MARCH 28, 2014

By Naresh Minocha, Our Consulting Editor

THE public suspicion that a part of foreign direct investment (FDI) in India comes from secret Swiss numbered accounts through circuitous route has turned out to be true.

In a case perhaps first of its kind, Soma Tollways Private Limited (STPL) has reluctantly admitted to the Government that a chunk of the unapproved FDI in its share capital has flowed in from two Swiss numbered accounts. The curtain over this unapproved FDI aggregating to Rs. 350 crore is, however yet to be lifted fully.

This money has been pumped in by certain Mauritius-registered foreign institutional investors (FIIs) whose ultimate control lies in the hands of high profile American Investment Bank, J.P. Morgan.

STPL has not disclosed the names of persons holding the two mysterious accounts, Geneva 4813 and Geneva 7631 accounts. It has justified non-disclosure by citing Swiss secrecy laws. That is where the case stands at present.

If STPL does not disclose the ownership of these accounts, then the Indian Government should seek requisite information under the Indo-Swiss Double Taxation Avoidance Convention (DTAC). When and whether this initiative would be taken is unclear at present if we go by the Swiss response to Finance Minister P Chidambaram's LETTER on the issue of seeking tax information as per Article 26 of the DTAC.  

It also remains to be seen whether the Government would take STPL's case as a tip of the dubious FDI running into thousands of crore of Rupees which has flowed through Mauritius-registered FIIs.

Non-disclosure of the ownership of numbered accounts and failure to reveal the source of part of the money would obviously raise certain questions. An obvious question is whether the Geneva accounts are owned by Indians or foreigners. Another issue is whether the money flowing from these accounts is black money or some other tainted wealth or tax-paid savings.

It remains to be seen whether the new Government would latch on to this case to make mandatory full disclosure of the names and addresses of all entities on whose behalf FIIs invest in Indian companies both as portfolio investment and as FDI through the Government/RRBI route.

The Government's political will be put to test on the issue of treating shopping and round tripping. Revenue Department has been opposing the inflow of FDI through these dubious practices but Foreign Investment Promotion Board (FIPB) has mostly brushed aside such opposition and cleared FDI applications over the years.

The bigger challenge for the Government lies in subjecting all approved investments over the years to the disclosure norms. If the Government fails to do so, it might face the charges of targeting STPL for non-transparent reasons.

The basic objective should be to find out whether tainted money generated by Indian businesses, politicians, bureaucrats, journalists and other members of the influential section of the society has been brought back to India under the veil of FIIs investment.

The credit for unearthing of Swiss numbered accounts as faceless investors in STPL should go to Department of Revenue (DOR) that has lately been demanding disclosure of the identity of ultimate beneficiaries of FIIs that invest in Indian companies.

In this case, FIPB initially overruled DOR's objection on grounds of treating shopping by dubbing it as "generic" objection. FIPB thus recommended clearance of STPL's Rs 350-crore FDI at its meeting held on 19th October 2012.

While considering this recommendation, the Finance Minister P. Chidambaram directed FIPB to examine the source of funds and ultimate beneficiaries of the FDI proposal.

Soma Tollways Private Limited (STPL), a member of Hyderabad-based infrastructure developer Soma group, has, however, declined to reveal the names of entities that own the two Swiss accounts, whose money has been invested by AIRRO (Mauritius) Holdings II and VI. Both these entities are fully owned by AIRRO (Mauritius) Holdings III, which, in turn, is wholly held by JP Morgan Asian Infrastructure and Related Resources Opportunity Fund Cayman Master, LP, Cayman Island. This Fund is ultimately managed by JP Morgan.

STPL, a subsidiary of Soma Enterprise Ltd, serves as the holding company of the Group for investment in Highway projects executed through the build, operate and transfer mode.

When STPL secured the Government's approval for Rs 500-crore investment by AIRRO entities (16.66% stake) in June 2011, it did not realize that it was heading for trouble.

The approval was given to STPL as an investing company with stipulation that it would comply with Reserve Bank of India's (RBI's) core investment company regulatory framework. Another condition incorporated in the clearance letter was that the company would fulfill two provisions specified in Circular 1 of 2011 on the consolidated FDI policy.

One of the provision relates to types of instruments/securities through FDI investment is made and the manner in which the securities should be valued. The second provision deals with downstream investment or indirect foreign investment by one Indian company into another Indian firm.

Without seeking prior approval, STPL later secured an additional inflow of Rs 330 crore from AIRRO in June 2012. This resulted in an increase in FDI in STPL to 24.92% from the earlier approved 16.66%.

When STPL applied for ex-post facto clearance of this second tranche of investment, Foreign Investment Promotion Board (FIPB) told the company that it had not complied with two specified conditions of FDI policy and Reserve Bank of India's (RBI's) core investment company regulatory framework. The transaction would thus attract penalty referred to as "compounding by RBI".

Compounding refers to resolution of cases where entities voluntarily admit contravention of Foreign Exchange Management Rules (FEMA). RBI imposes certain penalty on the violators after giving them a hearing.

When STPL proposal again came for consideration at FIPB meeting on 14th June 2013, DOR again opposed the application on the grounds of treaty abuse and lack of clarity regarding the identity of ultimate beneficiaries.

FIPB advised DOR to give one more opportunity to STPL to provide requisite information relating to source of funds and ultimate beneficiaries.

When the proposal again came up for consideration by FIPB on 19th September 2013, DOR observed that "in spite of repeated opportunities, the applicant has not furnished the complete (list of) beneficiaries of the investment." DOR thus again declined to support the application. FIPB, however, deferred a decision on STPL's application as it sought time till 30th September 2013.

STPL finally responded DOR's demand for furnishing details of ultimate beneficiaries and to explain the sources of funds along with the supporting documents such as copies of financial statements including income tax returns.

STPL provided a list of 24 investors which constitute 79.43% of Rs 330-crore investment made AIRRO III. The company did not furnish the names and addresses of the investors that contributed the balance holding of 20.57%.

FIPB had thus no option but to defer a decision on the company's plea for approval at its meeting held on 3rd February 2014. It is not yet decided when the case would again be put before the FIPB.

Of the 24 disclosed investors, two are Geneva 4813 and Geneva 7631 accounts. These have been identified as private bank clients.

According to authoritative sources, "The applicant has not furnished the names of the persons holding these accounts citing the Swiss secrecy laws. These two accounts 5.82% of the holding of the Cayman Island-based fund."

STPL has contended that FIPB did not seek such details at the time of approving original investment of Rs 500 crore by AIRRO VI. It stated that investors are thus reluctant to disclose their personal details of investors. Individual investors are "very concerned about preserving confidentiality for personal security and other reasons," it added.

STPL case should also spur the Indian Government to set the final deadline for Mauritus to agree to amend India-Mauritius Double Taxation Avoidance Convention/agreement (DTAC/DTAA) to the satisfaction of DOR. The amendment proposal has been on the anvil since 1995 and has been discussed bilaterally several times.

Mauritius has been is used as channel for laundering black money as foreign investment in India. Moreover, India loses tax revenue running in a few thousand crore every year due to non-levy of capital gains tax.

It appears Mr. Chidambaram is set to leave STPL as a test case for widely expected BJP/Narendra Modi-led Government to prove its resolve to unravel the identity of secret overseas account holders.