Article kindly contributed by Parul Jain of Nishith Desai Associates

Time and again one question keeps knocking on the doors of every court: How ethical is tax avoidance? Justice Learned Hand in Commissioner v Newman stated that "Over and over again courts have said that there is nothing sinister in so arranging one's affairs to keep taxes as low as possible. Everybody does so, rich or poor, and all do right, for nobody owes any public duty to pay more than the law demands: taxes are enforced exactions, not voluntary contributions. To demand more in the name of morals is mere cant." Closer back home in India, the Supreme Court of India in Azadi Bachao Andolan & Anr.1 cited Lord Tomlin in IRC v Duke of Westminster2 while upholding the validity of treaty shopping.

While there is a thin line between tax avoidance and tax planning (or tax management), simply stating, global tax management is the act of rearranging one's affairs in a manner that global taxes may be minimized as much as possible. In today's era of globalization, when emerging transnational organizations are expanding their operations in various parts of the world and through mergers and acquisitions, it becomes extremely important for such transnational companies to structure their operations in a tax effective manner.

One way of effective tax planning could be by way of use of holding companies set up in intermediate jurisdictions for investments in other jurisdictions. A holding company could bring alongwith it several benefits like helping retain capital abroad while achieving tax deferral, assisting in availing benefits under tax favorable treaties and hence effectively reducing costs, providing future restructuring flexibility, and so on. Further, a holding company brings alongwith it the benefits of consolidating different ventures under one company while providing oversight functions for the entire group and also helps capture value at one level which could be useful for taking the entity public in a jurisdiction. This also gives the company to leverage on the group strength, raise capital and at the same time achieve overall group tax rationalization.

Setting up of a holding company may however not be the answer to all global tax management problems. There has of course been resistance by many jurisdictions including Mexico, where anti-tax haven rules have been implemented to discourage holding companies formed in certain jurisdictions. Similarly, USA has implemented Controlled Foreign Corporation Regulations to tax holding companies formed outside USA, and also anti-inversion rules to prevent abuse of inversions of US corporations into foreign corporations.

At the same time, countries like Mauritius have formulated a good holding company regime to facilitate global tax management by emerging transnational corporations.

Mauritius has all the characteristics of a good holding company jurisdiction including political stability, ease of administration, availability of reliable administrators, good treaty network, favorable exchange controls and legal system, certainty in tax and legal framework and ease of winding up operations. Mauritius scores well on all these aspects, and assists in global tax management through its wide network of tax treaties especially with India. The tax treaty with India provides for a capital gains tax exemption on sale of shares of Indian companies. Capital gains are also tax exempt in Mauritius. This regime benefits offshore entities making investment through Mauritius into India by helping in avoiding capital gains tax in India especially when a credit for the capital gains tax paid in India may not be easily available in the home jurisdiction (like USA). It is thus not surprising that approximately 44.46% of foreign direct investments into India are made through Mauritius3.

Further, the headline corporate tax rate in Mauritius is 15% against which a deemed tax credit of upto 80% of the tax payable is available, thus reducing the maximum effective tax rate to 3%. This apart, Mauritius tax laws also provide for underlying tax credit, and foreign tax credit.

While Mauritius is widely used as a jurisdiction to invest into India, the benefits of using Mauritius as a jurisdiction for making outbound investments from India are also many. As opposed to several other tax treaties, the India Mauritius tax treaty provides for a credit for the tax payable in Mauritius, rather than a credit for the actual tax paid. This could help achieve a lower tax rate in India, since India is a relatively high tax jurisdiction, with corporate tax rate being as high as 33.99%4. Mauritius local laws also allow the possibility of an outbound merger, which could help achieve some flexibility in bringing back profits into India.5

The India Mauritius tax treaty has always been and continues to be a subject of controversy. While the Supreme Court in Azadi Bachao Andolan6 has upheld the use of Mauritius to invest into India, time and again media reports bring up news items which suggest further challenges in investing though Mauritius.

Mauritius on the other hand, has tightened its tax residency requirements7 and formulated strict anti-money laundering laws. In addition, a Memorandum of Understanding ("MoU") signed between India and Mauritius provides for effective exchange of information in the detection of fraudulent market practices. Structures have been established for effective implementation of exchange of information, both on request and on a voluntary basis, about suspicious securities dealings between the two countries. The intention behind the MOU is to track down transactions tainted by fraud and financial crime, not to target bona fide legitimate transactions. This combined with Mauritius' strict anti-money laundering law to deter routing money from doubtful origins through Mauritius makes Mauritius a reputable jurisdiction to invest from.

Thus, till the time that the governments of both the countries do not mutually decide the matter of re-negotiation of the tax treaties, Mauritius continues to be a recommended and effective jurisdiction for emerging transnational corporations to effect global tax management while investing in India or from India.