- Who is NRI
- What is taxable for NRI in the absence of DTAA
- What is DTAA and benefits available under the same.
Salary received by a non resident in India, for services rendered outside India, not taxable in India,if tax treaty conditions met.
ITO vs. Arjun Bhowmik (ITA No 3484/Del/2012)
Background Recently, the Delhi Bench of the Income-tax Appellate Tribunal (the Tribunal) in a case of Arjun Bhowmik (the taxpayer) held that salary received in India by the taxpayer, a tax resident of Philippines, for rendering services in Philippines, is exempt from Indian income-tax under the India-Philippines tax treaty (tax treaty)
Facts of the case
The taxpayer, an employee of M/s KJS India Pvt Ltd (KJS India) was seconded to Kraft Foods, Philippines on a long-term international assignment. During the tax year 2007-08, the taxpayer was rendering services in Philippines. Also, he was a tax resident of Philippines and had paid taxes in Philippines in respect of the salary he received in India.
The taxpayer was present in India for only 17 days during the tax year 2007-08. He filed his Indian tax return as a ‘non-resident’for India tax purposes, claiming an exemption in respect of the salary received by him in India for services rendered in Philippines and accordingly claiming a refund of India income-taxes in his return.
The Assessing Officer (AO) rejected the exemption claimed by the taxpayer on the grounds that the salary received by the taxpayer in India was taxable in India even if he qualified as a ‘non-resident’ 3 . On appeal, however, the Commissioner of Income-tax (Appeals) [CIT(A)], permitted the exemption claimed by the taxpayer.
Issue before the Tribunal Whether the taxpayer was eligible to claim an exemption under the tax treatyin respect of the salary received in India?
Tax department’s contentions
The salaryreceived or due to be received in India by a non-resident taxpayer, notwithstanding the source, would be taxable in India. In this case, the salary accrued in India was also received and paid in India. The exemption had erroneously been allowed by the CIT(A) without ascertaining as to whether tax was paid by the taxpayer in Philippines on the salary accrued and received in India.
Under Article 16(1) of the tax treaty,the salary derived by a tax resident of Philippines from exercising employment in Philippinesshall be taxable only in Philippines.In the taxpayer’s case,the taxpayer was present in India for only 17 days during the tax year 2007-08and had not rendered any services in India.
The taxpayer had actually paid taxes in Philippines on the salary received in India and had filed Philippines income-tax returns as well.
Tribunal’s ruling The Tribunal upheld the decision of the CIT(A) that the salary received by the taxpayer,through KJS India,for the employment exercised in Philippines, was not taxable in India, by virtue of Article 16(1) of the tax treaty.
Indian employees working overseas often face litigation over taxation of their overseas salary income, if such salary is received in India. This is because a non-resident can be subjected to tax in India on that portion of the income which is received in India.
The Income Tax Appellate Tribunal (ITAT) which adjudicates tax matters, in a recent decision, has held that merely because the salary was credited by the Singapore-based employer company to the employee's NRE bank account in Mumbai, it will not trigger a tax incidence in India. The ITAT sought to distinguish between 'income' received in India and an 'amount' received in India.
The ITAT relied on earlier judicial pronouncements and held that salary income is a compensation for services rendered by an employee. Thus, salary income in the hands of the non-resident employee cannot be taxed in India, if the services are rendered outside India. The place of receipt of the appointment letter is immaterial.
However, the income tax authorities pointed out that the money was received in India, as the salary cheques were credited by Executive Ship Management Pte — the Singapore employer — to the NRE ( non-resident external rupee) account maintained by the employee Arvind Singh Chauhan with HSBC Bank in Mumbai. Thus, it should be taxable in India in his hands.
Under tax laws, the tax incidence is based on the concept of residence, which in turn depends on the number of days stayed in India. A tax resident of India is subject to tax on his global income. However, a non-resident is subject to tax in India only under two situations, one of them being that income received in India is taxable in India. In this case, the employee who was working on a ship plying on international routes was a non-resident as he had spent less than 182 days in India during the relevant financial years relating to the matter being heard by the ITAT.
The ITAT rejected the contention of the tax department that the salary amount credited to the bank account in India should be subject to tax. It observed that the employee had a lawful right to receive the salary amount at the place of employment (which is the location of the foreign employer outside India). The ITAT held: "The connotation of an income having been received and an amount having being received are qualitatively different. The salary 'amount' is received in India in this case but the salary 'income' is received outside India".
Gautam Nayak, partner, CNK & Associates, said, "The ITAT in this order has highlighted a new aspect relating to income received in India. It has drawn a distinction by holding that salary income was not received in India as the employee had the lawful right to receive salary outside India. The salary amount was at the employee's disposal outside India and he merely exercised his right to transfer it to India."
