Tax sops may turn depository receipts more attractive for foreign investors

illustration: Binay Sinha
Depository receipts (DRs), American or global, may become more attractive to foreign investors that invest directly in Indian equities, with the Budget widening the tax arbitrage. The tax rate for dividends in the hands of foreign portfolio investors (FPIs) is now 20 per cent, in addition to surcharge and cess. Dividends paid to DR holders, on the other hand, are taxable at 10 per cent.

Further, investors holding American Depository Receipts (ADR) and GDRs do not pay capital gains tax if they do not convert the receipts into equity shares. This is because even though the DRs represent shares of Indian firms, these are considered to be offshore instruments and not taxed in India. Investors holding shares directly in India have to pay 10 per cent on long-term capital gains and 15 per cent on short-term capital gains.

“Issues of ADRs and GDRs will grow more popular because they offer a more attractive tax regime to foreign investors. Even the regulatory regime has undergone positive changes recently. Gains accruing on ADRs and GDRs are not subject to tax in India. Further, the tax on dividends is also more attractive at 10 per cent,” said Suresh Swamy, partner (financial services), PwC India.

Under current norms, only listed firms can issue DRs. Recently unlisted companies were allowed to go for simultaneous domestic and overseas listing. Currently, 32 companies have their DRs listed on various exchanges around the world. These include HDFC Bank, ICICI Bank, Infosys, Wipro, Vedanta, and Tata Steel. Of these, 17 DRs have seen a fall in their prices while 12 have gained in the past year. 

“ADRs enjoy an advantage over equity shares from a capital gains perspective. The lower rate of 10 per cent on dividends for those opting for the ADR route will bring more benefit to investors, especially those who are not entitled to treaty rates,” said Sunil Gidwani, partner at Nangia Andersen.

Most ADRs trade at a premium to their underlying shares. Better valuations in overseas markets make it attractive for companies with listed DR programmes to raise funds overseas. In the recent past, HDFC Bank was seen tapping the ADR market for its equity fund raise.

Experts, however, say it’s unlikely that firms that have not issued depository receipts will opt for this programme now only for the benefit of certain foreign shareholders. 

“Although the regulator allows sponsored depository receipts, the process involves cost as well as local and foreign regulatory approval,” said Gidwani. In October last year, the Securities and Exchange Board of India (Sebi) put in place a framework for domestic companies to raise capital through DRs. The move, which followed a Budget announcement last year, will allow listed Indian companies to issue either equity or debt to investors on overseas stock exchanges such as the New York Stock Exchange, Nasdaq, and the Hong Kong Stock Exchange.

The new guidelines have failed to spur Indian companies’ interest in this segment. The DR market has also been suffering from a trust deficit because of either lack of quality disclosures, or market manipulation, or fraudulent arrangements, and in some cases it is even being used as a tool for money laundering, said Yogesh Chande, partner, Shardul Amarchand Mangaldas.


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