HNI investors in offshore ‘blank cheque’ companies receive income tax notices
May 9, 2024
Synopsis
Many resident Indians who bought SPAC shares haven’t disclosed such investments in ITRs. SPACs are established solely to raise capital through a pre-listing offering, aiming to acquire a stake in an existing, primarily unlisted, operating company. Subsequently, the target company can merge with the publicly traded SPAC, thereby becoming a listed entity on major stock exchange
Well-heeled Indians betting on ‘blank cheque’ firms — the Wall Street term for special purpose acquisition companies or SPACs — have started receiving notices from the tax department. On the back of a raft of information shared by Bermuda, which like Cayman Islands, is a preferred jurisdiction for incorporating SPACs, the Income Tax (I-T) department has served notices to at least four people in the last 10 days, sources told ET.
SPACs are formed solely to raise capital by inviting investors in a pre-listing offering with the aim to acquire a stake in an existing, primarily unlisted, operating company. Later, the target company can merge with the publicly traded SPAC and become a listed entity on large bourse like the New York Stock Exchange. SPACs, which became popular in 2019-20, caught the attention of several Indian HNIs searching for new investment avenues.
LRS Rules Offer More Clarity
“But many Indian resident investors who bought SPAC units or shares had not reported these offshore investments in the FA (foreign assets) schedule of the I-T return. This is a violation. Probably, they chose not to disclose because it was unclear whether the Liberalised Remittance Scheme (LRS) can be used to buy stake in an entity that at the point of investment did not have any bona fide business... SPACs acquire a business or get merged only after raising money and getting listed. Now the department has the data with territories like Bermuda sharing details,” said Rajesh Shah, partner, CA firm Jayantilal Thakkar and Company.
Tax Tangle
LRS, monitored by the Reserve Bank of India (RBI), permits a resident individual to remit up to $250,000 a year to open overseas bank accounts, buy securities and immovable properties among other things. Bermuda is asignatory to the common reporting standard — a global framework for automatic sharing of information between countries.
Tax havens such as Bermuda and Cayman often serve as centres for pooling funds by unregulated or loosely regulated vehicles like SPAC. Since August 2022 when new dos and don’ts were added to the LRS regulations, there has been an explicit restriction on investment in unlisted entities like SPACs. However, many practitioners of tax and foreign exchange laws believe investment in SPACs through LRS was best avoidable even before the regulations were tightened. Moin Ladha, senior partner at law firm Khaitan & Co, said, “The key condition for investments under the overseas direct investment route is to ensure that the entity abroad is engaged in a bona fide business. While corporate entities are allowed to invest through a special purpose vehicle such an option is not available to individual resident investors. This has been the position even before August 2022.”
The data shared by Bermuda this time around was more fine-tuned, said an I-T official. “We have sieved through the data to identify the investors. Besides bank accounts, other financial information like investments are also shared. Bermuda’s local laws help in the formation of structures like SPACs,” said the person.
Post August 2022 any LRS investment in an unlisted overseas entity (like SPAC) is considered as ‘overseas direct investment’ that requires more paperwork (unlike a portfolio investment); and, the investee entity must be an operational company and not engaged in financial business. But even earlier some of the consultants advised clients to stay clear of SPAC.
According to Rutvik Sanghvi, partner at the CA firm Rashmin Sanghvi & Associates, “Foreign investment by Indian residents in SPAC entities is a grey area and has its own set of issues under the Overseas Investment Rules of FEMA. Overseas Investment is allowed from India in foreign entities which are "engaged" in a business activity. SPAC entities would, in general, first seek funds without a commercial operation in place. They would then attempt combining with an unlisted business - which deal may or may not fructify. Overseas investment in such cases would, in most cases, not be possible under the automatic route.”
Besides the lack of any tangible business, some feared that investments in SPACs could expose the investor to charges of round-tripping if the entity is used to acquire businesses in India or the merged entity has investments here.
[The Economic Times]