India, with 1.42 crore migrants, is among the leading exporters of manpower, according to latest UN statistics. A large chunk of them constitute blue-collar workers. The practice of a salary credit either in full or in part to a bank account in India is more common in case of highly skilled workers.
"Employee agreements should be properly structured. If these agreements bring out the point that the salary for services rendered overseas is being credited to a bank account in India, at the employee's request for the sake of convenience, this ITAT decision could help mitigate litigation" explains Nayak.
The “Double Tax Avoidance Agreement (DTAA)” or “Tax Treaty” is essentially bilateral agreements entered into between two countries, in our case, between India and another foreign state. The basic objective is to avoid taxation of income in both the countries (i.e. Double taxation of same income). Currently India has comprehensive DTAA or Tax Treaty with 84 other countries.
- Lower Withholding Taxes (Tax Deduction at Source)
- Complete Exemption of Income from Taxes
- Underlying Tax Credits
- Tax Sparing Credits
*Relaxation u/s 206AA to Non-residents from 20% TDS:
- Fees for technical services and
- Payments on transfer of any capital asset,
Original Provision before the 2016 amendment
Non Resident Indian as per FEMA :-
- For the purpose of availing of the facilities of opening and maintenance of bank accounts and investments in shares/ securities in India:
- he, at any time, held an Indian passport,
- (ii) he or either of his parents or any of his grand parents was a citizen of India bu virtue of the Constitution of India or Citizenship Act, 1956( 57 of 1955)
(ii) he or his father or paternal grand-father was a citizen of India by virtue of the Constitution of India or the Citizenship Act, 1955 ( 57 of 1955).
- An individual is resident if any of the following conditions are satisfied:
- Hindu Undivided Family (HUF) or firm or other Association of persons is resident of India except in cases where the control and management of its affairs is wholly situated outside India in the previous year
- it is an Indian company, or
- 9ii) during the previous year, the control and management is situated wholly in India.
- A person resident in India, in a previous year in respect of any source of income shall be deemed to be resident in India in respect of his other sources of income.
- has not been resident in India in 9 out of 10 previous years preceding the previous year; or
- has not during the seven previous years preceding that year, been in India for a period of or periods amounting in all to 730 days or more.
- Thus according to condition in clause (a) a newcomer to India would remain not ordinarily resident in India for the first 9 years of his stay in India. Similarly, in case where a person who is resident in India goes abroad and ceases to be resident in India for at least 2 years, he would upon his return, be treated as, not ordinarily resident for the next 9 years.
- He stays in India for at least 182 days during the previous year.
- He is resident in India for at least 9 out of 10 years preceding the previous year.
- He is resident in India for at least 730 days during 7 years preceding the previous year.
- If such a person satisfies condition (a) but does not satisfy either of the conditions at (b) or (c) above, such a person would be resident but not ordinarily resident.
- He stays in India for at least 182 days during the pervious year and,
- He is resident in India for at least 9 years out of 10 years preceding the previous year.
- He is resident in India for at least 730 days during seven years preceding the previous year.
- He stays in India for at least 182 days during the previous year.
- He stays in India for at least 60 days during the previous year and for at least 365 days during 4 year preceding the previous year.
- He is resident in India at least in 9 out of 10 years preceding the previous year.
- He is resident in India for at least 730 days during 7 years preceding the previous year.
Residential Status amendment- number of days stay in India
– The exception provided in Explanation 1(b) to section 6(1), for Indian citizens and persons of India origin visiting India in that year has been decreased to 120 days, only in cases where the total income of such visiting individuals during the financial year from sources, other than foreign sources, exceeds INR 15 lakhs.
– The term ‘income from foreign sources’ has been defined to mean income which accrues or arises outside India (except income derived from a business controlled in or a profession set up in India).
Residential Status – Provision of ‘Deemed Resident’ applicable if total income exceeds INR 15 lakhs
– The amendment to clause (1A), introduced by the Finance Bill, 2020 targeted individuals who do not spend considerable amount of time in any country so as to be treated as tax residents of such foreign countries.
– This created a lot of misapprehension in the non-resident Indian (NRI) community, especially for Indians who are bonafide employed in other countries or carry on business there, etc.; and who are not subject to tax in those countries as per the domestic tax law of those countries, will be taxed in India on the income that they have earned outside India.
– Hence, to avoid such misapprehension, the CBDT issued a Press Release dated 2 February 2020, clarifying that in case of an Indian citizen who becomes deemed resident of India, income earned outside India by him shall not be taxed in India unless it is derived from an Indian business or profession.
