA. Ministry did not put in place a strategy to
identify cases which attracted the ‘tie breaker’ clause to determine taxability of
income in the case of India based entities claiming residence in Mauritius and
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prevent ‘treaty shopping’ in the case of entities based in third countries but
availing the benefits under Indo- Mauritius DTAA. Similar vigil was
warranted but absent in respect of non residents claiming residence of Malta,
Cyprus, UAE, Tanzania and other similarly placed DTAAs. This would have
ensured that the Ministry was not caught in a state of ‘fait accompli’ as had
happened in relation to Indo-Mauritius DTAA with regard to taxation of
capital gains from stock market operations. A database of FIIs and sub
accounts relating to all entities operating in India be prepared and their liability
to tax examined critically so that benefits of DTAA are availed only by
assesses actually and rightfully entitled to the same.

Income of FIIs/sub accounts engaged in the business of investment in stock

markets was not being taxed under the specific provisions (section 115 AD)
available in the Act or by treating them as business profits under DTAAs,
which was detrimental to the interests of revenue. Though income of FIIs/sub
accounts was to be treated as business profit and taxed accordingly, it was
being erroneously categorized as capital gains and being exempted from tax by
routinely invoking DTAAs.

Mechanism of coordination with regulatory bodies so that vital information

relating to the income of FIIs/sub accounts is obtained regularly and acted
upon promptly. Taxation of income of non residents from maritime business
was not being bestowed serious attention especially in completion of regular
assessments. Benefits were being allowed both under the Act and the DTAA
separately for parts of income, as convenient to the assessee. Assessees were
availing multiple benefits under the Indian Income Tax Act with regard to
income and taxes paid in foreign countries jeopardizing the interests of
revenue. Audit recommends that the Board may issue guidelines for regulating
credit to taxes paid abroad and specifying the manner of treatment of tax
credit, so that assessments are consistently made and interests of revenue are
safeguarded.

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