STEP

Title Research

The Indian miracle

  • Author : Jeff Halpern
  • Date : April 2011
ABOUT THE AUTHOR: Jeff Halpern is Managing Director and Head of Wealth Management Solutions, Global South Asia, at Deutsche Bank, based in Geneva

Everyone knows the Indian miracle is a force to be reckoned with, and trust and estate practitioners are no exception.

India constitutes one of the world’s fastest growing economies and, not surprisingly, has one of the fastest growing ‘millionaire’ populations. According to Wikipedia, there are 69 USD billionaires among the top wealthiest 100 families in India.

The Hindustan Times estimates that India’s total wealth has tripled to USD3.5 trillion over the past decade, against the global growth rate of 72 per cent and overall wealth pot of USD195 trillion (defined as investments plus real estate less household debt). India is expected to further grow its wealth between now and 2015 to USD6.4 trillion, according to the Credit Suisse Global Wealth Report. And, if the luxury auto industry is any measure of spending power, Mercedes had its largest single order ever in 2010 for 148 vehicles from the city of Aurangabad, 300km northeast of Mumbai. Mercedes now looks for 25 per cent year-over-year growth from such Indian cities.

What also makes India different from, say, China is the wealth impact of the Non-Resident-Indian (NRI) market. According to a study by Datamonitor, there are more than 20 million NRIs worldwide, with 6.2 million located in 20 key countries, with wealth estimated at well over USD1 trillion.

The India Diaspora is spread across all continents, and Indian families are some of the world’s most savvy business traders. Indian business owners have a track record of entrepreneurial success, probably second to none, and it is common for Indian ‘business families’ to have bases in India, Dubai, Singapore, Hong Kong, America and Africa, where the family operates a range of diverse enterprises, with family member-managers locally settled. This situation is fairly unique when compared with non-Indian business families, who typically own a single business or operate in one industry only.

The Indian economy has made a 180-degree transformation over the past decade from a struggling, segregated ‘have-not’ economy, to a buzzing, modern, prosperous market within the admired BRIC (Brazil, Russia, India and China). This success has not gone unnoticed, and has made the Indian community one of the most coveted targeted segments for all banks, investment houses and financial intermediaries.

STEP is in the process of preparing its Indian Chapter launch. The launch of STEP in India is timely, as there are many changes taking place in Indian society that would benefit from the specialist advisory skills of trust and estate professionals.

Progress or regress – the price of success?

The Indian miracle is still very new, and has brought with it some of the challenging side-effects that wealth triggers in a family unit.

During early visits to India some 15 years ago, there were few families willing to show their wealth in public, and family traditions were very set. It was common to be invited to a family meeting with the patriarch (the elder brother) who would be the sole spokesperson for all members of the family and would have absolute respect. The other brothers would sit in the meeting entirely silent. The meeting would invariably take place in an austere private office and there would be no indication of the apparent family wealth. Wealth was not shown, and, to the contrary, families went out of their way to hide the existence of family wealth, and with good reason. There was much distrust in the old tax system, and fears that exposure could lead to extortion from private crime syndicates.

Back in the early 1970s, the maximum basic personal tax rate in India was 85 per cent with 11 tax slabs (brackets). There was a 15 per cent surcharge, making the maximum rate a whopping 97.5 per cent. There was also a 5 per cent wealth tax, bringing total tax payable to over 100 per cent! It is not surprising families were reluctant to talk about their wealth under such a tax regime.

In 1976/77, the maximum tax rate was reduced to 66 per cent. In 1985/86, the maximum tax rate was reduced to 50 per cent, and wealth tax lowered to 2.5 per cent.

In 1992/93, the tax system was simplified to three tax slabs, being 20/30/40 per cent, and wealth tax was reduced to 1 per cent with an exclusion for financial assets. In 1997/98, the three tax rates were further reduced to 10/20/30 per cent.

Today, long-term capital gains on listed shares are exempt from tax, and short-term gains are taxed at only 15 per cent, making India one of the most progressive tax systems in the world for capital investment.