– The scope of clause (1A) has been now limited through the Finance Act, 2020, and shall only be applicable to such Indian citizens who meet the threshold*. Accordingly, all Indian citizens who fail to meet the threshold, but are not subject to tax in any other jurisdiction, will not be considered as Indian tax resident
(*Threshold: an individual, being a citizen of India, having total income, other than the income from foreign sources, exceeding fifteen lakh rupees during the previous year)
Deemed resident to be treated as ‘Not Ordinarily Resident’
– The proposed relaxation to the Resident but Not Ordinarily Resident (RNOR’) under the Finance Bill have been removed through the Finance Act, 2020, that is:
The Finance Bill proposed to streamline the test for RNORs by providing that an individual or an HUF shall qualify as an RNOR, if such individual or manager of the HUF has been a non-resident in India for seven out of the ten previous years preceding that year
– The Finance Act, 2020, now adds two categories to the test for RNOR in section 6(6).
– The below persons shall also be treated as RNOR:
· Indian citizens/ persons of Indian origin who meet the threshold and have been in India for a period of more than 120 days but less than 182 days i.e. those Indian citizens / persons of Indian origin who fulfil the conditions mentioned above in Explanation 1(b) to section 6(1) and
· Indian citizens who fulfil the conditions mentioned above in Explanation (1A) to section 6(1).
– The above amendments mean that even where an Indian citizen qualifies as a tax resident under section 6(1) of the Act but owing to the amendment as mentioned above to Explanation 1(b) and Explanation (1A) to section 6(1), he will still not be taxed on a worldwide basis (unless as per section 5 of the Act, such foreign income is derived from a business controlled in or a profession set up in India), even if he does exceed the threshold.
-The day count and total income criteria has to be examined every financial year
– The same shall be applicable from AY 2021-22
Resident but not ordinary resident
Accrued and received in India (indian Income)
Accrued in India (indian income)
Received in India (indian income)
Income is neighter accrued nor received in India (foreign income)
Taxable only if business is controlled wholly or partly in India or profession is set up in India
Gross total income
Deduction under chapter VI-A
Tax payable as per indian law
Average rate of income
foreign tax rate
Rebate/s 91 u at 20%
Tax payable after rebate
Fees for technical services rendered outside india but utilised in India - it is deemed to accrue or arise in India - TDS needs to be made
Country where the person is tax resident under the relevant tax laws of any country is called the country of residence. Tax laws of all countries are different. At times, a taxpayer may be a resident of two countries. In such situations, he has to apply the tiebreaker test to become tax resident of only one country for the purposes of the double tax avoidance agreement (meaning of DTAA is explained in point no.11 & tie breaker tests can be seen in Article 4 Resident
of any DTAA ).
2. Country of Source:
Country where the person earns income or where the income accrues or arises is the country of source. In International Taxation parlance, it is the country where that person has done the value addition. Where the value addition is done is a big controversy in itself!
3. Country of Payment:
Country from which the person makes the payment is called the country of payment. Country of Source may not be the same as country of payment. Also, country of market / consumption may or may not be the same as country of payment.
4. Country of Market / Consumption:
Country where the actual consumption takes place is called the country of market consumption. Here also, country of source & country of payment may not be same as country of market / consumption.
5. Tax Base:
There has to be a tax base for Government of different countries to charge tax. There can only 2 bases for levy of income-tax:
For the levy of income-tax, Indian Government can tax the global income of Indian tax residents or the Indian accrued income of tax non-residents of India. Governments cannot tax foreign sourced income of non-residents. Prima facie they have no right to levy income-tax on foreign sourced income of non-residents. There has to be a nexus between the country & its residents or the country & income sourced in that country. Unless & until, there is a nexus between any one of the two, Governments do not have a base/ jurisdiction for taxation.
6. Permanent Establishment (PE):
Sec. 92 F provides an inclusive definition of Permanent Establishment. The section says, "It includes fixed place of business through which the business of the enterprise is wholly or partly carried out." Article 5 of OECD & UN model conventions also provide for an inclusive definition of the term permanent establishment i.e. "it includes a place of management, a branch, an
office, a factory, a workshop and .."
Attribution of profits to PE:
This is a major controversy in International Taxation i.e. How to attribute the profits to a permanent establishment? The international consensus has been that the profits should be attributed to a PE on the basis of the "separate enterprise" concept, and the application of the arm's length principle. This is currently encapsulated in Article 7(1) and (2) of the OECD Model Tax Convention as follows:
"(1) The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the profits of the enterprise may be taxed in the other State, but only so much of them as is attributable to that permanent establishment.
