Black Money: Corporate Entities and Securities Markets

The Government yesterday tabled its White
Paper on Black Money
in Parliament. Billed as the first document to
comprehensively tackle the issue, it cites various studies and is replete with
data. However, it has already been subjected to criticism from various quarters
owing to the lack of details and clarity in solutions to deal with the issue. This
post, however, briefly touches upon the role of corporate entities and the
securities markets in perpetuating the flow of black money as contained in the
White Paper.
The White Paper finds that financial
market transactions are used as conduits to route black money using the modus
operandi of “round tripping”. For instance, it notes:
2.4.9 The illicit money transferred
outside India may come back to India through various methods such as hawala,
mispricing, foreign direct investment (FDI) through beneficial tax
jurisdictions, raising of capital by Indian companies through global depository
receipts (GDRs), and investment in Indian stock markets through participatory
notes. It is possible that a large amount of money transferred outside India might
actually have returned through these means.
The use of participatory notes
(P-Notes) for investments back into India appears quite stark. Since P-Notes
are issued by entities outside India, often through multiple-layered holding
structures, Indian regulators are faced with difficulties in ensuring
transparency and in identifying the ultimate beneficial owners. Despite
progressively stronger KYC norms imposed by SEBI to track beneficial ownership
of P-Notes, it has had mixed success, primarily owing to the difficulties
associated with extraterritoriality of the investment activities in P-Notes. For
previous discussions on regulating P-Notes, please see here,
here
and here.
The White Paper also comments upon the
use of complex corporate structures through tax havens to mask financial
transactions.
2.9.1 Corporate structuring is a
legitimate means of bringing together factors of production in a way that will
facilitate business and enterprise and help the economy. However, an artificial
personality can also be created of a corporate entity to conceal the real
beneficiaries. Opaque structuring through creation of multiple entities that
own each other and the secrecy granted by certain jurisdictions facilitate such
misuse.
2.9.4 With increasing realisation
about the harmful effect of ownership being concealed behind complicated corporate
ownership structure, such structure is coming under scrutiny. In the Indian
context, it is one of the reasons for the fact that tax authorities are not
able to take action in cases where money is prima facie brought back to India
through round tripping and other legitimate means and it is expected that
efforts taken by India in this regard as also global pressure will provide a
check on these tendencies.
The White Paper further fuels the
ongoing debate on issues of taxation by referring to the Vodafone case. Again,
given that corporate holding structures are established on a
cross-jurisdictional basis, regulating the entire chain is an onerous task.
It is quite clear from the report that the issue of black money is quite complex and requires a multi-pronged strategy to deal with. While the White Paper is a first step in documenting the various aspects of the issue, it might required a more concerted action as it involves multiple laws and regulations enforced by multiple regulators.

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

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