Cross border mergers and acquisitions: corporate taxation aspects

Abstract

In this study, an overview of Cross border Mergers and Acquisitions from the perspective of tax considerations in India is presented. An attempt is also made to understand the various stakeholders' perspectives and accordingly a policy approach to some of the lacunae in current framework is presented herein. The volume of Indian cross border M and A transactions have been steadily increasing in the past few years and $ 40 bn of such deals were reported in 2011. The key drivers have been increased globalisation, fast paced growth of emerging economies like India coupled with deterioration in industrial competitiveness in the developed countries. In almost all M and A transactions, while tax benefits are not the primary reason for conducting a merger or acquisition, tax plays a key role in determining a deal s success or failure. Considering the size and magnitude of these transactions, which have a large revenue impact, it is necessary for the policy framework to properly address taxation issues so that there is no systemic impact due to issues such as tax evasion, revenue leakage or legal challenges which can impact such a robust M and A environment. Cross border transactions can be quite complex and apart from the business considerations, existing regulatory framework is of paramount importance. In India there are multiple laws which have a bearing on these deals and income tax laws form probably one of the most important considerations. Apart from Income Tax Act, provisions of Companies Act, SEBI and RBI regulations which also have impact on considerations of cross border transactions have been touched upon in this study. With the advent of rapid globalisation and mobile international capital, governments came under growing pressure to lower taxes on capital and business thus creating "Tax competition". This has a downside that it will lead to a race to the bottom not only in taxes but also in regulation. Offshore tax havens, transfer pricing, aggressive tax planning and complex supply chains often resorted to by the Multinational enterprises have become the pressure points for the taxation systems and worst affected would be the developing countries which need revenues for their welfare measures. The various methods used by corporations to exploit tax havens include use of intermediate holding companies, treaty shopping, thin capitalisation, as well as creative structuring. The transfer pricing considerations are also important. More than 60% of the world trade takes place within the multinational enterprises and the strategy used is to arrange transactions among corporate subsidiaries in such a way that income is shifted to friendly tax jurisdictions and expenses are attributed to higher-tax countries. The new Indian Direct Tax Code which is on the anvil can adopt several best practices from international tax policies so as to contain provisions which have the same rigour. From this perspective, the practices particularly from the United States tax policies such as inclusion of Limitation of benefits in the treaties, codification of economic substance doctrine, declaration of uncertain tax positions etc are very relevant. It is important to note that even an emerging country like China has incorporated rigorous provisions seen in its policies. The double taxation avoidance treaties (DTATs) have led to steep rise in inflow of forex funds from global funds both in primary markets (FDI) and secondary market investments (FII) in India. While their contribution towards raising much needed foreign investment cannot be denied, there has also been large scale abuse of tax treaties. In this context, the investments which have come through tax havens such as Mauritius assume great significance. It is important to draw lessons from famous cases in Indian jurisdiction such as Mc Dowells, Azadi Bachao, Vodafone etc. In India, Direct Tax Code 2010 ( DTC) has several provisions which are relevant for cross border transactions. This Act is not yet passed and is now being debated in public forums. The provisions include those relating to Limited treaty override provisions, Specific CFC regime, General Anti voidance Rules GAAR, Place of effective management etc. Clearly the Government has to do a proper balancing job to address need for FDI versus tax leakage plugging and equity issues. On one hand, India is desperately capital starved in view of huge needs of infrastructure and on the other hand, there is huge need for revenue sources as developmental needs require significant corporate tax contribution as direct taxes. The multinational corporations, in the background of global economic uncertainty, are also grappling with confusion regarding taxability of cross border transactions, transfer pricing adjustment issues and litigations with revenue authorities on these subjects. Companies might justify tax planning that there is nothing wrong with maximisation of shareholders value by minimizing taxation payouts. However, permissive policies to such an approach results in an unjust and unfair system where the tax payers who include ordinary individuals as well as small businesses who cannot afford the scale and resources to adopt tax saving methods pay their dues whereas the multinationals get away with paying less taxes. It should also be noted that legislation in developing countries like India lack the sophistication, experience and preparedness needed to deal with the intricate tax planning methods adopted by the MNCs. It is clear that there can never be absolute certainty in the policy framework as it deals with very dynamic situations in a fast changing globalised world with profit seeking supranational entities who may bear no loyalty to any country. Apart from incorporating best international practices in the tax code, the Government also needs to look at effective and well trained human resourcing, effective use of technology, strengthening international cooperation efforts by entering into effective treaty mechanisms, information exchange mechanisms etc. India, being one of the most attractive markets for the multinational corporations and a prominent emerging economy is hugely vulnerable to the sophisticated methods of tax abuse. Also it should be understood that no legislation can be so comprehensive as to completely eradicate tax avoidance as globalisation and differentials in tax regimes provide ample opportunities for creative measures to plan tax avoidance. Nevertheless, having well- defined and unambiguous rules of international taxation covering a whole gamut of situations would make the Indian tax administration more effective and transparent. Clear and simple tax laws, optimal tax rates and an efficient tax administration are key factors which will continue to attract cross border investment into India.