The Indian government unveiled a budget earlier today that will levy new taxes on corporations and the rich. The plan involves a surcharge on local firms with incomes of more than 100 million rupees ($1.84 million) and a 1o% surcharge on individuals with taxable incomes topping 10 million rupees.
And it may be unworkable.
That’s thanks to a well-established tax dodge wealthy people and corporations use that involves sending money to and from Mauritius, an island in the Indian Ocean known for sun, sea, and an incredibly convenient set of tax rules. (It’s also known for being the native habitat of the now-extinct dodo.)
Under a tax treaty between India and Mauritius, companies based in Mauritius are not taxed on their investments in India. Instead, they pay incredibly low tax in Mauritius.
It is therefore popular for rich Indians to illegally park what what would otherwise be taxable income in Mauritius and later re-route it home via tax-free fake “foreign direct investment.” Here is a further explainer, courtesy of Britain’s Tax Justice Network, on how this round-trip works.
The wheeze is so well established that Mauritius is the source of around 40% of foreign direct investment into India.
After Indians have sent their cash to Mauritius, they can even invest it in Indian stocks and bonds by putting it into any of a huge number of India-focused investment funds that are headquartered on the island. In other words, they can profit from progress in India’s economy without paying the Indian government a cent.
It is easy, for example, to set up a Mauritian company that invests in a Mauritius-headquartered Indian investment fund (which itself does not pay tax in India). The Mauritian company would not have to pay any tax on dividends or capital gains it makes from its investment fund.
Not all Mauritius-based Indian investment funds are aiding illegal tax evasion, of course. It is perfectly legal for a hedge or mutual fund to establish itself in Mauritius to invest in India. Many investors in such vehicles are not Indian citizens.
Still, India’s Central Bureau of Investigation estimates the country has lost $500 billion to tax havens such as Mauritius.
It is bizarre, then, that India does not close the loophole. The Indian government has been reviewing the tax treaty with Mauritius since 2006. A pertinent question is whether too many powerful Indian business people enjoy using the tax dodge for the state to move aggressively to close it down. Whatever the case, though, that lack of progress doesn’t bode well for India’s new budget plan.