(2) Subject to the provisions of paragraph (3), where an enterprise of a Contracting State carries on business in the other Contracting State through a permanent establishment situated therein, there shall in each Contracting State be attributed to that permanent establishment the profits which it might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar conditions and dealing wholly independently with the enterprise of which it is a permanent establishment."
This means that PE should be hypothesized as separate unit. Accordingly, functions, risks, assets, capital employed, etc. should also be attributed to the Permanent Establishment for attributing profits to PE. Governments cannot tax the business income of a non-resident in absence of a Permanent Establishment.
7. Business Connection:
Sec. 9 (i) explains business connection. It says it includes "any business activity carried out through a person who, acting on behalf of the non-resident-
(a) has and habitually exercises in India, an authority to conclude contracts on behalf of the non-resident, unless his activities are limited to the purchase of goods or merchandise or the non-resident ; or
(b) has no such authority, but habitually maintains in India a stock of goods or
merchandise from which he regularly delivers goods or merchandise on behalf of the non-resident ; or
(c) habitually secures orders in India, mainly or wholly for the non-resident or for that non-resident and other non-residents controlling, controlled by, or subject to the same common control, as that non-resident :
Provided that such business connection shall not include any business activity carried out through a broker, general commission agent or any other agent having an independent status, if such broker, general commission agent or any other agent having an independent status is acting in the ordinary course of his business :
Provided further that where such broker, general commission agent or any other agent works mainly or wholly on behalf of a non-resident (hereafter in this proviso referred to as the principal non-resident) or on behalf of such non-resident and other non-residents which are controlled by the principal non-resident or have a controlling interest in the principal non-resident or are subject to the same common control as the principal nonresident, he shall not be deemed to be a broker, general commission agent or an agent of an independent status.
Explanation 3 Where a business is carried on in India through a person referred to in clause (a) or clause (b) or clause (c) of Explanation 2, only so much of income as is attributable to the operations carried out in India shall be deemed to accrue or arise in India. " For better understanding of business connection & permanent establishment, kindly refer:
1. CIT v. R. D. Aggarwal & Co., 56 ITR 20 (1965) SC
2. Circular No. 1 of 2004 dated January 2, 2004.
3. Circular No. 23 of 1969 dated 23rd July, 1969.
4. Circular No. 5 of 2004 dated 28th September, 2004.
8. Associated Enterprises:
Sec. 92A subsection (1) provides for the meaning of Associates Enterprises. Sub-section (2) lists out the possible situations in which two enterprises will become associated enterprises. Article 9 of OECD & UN model conventions also provide for the meaning & situations in which two entities will become associated enterprises. Identification of associated enterprises is very important for applicability of transfer pricing provisions.
9. Arm's Length Price - Transfer Pricing Methods:
Sec. 92 (1) says "any income arising from an international transaction (sec. 92B) i.e. a transaction between two or more associated enterprises, either or both of whom are nonresidents shall be computed having regard to the arm's length price." Sec. 92 C (1) read with rule 10 B provides for the methods to be used for computation of arm's length price. The Board has prescribed following 5 methods for calculation of arm's length price:
(a) comparable uncontrolled method,
(b) resale price method,
(c) cost plus method,
(d) profit split method,
(e) Transactional net margin method.
Transfer pricing refers to the price at which an associated enterprise of one country enters into a financial transaction with other associated enterprise of different country. The arm's length price is determined with the use of comparables. One has to calculate the arm's length price with regard to several factors like capital employed, risk undertaken, assets used by the associated enterprise, functions undertaken, etc. Practically, it is very difficult to calculate the arm's length price. One has to use the most appropriate method out of the CBDT prescribed methods.
Sec. 90 (1) gives power to the Government to enter into an agreement with the
Government of any country outside India for granting relief in respect of double taxation, promotion of mutual economic relations, trade & investment, for the avoidance of double taxation, for exchange of information & for recovery of taxes.
Sec. 90 (2) states that provisions of Indian Income-tax or DTAA whichever is more beneficial to the assessee will apply i.e. in DTAA can even override the provisions of Indian Income Tax Act. Tax treaties are signed for sharing of tax between the country of residence & country of source. Mr. Ankur Nishar, in his article on International Taxation in the May, 2007 newsletter has very rightly explained the concept of double taxation & DTAAs. So, I would not elaborate on this aspect.
