India and Mauritius have ended a fiscal agreement responsible for billions of dollars of investment passing through Mauritius each year. With the threat that other countries may want to do the same, the government is looking for new ways to promote growth outside the offshore financial sector.
The foundations of the Mauritian offshore financial centre are crumbling. Misunderstanding has prevailed among financiers since the signing of a new amendment to the double taxation avoidance agreement (DTAA) between Mauritius and India in May.
We are not worse off. We will be on a same level playing field with other financial centres
The DTAA had allowed investors to avoid paying Indian capital gains tax by routing their investments through the African island state. Bankers are worried that the offshore 'global business' sector – which represents 3,000 direct and more than 6,000 indirect jobs, and contributes 3.5% of gross domestic product – could soon collapse. The government is now scrambling to develop other sectors to counteract the impact of the taxation changes.
On 10 May, one day after the signing of a new agreement between the two governments, financial services minister Roshi Bhadain said: "The DTAA existing between Mauritius and India is coming to an end." The deal sees Mauritius giving up, as of 1 April 2017, 50% of its taxing rights on capital gains for Indian investments, rising to 100% from 2019. Bhadain had predicted the likely end of the DTAA, which was signed more than 30 years ago, but the government was slow to put in place a plan to address the crisis.
Addressing parliament in May, Bhadain said the country's low tax rates would still make it attractive to investors in India's debt markets. Samade Jhummun, the chief executive of Global Finance Mauritius (GFM), argues that it is a huge blow to the offshore sector: "We took 20 years to build the foundations of the global business sector, with India as plinth."
Conduit on a huge scale
From April 2000 to March 2016, financiers channelled $95.9bn of Indian investment through Mauritius. That is more than twice the amount – $45.8bn – that went through the financial centre of Singapore over the same period.
According to figures from the Mauritius Financial Services Commission, there are now more than 20,000 active global business companies in Mauritius. The treaty with India accounts for almost 75% of the value addition of global business, while Africa generates only 4% of that amount.
While Indian officials had long voiced their opposition to the DTAA because it hurt tax revenue, some of their Mauritian counterparts thought a compromise could be salvaged. But Gaëtan Wong, the chief executive of the National Investment Trust, argues that the smart investors saw the end was nigh.
"It was high time. It is a grudging decision, which was necessary. One saw this revision coming for a long time. Some companies anticipated it and have rightly decided to diversify, particularly in Africa." He adds: "With this new deal, the Mauritian financial centre has no choice but to go up in value. It must move from its actual back-office structure to front-office operations. The context is not the same as 20 years ago. Previously, when you were taking advantage of tax treaties, it was seen as a smart move. Today, double taxation treaties are frowned upon, especially with the recent Panama Papers."
Some are optimistic that the change will not bring too much trouble. Vikash Tulsidas, managing director of Axys Stockbroking, says: "We are not worse off. We will be on a same level playing field with other financial centres."
However, he highlights the uncertainty that will come after 2017: "The question that remains to be asked is whether, with the entry into force of the new treaty, investors will continue to use Mauritius to invest in India, especially when we know that Mauritius will be competing with much more sophisticated jurisdictions such as Singapore and the Netherlands. Probably, we will see the effects of the new treaty as from 2017. Banks and accounting firms are likely to be the first to suffer."
GFM's Jhummun points out that on the Global Financial Centre Index, London is ranked first followed by New York, Singapore and Hong Kong, while Mauritius is 73rd.
Kamal Hawabhay, chairman of the Association of Management and Trust Companies – the representative body of the global business industry in Mauritius – says there could be a rush to make deals before next year, but he is pessimistic overall. He explains: "Till 31 March 2017, investors may benefit from the grandfathering clause – that means paying taxes only in Mauritius [...]. I don't see new businesses for our global business sector."
While some players in the sector have turned their attention to Africa, Jhummun says he fears that "the revision of the Indo-Mauritius treaty has created a precedent and may encourage other countries to renegotiate their DTAAs with Mauritius."
That is a view shared by Hawabhay. He says: "Now that India and South Africa have revised their treaties with Mauritius, it's a matter of time before other countries want the same thing. In Africa, on which we place great hopes, there is Mozambique, which, for two years now, has wanted to renegotiate its DTAA with Mauritius. Kenya still has not ratified its fiscal treaty with Mauritius. If African countries ask to change their treaties with us, we will be in big trouble."
Mauritius has tax treaties with 16 African countries. Thus far its African business dealings have been worth much less than its Indian financial activities, but this may change.
Not all Mauritian banks are exposed to Indian activities, with the international banks channelling most of the loans and investments to India. The International Monetary Fund (IMF), however, has warned about the impact of the treaty changes, saying that there are "sizeable" linkages between the offshore and onshore banking sectors and that the government should have put measures in place to cope with the changes.
Prime Minister Anerood Jugnauth has faced few challenges from his political rivals thanks to his Militant Socialist Movement's alliance with the Parti Mauricien Social Démocrate and the Mouvement Libérateur. Other than events like the March resignation of his environment minister due to a corruption investigation, there has not been much that opposition leader Paul Bérenger of the Mouvement Militant Mauricien has been able to crow about. But with the country's political alliances often shortlived, all sides of the political spectrum are on the lookout for ways to shift the balance of power.
Economic policy is likely to dominate the political debate this year. Jugnauth prides himself on having turned around the island's fortunes in the 1980s when agriculture was struggling. His supporters and opponents alike are wondering if he can pull off a second 'economic miracle' that will make Mauritius a high-income country. The government's main economic growth priorities include the development of a 'blue economy' based on ocean resources, the revitalisation of cities together with the creation of new smart cities, and further integration into Africa's economies.
The Mauritian population is ageing, and the government may need new strategies to help meet the demand of the labour market. Another potential growth sector is the field of education, but several British universities that have set up satellite campuses in Mauritius over the past few years have recorded new student intakes of less than 100 people.
Critics say that the ideas for the blue economy have been around for years and have not attracted much investment. The smart cities initiative is filled with buzzwords like 'innovation' and 'incubator' but will need the private sector to get on board if they are to take off.
The government has a limited latitude to borrow to finance new projects, and the IMF notes that public debt is set to drop slightly to 61% of gross domestic product this year. In June, the central bank announced that foreign direct investment fell by about half to Rs9.6bn ($272m) in 2015, showing that economic growth is an uphill battle in these times of difficult fundraising for African projects. ●