It was this important tax simplification that was the primary driver needed to ignite the Indian economic miracle; for with these attractive lower tax rates emerged a need to repatriate capital back to India, and greater wealth transparency.

Times have indeed changed. Today, meetings in India may take place at a posh club or restaurant in open view or in the client’s Class A office building, and clients might drive the latest Bentley.

You now see Rolls Royce and Ferrari dealerships on the drive from the Mumbai airport. And there is a new focus on discussing tax-effective investment strategies to enable foreign joint venture partners to participate in the attractive investment returns in India.

The subject matter of family meetings has also shifted. Jealousy and family complexities have arisen, and it is common today to discuss:

  • strategies to assure liquidity at death, e.g. the need to arrange life insurance and trusts to ensure sufficient liquidity will be left to one brother’s wife and children on his death, as there is distrust as to whether his brothers would necessarily look after them on his death;
  • strategies to protect wealth against the threat of marital breakdown, a new concern for the patriarch and his children;
  • how to plan family business succession and create a ‘fair’ outcome for a daughter taking over the family business and a son working in his wife’s business;
  • how to plan the listing of a private company, and the family considerations of public company ownership;
  • how to write a ‘family constitution’ to enable a long-term plan to overlay the ownership of the multi-billion family business through the coming generations;
  • how to create a Private Trust Company and constitute the board;
  • how to create a charitable trust with family members constituting the donations committee; and
  • strategies to move funds back into India that have been held offshore for a generation before.

These types of issues require the skill and expertise of trust and estate professionals.

Why now?

Besides the family breakdown reasons cited above, and the other complexities that wealth brings, there are other reasons why the timing is so right for members of STEP to pursue the Indian market.

The Direct TaxesCode Bill 2010, if approved, will see a host of tax changes introduced as early as 2012 that will have material impact on global estate planning for Indian families, the most notable changes being:

  • the extension of the 1 per cent wealth tax to works of art, offshore deposits and foreign trusts;
  • the broadening of the General Anti Avoidance Rule (GAAR);
  • the introduction of a new ‘place of effective management’ test for foreign companies; and
  • the introduction of Controlled Foreign Corporation (CFC) rules.

Also, in recent years, foreign exchange restrictions have been eased, allowing every Indian resident to now remit around USD200,000 per year under the Liberalised Remittance Scheme.

These changes make it timely to review all existing structures, and consider new solutions.

Onshore trust planning – the India Trusts Act 1882

The trust concept has a long history in India, and the Trusts Act dates back to 1882. Under the Act, ‘every person capable of holding property may be a trustee; but where the trust involves the exercise of discretion, he cannot execute it unless he is competent to contract’.

Like many common-law jurisdictions that have had trust law for a century or longer, India has not modernised its trust law, and there is very little integration of the tax legislation to prevent against double taxation applying to trust assets. Thus, if a domestic Indian trust is created, which in turn owns one or more Indian private companies, tax will be paid at the company level, and once again when earnings are paid up to the trust. This system longs for modernisation to enable the effective implementation of trust and estate solutions.

There is ample scope in India for trust and estate professionals to lobby for the needed changes to build a healthy and thriving trust industry to serve the needs of the new wealth classes. Currently, there are very few domestic corporate trust companies operating in India, and this denies Indian residents a large base of skilled fiduciary professionals to draw upon. Instead it is more common to appoint the family’s accountant or lawyer as trustee, but, as we all know, individuals pass away leaving the family’s trust in jeopardy of its own succession.

Conclusion

India is a very high-potential market for the use of domestic estate and succession-planning solutions. With the growing complexities within wealthy Indian families, and their international business succession-planning needs, the onshore Indian community offers one of the most attractive future markets for STEP.

India is truly a global opportunity too big to ignore.

STEP will be holding an India Insight event on 8 June 2011 at Schroders in London. Nishith Desai, Founder of Nishith Desai Associates, will be speaking at this event. If you are interested in attending please contact [email protected]


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© 2011 Society of Trust & Estate Practitioners