6th Annual Workshop on Direct Taxes

1
6th Annual Workshop on Direct Taxes
International Taxation - II Concept of source
rule/ Section 195
Sanjiv Chaudhary/ Nidhi Maheshwari
All India Chartered Accountants Society
2
Contents
1. Glossary
2. Setting the context
3. Overview of Section 195
4. Objective of Section 195
5. Recent developments
6. Other interesting issues
7. Refund of taxes withheld u/s 195
8. Consequences of non-compliance
9. Key takeaways
3
Glossary
Act Income-tax Act, 1961
AO Assessing Officer
CBDT Central Board of Direct Taxes
CG Central Government
DTAA Double Taxation Avoidance Agreement
FTS Fees for Technical Services
FY Financial Year
HC High Court
ITAT Income-tax Appellate Tribunal
NR Non Resident
PAN Permanent Account Number
SC Supreme Court
TRC Tax Residency Certificate
u/s Under Section
WHT Withholding Tax
4
Setting the context
5
Chargeability

• The Act applies to the whole of India and became
  effective from 1 April 1962

Applicability Section 1

• Any person responsible for paying to a non
  residentany interest or any other sum chargeable
  under the provisions of this Act shalldeduct
  income-tax thereon

Section 195

• Section 4 gives the authority to the government
  to charge Income-tax

Charging Section Section 4

• Income received or deemed to be received in India
• Income accrues or arises or deemed to accrue or
  arise in India

Scope of Total Income of NR Section 5
6
Income deemed to accrue or ariseSection 9
Income deemed to accrue or arise Section
9 Chargeability to tax governed by provisions of
Act / DTAA
Nature of Income Act DTAA (OECD model)
Business/ Profession S.9(1)(i) A.5 and A.7
Salary Income S.9(1)(ii), S.9(1)(iii) A.15
Dividend Income S.9(1)(iv), S.115A A.10
Interest Income S.9(1)(v), S.115A A.11
Royalties S.9(1)(vi), S.115A A.12
FTS S.9(1)(vii), S.115A A.12
Capital Gains S.9(i)(i) A.13
Apart from S. 5, wherever applicable
Act/ DTAA, whichever is beneficial prevails
7
Royalty/ FTS as per the ActSection 9(1)
Income by way of Royalty/ FTS shall be deemed to
accrue or arise in India if payable by
Government
Resident
NR
EXCEPT
WHERE
Business/ Profession outside India
Business/ Profession in India
OR
OR
Source of income outside India
Source of income in India

• Income shall be deemed to accrue or arise
  irrespective of whether
• NR has residence/ place of business/ business
  connection in India
• NR has rendered services in India

Finance Act, 2010
8
Overview of Section 195
9
Overview of Section 195
Section Provisions
195(1) Scope and conditions for applicability
195(2) Application by the Payer to the AO
195(3) Application by the Payee to the AO
195(4) Validity of certificate issued by the AO
195(5) Powers of the CBDT to issue Notifications
195(6) Furnishing of information by payer
195A Grossing up of tax
Part of Chapter XVII of the Act A collection
and recovery measure
10
Objective of Section 195
11
Objective of Section 195 of the Act

• Tax is collected at the earliest point of time
• No difficulty in collection of tax at the time of
  assessment
• Avoiding loss of revenue as non residents may
  have no assets in India for subsequent recovery
• Examples of payments covered royalty/ fees for
  technical services

Circular No. 152 dt. 27-11-1974
XYZ, In Re P.No.18 of 1995- 238 ITR 575
the objective is to ensure, as best as
possible, that the tax liability on the income
element, on the amount paid is got deducted at
source itself so that the department is not put
to the hassles of recovering it from a
non-resident whose connection with India may be
transient or whose assets in India may not be
sufficient to meet the tax liability.
12
Broad analysis of Section 195
13
Section 195(1)Analysis

• Covers all sums
• Except salaries, dividends referred in Section
  115O

Scope
Withholding tax not conclusive subject to
regular assessment
Time

• Credit or Payment, whichever is earlier

Section 195
Rate

• Rates in force

14
Section 195(1)Scope
Whether payment made by an NR to another NR
outside India is covered under the ambit of
Section 195?

• Shrikumar Poddar 65 ITD
  48 (ITAT Mum)

• Satellite Television Asian Region Ltd. 99 ITD 91
  ITAT Mum
• Vodafone International Holding BV 221 CTR 617
  (SC)

No
Yes

• The Supreme Court had directed the AO to
  determine the jurisdiction issue who has decided
  the matter against Vodafone. However, Vodafone
  has filed a writ in the Bombay High Court which
  is to hear the appeal on 8 July 2010

15
Section 195(1)Scope
Obligation to withhold tax u/s 192 may arise
for payments made by NR/ Foreign Company to NR in
relation to services rendered in India
Payment made by Foreign Company to NR (Expats)
seconded

• Eli Lilly and Co. India (P) Ltd.
  312 ITR 225 (SC)
• Babcock Power (Overseas Projects) Ltd. 81
  ITD 29 (ITAT Del)

16
Section 195(1)Any Sum Chargeable

• Amount paid which wholly bears the character of
  income or
• Gross amount, the whole of which may or may not
  represent income or profits

