Higher surcharges cost the economy

Higher surcharges cost the economy

Some FPIs’d prefer to stay trusts and stay away.

You cannot soak rich Indians without soaking rich foreign portfolio investors (FPIs) too. That might seem obvious, but it escaped those crafting the Budget. The finance minister announced budgetary schemes to attract more FPI dollars, such as raising the ceiling for FPI equity in any company from 24% to the FDI limit. But the income tax surcharges in the Budget will apply to all discretionary trusts, whether operated by Indians or FPIs, and that means mulcting some of the very entities India is trying to attract. Tax experts say this will subject FPIs organised as trusts to a peak income-tax rate of 42.2%. That is why the stock markets collapsed on Monday as FIIs exited. If India wants to be competitive in attracting FIIs, it is only reasonable to make sure its tax rate is no higher than that of its competitors.

However, only 40% of FPIs are organised as trusts; the rest have a corporate structure and so are immune to the proposed surcharges. Some FPIs would happily incorporate themselves, some would not, if their trust structure has been dictated by considerations of lowering their tax burden in the jurisdictions they come from. This would mean a trade-off between higher tax on rich Indians and dollar inflows via FPIs. The finance minister’s first reaction was to say no clarification of rules was needed. Later she said she might make a statement in Parliament. However, the issue is not where she makes a statement but how she addresses the problem of soaking rich Indians without soaking foreign investors, too.

If she creates a two-tier system where rich foreigners pay low tax rates but not rich Indians, that will be rank injustice. It will also induce billions to flow out of India, be laundered as FII money, and then be round-tripped back to India. Every honest Indian taxpayer will suffer compared with the crooked round-trippers. It may be politically humiliating, but there is a strong case for rolling back the tax surcharges. The rich have a duty to pay their taxes, but the ruler also has a duty to think through the implications of a tax increase before imposing it.