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Singh Adviser Warns Against Foreign Investor Tax Changes

India's Planning Commission Montek Singh Ahluwali
Montek Singh Ahluwalia, deputy chairman of India's planning commission. Photographer: Nelson Ching/Bloomberg

India should refrain from changing the way foreign investors in stocks and bonds are taxed, a key adviser to Prime Minister Manmohan Singh said, as the nation prepares rules to clamp down on tax avoidance.

“We should clarify that it is not the intention to change the tax treatment of bona fide foreign institutional investors,” Montek Singh Ahluwalia, 68, deputy chairman of India’s Planning Commission, said in an interview in New Delhi yesterday. “I hope they will clarify it in a way in which FIIs will be reassured that their investment is welcome.”

Prime Minister Singh has made reviving investment in India a priority after taking charge of the finance ministry on June 26 with growth at a nine-year low. Ahluwalia also said he hopes India will “very soon” allow foreign companies to open supermarkets selling multiple brands, an industry closed off to overseas businesses and one that Singh is trying to open up.

The prime minister decided to lead the finance ministry after Pranab Mukherjee resigned to vie for the presidency. Mukherjee outlined steps to tackle tax avoidance, the so-called General Anti-Avoidance Rule, or GAAR, in the budget in March, before retreating on the proposals in May by delaying implementation until 2013 to salvage investor confidence.

The BSE India Sensitive Index of stocks extended gains yesterday after Ahluwalia’s comments before ending up 0.4 percent. It fell 0.4 percent as of 10:00 a.m. in Mumbai today, while the rupee weakened 0.9 percent to 55.43 per dollar. The currency has declined 19.7 percent against the dollar in the past 12 months.

Assuaging Investors

Ahluwalia is seeking to “to assuage foreign investors,” said Jagannadham Thunuguntla, a strategist at SMC Global Securities Ltd. in New Delhi. “It is an effort to find a middle ground while introducing the tax rules.”

India plans to issue a clarification this month keeping overseas investors of equity and bond derivative instruments out of the purview of Indian taxes, two government officials with direct knowledge of the matter said, declining to be identified citing rules. The so-called participatory notes are derivatives that allow foreigners not registered with the nation’s market regulator to invest in local stocks and bonds.

The government aims to revive plans to allow companies including Wal-Mart Stores Inc. to set up retail stores after protests from allies and opposition parties prompted it to defer the rules in December, Ahluwalia said. Singh may allow state governments to decide whether to implement the rule, he said.

‘Consensus Building’

“We have done some consensus building since” December, said Ahluwalia, one of the top bureaucrats in the finance ministry when Singh opened up India’s economy in 1991 as finance minister. Under India’s federal structure, states are responsible for issuing licenses for retail stores.

Ahluwalia said the government had set up monitoring mechanisms to ensure faster implementation of road, port and power projects. The measures will help boost economic growth and increase foreign investment flows, he said.

Gross domestic product rose 5.3 percent in the three months to March 31 from a year earlier, the least since 2003. Ahluwalia, who last year set a 9 percent target for economic growth in the next five years, estimates GDP to expand 8 percent to 8.5 percent as the global recovery falters.

Inflation accelerated to 7.55 percent in May, the fastest pace in the BRIC group of largest emerging markets that also includes Brazil, Russia and China. Higher food prices and more expensive imports because of the weaker rupee have contributed to jumps in living costs.

Rupee Drop

Ahluwalia said the rupee had corrected after over depreciating and a “little” fall in the currency should be positive. The rupee has climbed about 3 percent since Singh took charge of the finance ministry.

India’s current account, the broadest measure of trade, widened to a record $21.7 billion in the three months ended March. The widening of the deficit was due to a surge in gold imports, which have slowed after the government imposed an additional tax on shipments, Ahluwalia said.

“India’s economic prospects will support foreign capital inflow needed in order to finance the deficit, without putting pressure on the rupee,” Ahluwalia said. “The current account deficit this year won’t be as bad as last year.”

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