11. Categorisation of Income:
Since different incomes will have different ways of determining the location of source; different categories have been listed. For e.g.: royalty, interest, dividend, fees for technical services, rental income, etc. Under the DTA, it is necessary to determine the country of source of income. Since different incomes will have different ways of determining the country of source; different categories are useful to determine the source. The house property income is sourced in
the country where the property is situated. The dividend income is sourced where the company distributing the dividend is resident. Salary income is taxable where services are performed. Thus for determining the location or the country of source, the categorisation is useful. Under the domestic law, categorisation is useful for computation. Different categories of
income may have different computation provisions.
12. Authority for Advance Ruling:
Sec. 245 N defines an advance ruling. Authority for Advance Ruling is a quasi judicial authority that helps the non-resident to know his taxability in India relating to a financial transaction in advance. This helps in avoiding controversies & litigation at a later stage i.e. after the financial transaction is undertaken. In the past, AAR has given several rulings. Unfortunately, with due respect, these rulings have put precedents that differ from the Tribunal, High Court or the Supreme Court decisions.
13. Tax Heavens:
A tax heaven is a country which does not charge tax to its residents or charges lower rates of tax. These countries sign the DTAAs with other countries in such a way, that there may not be any tax payable by the assessee in any country. Therefore, a lot many number of companies structure their investments so that they are outside the purview of any tax jurisdiction. Countries like Isle of Man, Cayman Islands, Mauritius, Cyprus, Malta, Singapore, etc. are
examples such tax heavens.
14. Treaty Abuse or Treaty Shopping:
Treaty shopping is nothing but shopping of the DTAA. Companies may take the benefit of the most beneficial DTAA. Generally, a treaty shopping arises when a resident of a State other than Contracting States of a tax treaty attempts to capitalize on benefits of the treaty by setting up a company with no economic substance or conducting a bogus transaction. A good example of treaty shopping is that of Malaysia-Korea, India- Mauritius, etc. Treaty shopping can occur in the following two ways:
1) A taxpayer of a country that has no treaty with the a particular country say India seeks the coverage of a favorable treaty, or
2) A taxpayer of India treaty partner prefers the treaty of another country.
15. Round Tripping:
Round tripping is the act of moving your funds outside the country & then channelising them back in the country to change the actual character of funds. Funds earned through illegal sources, etc. may be sent abroad & reinvested in the same country as legal funds. Companies use round tripping for changing the character of domestic funds into foreign funds or illegal funds into legal funds.
16. Hybrid Entities:
Hybrid entities are the different forms of entities. Say, for example, India gives the status of the firm as a tax resident. It axes the firm on its income & the income of the firm is exempt in the hands of the partners. In some countries, taxation is transparent i.e. it may not tax the income of the firm in the hands of the firm but it may tax the partners individually on income earned through the firm. There are also several other entities like US LLP, UK LLP, Dutch CV, German KG * Co., trust, partnership, co-operative societies, venture capital funds & collective investment vehicles, etc.; taxation of which may be separate in separate countries. This may give rise to conflict in classification of cross border scenario. Hybrid entities may also give rise to complication in application of treaty provisions.
Developing countries often attempt to attract foreign investors with incentives in the form of reduced rates of taxation or, in some cases, the exemption of certain types of income from tax. In order to preserve the resultant investment revenues to the developing country, the country of residence of the investor (that is, the
developed country) "spares" the tax that it would normally impose on the low-taxed or untaxed income earned by its resident abroad by granting foreign tax credits equal to, or possibly greater than, the tax that would otherwise have been exigible in the developing country. Tax sparing is intended to promote economic development among developing nations by ensuring that tax incentives offered to foreign investors by these countries were not eroded through the tax treatment of the income from the advantaged activities in the
investor's country of residence.
18. Underlying Tax Credit:
Credit is available in residence country for taxes paid by subsidiaries of companies in foreign countries. The above can be explained with the help of following example:
Say, for e.g.: Company A in India has a wholly owned subsidiary in a foreign country. During the year, foreign subsidiary earns a profit of $ 1,000. Assuming tax rate in foreign country is 35 %, foreign subsidiary is liable to pay $ 350 in foreign country itself & shall remit the balance $ 650 in India. Foreign subsidiary will also have to pay a dividend distribution tax on this, say 15 % i.e. $ 97.5 on $ 650.
In India, Co. A will be taxed on its overseas subsidiary's profit. Since corporate taxes in India is, say we assume 30 %, then this translates to a tax of $ 300. But since a tax greater than this has been paid in the foreign country, no taxes are paid in India. In effect, Co. A has paid a tax of 44.75 % ($ 350 + $ 97.50) & tax credits of $ 147.5 is lost. Pooling of foreign tax credits:
If however India would have permitted pooling of foreign tax credit, then even $ 147.5 would have been available as credit. Many international treaties signed provide for underlying & pooling tax credits.
