Last month, India Business Law Journal covered the highlights of India’s annual budget. This month, we take a closer look at some of the changes that will impact both domestic and foreign companies in India.
The government has proposed several changes to encourage the inflow of foreign capital into India, however, the positive impact of these measures could be watered down by certain tax proposals the finance minister has recommended.
Special economic zones
The Finance Bill, 2011 (budget) suggests the imposition of minimum alternate tax (MAT) at the rate of 18.5% on special economic zone (SEZ) developers and units setup in SEZs. SEZ developers may also have to pay a dividend distribution tax (DDT) at the rate of 15% on dividends distributed to their shareholders. If the budget is passed, SEZ developers can expect tax costs of around 30%, which could distort cash flows. The decision to charge MAT on these SEZ entities is unsurprising given that the Direct Taxes Code proposes to charge the same.
You must be a
subscribersubscribersubscribersubscriber
to read this content, please
subscribesubscribesubscribesubscribe
today.
For group subscribers, please click here to access.
Interested in group subscription? Please contact us.
你需要登录去解锁本文内容。欢迎注册账号。如果想阅读月刊所有文章，欢迎成为我们的订阅会员成为我们的订阅会员。
Limited liability partnerships
The budget also proposes to levy MAT at the rate of 18.5% on limited liability partnerships (LLP). The Income Tax Act has a single-tier tax regime for LLPs, as it does for partnerships, and exempts them from DDT and MAT. This made LLPs an attractive vehicle for business activities. However, investors may now see the LLP model as a disadvantage when compared with the partnership model, even though partners have unlimited liability, since partnerships are outside the purview of MAT.
Corporate tax
The budget does not propose any significant changes to the corporate tax rate, although it suggests a minor relaxation in tax rates for individuals and a slight reduction in the surcharge on corporate tax for foreign companies from 2.5% to 2% and for Indian companies from 7.5% to 5%. The existing MAT rate may, however, see an increase from 18% to 18.5%.
Foreign dividends
To incentivize the repatriation of offshore funds, the budget proposes to reduce tax on inbound dividends received by Indian companies from their foreign subsidiaries from 30% to 15%. On the flipside, however, Indian companies would not be entitled to tax deductions on expenditure connected with the earning of such foreign dividends, thereby potentially raising overall tax costs. This could force Indian companies to rethink their globalization strategies when considering debt-raising to fund overseas acquisitions.
Anti-avoidance
The budget also proposes a number of administrative and substantive measures to support anti-avoidance policies and to bolster India’s commitments as a member of the G20 Financial Action Task Force against money laundering. One such measure involves extending the transfer pricing regime to transactions between Indian residents and parties in non-cooperative territories that have not signed a tax information exchange agreement (TIEA) with India. Income earned by residents of these jurisdictions from Indian sources may be subject to 30% withholding tax, even if a lower withholding rate exists under their domestic law or an applicable tax treaty.
In addition, the government plans to closely monitor the liaison offices of foreign entities to determine whether they are operating as branches or places of business in order to ensure their tax obligations are met.
Service tax
A major concern for service providers is the proposal to charge service tax instantly after a service is provided, or after an invoice is raised, even if the provider has not received payment for the service. Shifting the basis for tax collection from cash to accrual would create significant cash flow issues and an additional burden on service providers.
Supports and handicaps
To sustain India’s growth percent-ages, the government has promised inclusive development, increased accountability and better governance. A number of monetary initiatives have been proposed to counter inflation, while non-tax stimulus measures have also been suggested to elevate important sectors such as agriculture, banking and infrastructure.
Although the budget offers bright prospects on the non-tax front, the withdrawal of specific tax benefits for SEZ developers and units and changes to the service tax regime could create friction. The government will lose credibility in the eyes of investors if it frequently resorts to retrospective amendments, policy changes, and the introduction and revocation of incentives.
The legislative and regulatory update is compiled by Nishith Desai Associates, a Mumbai-based law firm. The authors can be contacted at nishith@nishithdesai.com. Readers should not act on the basis of this information without seeking professional legal advice.