19. Non-Discrimination Clause:
Article 24 of OECD & UN Model Convention provide for subjecting the residents of one country to taxation & requirement connected therewith in other country similar to that of the residents of that other country i.e. the taxation & connected requirements should not be more burdensome than subjected to residents of that other country.
20. Limitation of Benefits:
Many persons were using the provisions of treaties to their own benefits. Some persons have even misused the treaty provisions by forming conduit, shelf, offshore companies or SPVs i.e. Special Purpose Vehicles.
Limitations on benefits provisions generally prohibit third country residents from
misusing treaty benefits. For example, a foreign corporation may not be entitled to a reduced rate of withholding unless a minimum percentage of its owners are citizens or residents of the treaty country.
Article 23 of the UK - USA treaty provides for limitation of benefits clause.
Recently Indo- Singapore treaty was amended to insert the limited version of limitation of benefits clause. Indian tax authorities are also trying to re-negotiate tax treaties with UAE, Cyprus, Mauritius to insert this limitation of benefits clause.
21. Mutual Agreement Procedure (MAP):
Article 25 of the OECD & UN Model Convention state that where a person considers that the actions of his domestic country or the other country shall result in taxation not in accordance with the treaty provisions, irrespective of the remedies provided by the domestic law of those states, he can present his case to the competent authority in the country of his residence. The competent authority of residence country shall verify the arguments stated whether the arguments are justified & if the case of unable to arrive at a satisfactory solution as regards elimination of the double taxation or interpretation of tax treaty, competent authorities of both the countries shall resolve the difficulties by mutual agreement.
22 Advanced Pricing Arrangements (APA):
An APA is an arrangement between a taxpayer and the tax authority wherein the method of determining the transfer pricing for inter-company transactions are set out in advance. Such programmes are designed to resolve actual or potential transfer pricing disputes in a cooperative manner. The tax payer must submit a formal APA application, tax authorities shall review & evaluate the proposal & then negotiate and execute the APA. An APA:
provides your business with certainty on an appropriate transfer pricing methodology, enhancing the predictability of tax treatment of your international dealings, substantially reduces or eliminates the possibility of double taxation in the future, provides a possible solution to situations where there is no realistic alternative way of both avoiding double taxation and ensuring that all profits are correctly attributed and taxed, limits the prospect of a potentially costly and time-consuming examination of major transfer pricing issues that would arise in the event of a transfer pricing audit, and lessens the possibility of protracted and expensive litigation, places your business in a better position to predict costs and expenses, including tax liabilities, reduces the record keeping burden on your business as you know in advance what records you are required to keep to substantiate the agreed methodology, and reduces your business costs, as no fee is charged for the APA.
Withholding tax is additional tax imposed by the country of source when various types of remuneration (dividends, interest, royalties etc.) are paid in favour of non-residents of that country. The principle of a withholding tax is that it is withheld (retained) by the payer and given directly to the taxation authorities. The payee is given only the balance after the withholding tax amount. The primary motivation is to reduce tax evasion or failure to pay.
24. Force of Attraction rule:
Normally, business profits are taxed in the country of residence except when the entity functions or performs business in the other country with the help of a dependent agent or a permanent establishment. In such cases, income attributable to the permanent establishment is taxed in the country of source. The Contracting States will attribute to a permanent establishment the profits that it would have earned had it been an independent enterprise engaged in the same or similar activities under the same or similar circumstances. As the name suggests, the force of attraction approach focuses on the actual economic connection between a particular item of income and the permanent
establishment. Under the "force of attraction" approach, all domestic sourced income is attributed to the permanent establishment, irrespective of whether the relevant item of income is in fact economically connected with the activity of such a permanent establishment.
25. Controlled Foreign Corporations (CFC) rules:
Income from a foreign source is taxed usually after it is accrued or received as income in the country of residence of the taxpayer. The use of intermediary entities in a tax-free or low-tax jurisdiction enables a tax resident to defer (or avoid) the domestic tax on the income until it is repatriated to the residence state. This tax deferral could lead to an unjustifiable loss of domestic tax revenue. A CFC is a legal entity that exists in one jurisdiction but is owned or controlled primarily by taxpayers of a different jurisdiction. CFC laws can be introduced to stop tax evasion through the use of offshore companies in
low-tax or no-tax jurisdictions such as tax havens. It is rarely illegal to have a financial or controlling interest in a foreign legal entity; however, many governments require taxpayers to declare their interests and pay taxes on them, and CFC laws (combined with a no-tax jurisdiction or a double taxation agreement) sometimes mean that a company is only taxed in one jurisdiction. The CFC rules are designed to stop companies avoiding tax in residence country by diverting income to subsidiaries situated in low tax regimes.
Important sections in the Indian Income-tax Act:
Sec. 2 (7) - Definition of an Assessee.
Sec. 6 - Conditions of Residence.
Sec. 5 - Scope of Total Income.
Sec. 9 - Income deemed to accrue or arise in India.
Sec. 4 - Charge of Income-tax.
Sec. 90 - Agreement with Foreign Countries.
Sec. 91 - Countries with which no agreement exists.
Sec. 92 - Computation of income from international transaction having regard to arms length price.
Sec. 92A - Meaning of Associated Enterprise.
Sec. 92 B - Meaning of International Transaction.
Sec. 92C - Computation of Arms Length Price.
Sec. 92D - Reference to Transfer Pricing Officer.
Sec. 93 - Avoidance of income-tax by transactions resulting in transfer of income tonon-residents.
Secs. 115 A-F - Provisions relating to non-residents.
Apart from these important sections, students must not forget to study the other relevant sections also.
'Business connection' to include SEP
The implementation of the concept of 'Significant Economic Presence' (SEP) in the Indian Income tax law is yet another landmark step taken by the Indian tax authority in their tryst to lay claim to what they feel is their fair share of the burgeoning revenues of technology companies such as Amazon, Netflix, Google, Microsoft – most of whom are located overseas.
Indian lawmakers have created scenarios where such foreign corporations are deemed to have "business connection" in India, thus bringing their Indian operations within the ambit of the Indian tax system. In the Finance Act, 2018, the Indian income tax law was amended to widen the scope of the existing term 'business connection' to include SEP
What is SEP?
SEP was defined to mean, inter-alia, transaction of goods and services with any person in India, including provision of download of data or software in India, if one of two conditions are satisfied:
(1) the aggregate of payments arising from such transactions exceeds a specified limit, or
(2) the engagement with Indian consumers exceeds a specified number.
To be fair on its part, India did wait for a couple of years to specify what those numbers were, so as to activate the provision. The official position was to let a consensus develop (lest trade disputes should arise) amongst OECD nations (where most of the tech-giants are headquartered), which was to come by end of December 2020. But that didn't come by.
So, India went ahead and specified the threshold limits in May 2021 (effective April 1, 2021) to operationalise the SEP for non-resident e-commerce companies by including 'download of data or software' worth revenues exceeding ₹2 crore from Indians or a threshold of 3 lakh number of Indian users with whom such companies 'solicit systematic and continuous business activities or engage in interaction'.
Points of interest
The first is that how will the Indian taxman implement the concept in practice? How will the data required be gathered? And even if it is gathered, how will the same be verified?
Most of the terms used in defining SEP for services have not been defined. For instance, how do you define systematic and continuous soliciting of business or engaging in interactions? The biggest legal stumbling blocks that I envisage are the heralding of protracted litigation given the grey areas in interpretation and the (in)ability of the Indian regime to enforce tax collection from non-resident tech corporates.
The second legal point that merits attention notice is that whilst India has amended the domestic law for SEP, the bilateral double taxation avoidance treaties that India has signed remain unaltered. Until such a time, taxing the foreign tech giants in India could still be a mirage. But, the legal significance of India's action is to convey an important message to stakeholders – India is getting impatient and wants this vexed tax issue to be addressed soon. Are the stakeholders listening?
(The author is Partner, Bhuta Shah & Co. LLP, a tax consultancy)
1. Funds brought into India through banking channels: Funds held in any overseas account and brought in India via bank transfer to make payment for the purchase is one aspect of 'principal amount'. Another could be through funds already parked in his NRE (Non-resident external) account, which, via drawing to a cheque can be paid to the seller and will be considered in the principal amount. This principal invested can be repatriated back to his foreign country in the foreign currency without any restrictions and permission from RBI. This also does not have any upper cap on the amount. However, this is applicable for a maximum number of 2 residential properties plus an unlimited number of commercial properties in the lifetime of the NRI buyer.
Restriction: From the 3rd property onwards, even this principal portion has to be deposited in an NRO(Non Resident Ordinary) account of the NRI, from which a maximum of USD 1 Million (approx Rs.6 crores) can be repatriated per financial year to the overseas bank account.
2. Property is purchased entirely with funds lying in NRO account in India: the complete sale proceeds(both principal and profits) must first be deposited in an NRO account and then a maximum amount of USD 1 Mn can be repatriated out of that sum, per financial year.
3. It's a combination of 1 and 2, i.e., some funds lying in NRO account and fresh foreign currency remitted from abroad or from balances existing in NRE/FCNR accounts: then the respective rules explained above apply in proportion of funds invested. It means, the principal invested out of the NRO account can be repatriated only to the extent of USD 1 Mn per annum and the principal invested from external sources or NRE/FCNR funds can be repatriated completely without any limit at one go initially(but subject to same restriction on number of residential properties as explained earlier).
A qualified chartered accountant needs to certify the amounts initially invested in the property during purchase, which can be substantiated with the bank statement reflecting those transactions.
The Short and Long term capital gains tax matter also need to be understood from your chartered accountant and then only an NRI investor can decide a crucial thing- when to sell the property and save maximum.
Indian Income taxes applicable are also to be noted. Taxation in the foreign country on the amount invested in India also requires special notation.
S. 9(1) : Income deemed to accrue or arise in India- Business connection-Royalty-Deduction at source. [S. 9(1)(vi),40(a)(i), 195]
ACIT .v. Sundaram Asset Management Co. Ltd. (2014) 52 taxmann.com 466 / (2015) 67 SOT 67 (URO)(Chennai)(Trib.)
GVK Industries Ltd. .v. ITO (2015)371 ITR 453 / 115 DTR 313 275 CTR 121/ 231 Taxman 18 (SC)
DIT .v. B4U International Holdings Ltd. (2015) 231 Taxman 858 (Bom.)(HC)
DIT(IT) v. Tesco International Sourcing Ltd. (2015) 373 ITR 421 (Karn.)(HC)
PILCOM v. CIT (2015) 228 Taxman 336 (Mag.)(Cal.)(HC)
CIT v. Van Oord ACZ Equipment BV (2015) 373 ITR 133/273 CTR 548 / 228 Taxman 199 (Mad.)(HC)
Swiss re-insurance Co. Ltd. .v. DDIT(2015) 169 TTJ 129/ 38 ITR 568(Mum.)(Trib.)
Flag Telecom Group Ltd. v. Dy. CIT (2015) 38 ITR 665/119 DTR 115/ 153 ITD 702 ( Mum.)(Trib.)
ITO .v. Clear Water Technology Services (P.) Ltd. (2014) 52 taxmann.com 115 / (2015) 67 SOT
Varian India (P.) Ltd. .v. Addl. CIT (2014) 51 taxmann.com 404 / (2015) 67 SOT 17 (URO)(Mum.)(Trib.)
S.9(1)(i) : Income deemed to accrue or arise in India - Business connection –Make available- Testing-Could not be treated as fees for technical services-Not liable to deduct tax at source- DTAA-India- USA.[S. 9(1)(vii),195, Art, 12]
ITO .v. Denial Measurement Solutions (P.)Ltd. (2014) 52 taxmann.com 443 / (2015) 67 SOT 76(URO)(Ahd.)(Trib.)
CIT v. Alcatel Lucent Canada (2015) 372 ITR 476/231 CTR 87/ 231 Taxman 87 (Delhi) (HC)
DIT v. B4U International Holding LTD ( 2015) 374 ITR 453/ 119 DTR 73/ 277 CTR 213/231 Taxman 858 (Bom.)(HC)
CIT v. Andhra Petrochemicals Ltd. (2015) 114 DTR 41/275 CTR 58/230 Taxman 402 (AP)(HC)
CIT v. VOEST Alpine (2015) 114 DTR 188 / 230 Taxman 405 / 274 CTR 84 (Delhi)(HC)
Aspect Software Inc v. ADIT (Delhi)(Trib.); www.itatonline.org
HCL Ltd.v. CIT (2015) 372 ITR 441/276 CTR 416/54 taxmann.com 231/116 DTR 89
S. 9(1)(vii) : Income deemed to accrue or arise in India- Fees for technical services-Though construction, installation and assembly activities are de facto in the nature of technical services, the consideration thereof will not be assessable under Article 12 but will only be assessable under Article 7 if an “Installation PE” is created under Article 5. As Article 5 is a specific provision for installation etc, it has to prevail over Article 12.[S. 5, Art. 7, 12]
Birla Corporation Ltd. .v. ACIT( 2015) 153 ITD 679 (Jab.)(Trib.)
The assessee-company was engaged in the business of manufacturing and installation of structural glazing works in India. Assessee entered into a management services agreement with its Singapore holding company and made payment for same without deduction of tax at source .AO opined that payment was towards 'Fees for Technical Services' and assessee was liable to deduct TDS before making payment to non-resident holding company and thus invoked provisions of section 40(a)(i).