Any sum chargeable to tax means

• Transmission Corporation of AP Ltd. 239 ITR 587
  (SC)
• Headstart Business Solutions (P) Ltd. 285 ITR 530
  (AAR)

17
Point of Tax Withholding

• Section 195(1)

• Affirmed by - National Organic 96 TTJ
  765 (ITAT Mum)
• Contrary View - Flakt (India) Ltd 267 ITR
  727 (AAR)

Payment of Royalty under DTAA - tax deductible on
payment?
Withholding at the time of credit or payment
whichever is earlier
Point of Tax Withholding

• Raymond Ltd.
  86 ITD 791 (ITAT Mum)

• United Breweries Ltd (211
  ITR 256) (Kar)
• Pfizer Corporation
  259 ITR 391 (Mum)

Tax withholding in cases where RBI approval
required
Tax to be withheld even when no remittance on
adjustment of dues
18
Section 195(1)Rates in Force

• Rates of income-tax specified in the Finance Act
  or DTAA

Section 2(37A)(iii)

• Beneficial rates to be applied

Circular No. 728 dt. 30 October 1995
Rates prescribed under DTAA to be increased by
surcharge and education cess?
19
Section 195(2)Application by Payer

• Application by the Payer to the AO for
  determining appropriate portion of sum chargeable
• Alternate Mechanism CA certificate

• To be discussed later

20
Section 195(2)Application by Payer
Mandatory to approach AO?

• Once income is chargeable to tax, withholding on
  gross sum unless order obtained from AO

Transmission Corporation of AP Ltd. 239 ITR 587
(SC)
Fact Gross trading receipt with income element
embedded therein
Other Judgments
Yes
No

• Intel Tech India (P) Ltd.
  130 TTJ 348 (ITAT Bang)
• Frontier Offshore Exploration (India) Ltd. 118
  ITD 494 (ITAT Chen)

• Indopel Garments
  86 ITD 102 (ITAT Mad)
• SOL Pharmaceuticals Ltd.
  83 ITD 72 (ITAT Hyd)

• Maharashtra State Electricity Board 90 ITD 793
  (ITAT Mum)

• Cheminor Drugs Ltd 76 ITD 37
  (ITAT Hyd)

21
Section 195(2)Application by Payer Income not
taxable?

• Obligation to withhold tax exists if the income
  is prima facie taxable, unless a nil
  withholding tax certificate is obtained

Samsung Electronics Co. Ltd.
227 CTR 335 (Kar)
1999
2009
2010

• Liability to withhold tax does not arise where
  income is not taxable in India
• Van Oord ACZ India (P) Ltd Maharishi Housing
  Development Finance Corporation Ltd Prasad
  Production Ltd.

Post Samsung decisions

• Once income is chargeable to tax, withholding on
  gross sum unless order obtained from AO

Transmission Corporation of AP Ltd. 239 ITR 587
(SC)
Fact Gross trading receipt with income element
embedded therein
22
Section 195(2)Application by Payer
What lies ahead

• Recent favourable decisions likely to provide
  some relief to assessees
• Supreme Court decision in the Samsung case on 18
  August 2010 eagerly awaited

23
Section 195(3)/ 195(5)Application by Payee/
Powers of CBDT

• Applicable to
• foreign bank branches and
• other branches subject to certain conditions
• In operation for at least 5 years
• Value of fixed assets in India exceed Rs.50 lakhs

Section 195(3) Application by NR payee for NIL
tax withholding
NR payee is regularly assessed to tax and should
not have defaulted in respect of Indian tax,
interest, penalty, fine etc.
Section 195(5) Powers of CBDT

• CBDT can by notification in the Official Gazette
  make rules specifying the cases for the grant of
  certificate u/s 195(3) and the related conditions

24
Section 195(4)Validity of certificate issued by
AO

• A certificate granted u/s 195(3) shall remain in
  force
• for the FY mentioned therein or
• until cancelled by the AO before expiry of FY
• Provisional Certificate only

25
Section 195(6)New Rules for Information

• Requires the person making payment to NR to
  furnish the information relating to payment

Section 195(6) introduced by Finance Act 2008
(w.e.f. 1 April 2008)
Furnishing of information - Rule 37BB (w.e.f. 1
July 2009)

• Furnish information to the tax department - Form
  15CA
• Obtain CA certificate before making payment to NR
  - Form 15CB

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Procedure Form 15CA and 15CB
Remitter
Printout of the undertaking form (15CA) is signed

• Every remittance required to follow procedure
  even if not chargeable to tax in India
• Requires the payer to provide PAN of the non
  resident
• Form 15CB need not be filed with the tax
  department information requirement is same as
  Form 15CA

Obtains certificate of Accountant (Form 15CB)
Submit the signed paper undertaking form to the
RBI/ AD along with certificate of an Accountant
in duplicate
Electronically upload the remittance details in
Form 15CA on www.tin-nsdl.com
RBI/ AD remits the Amount
Take printout of filled undertaking form (15CA)
with system generated acknowledgement number
A copy of undertaking (15CA) Certificate of
Accountant (15CB) forwarded to AO
27
Practical Issues in certification by CA
Whether TRC sufficient evidence to claim Tax
Treaty Benefits?
Characterization issues Royalty, FTS, etc.
No books of accounts in India
Issues
Issuance of certificate in absence of complete
information about payee
Amount attributable to PE or not if yes, then
quantum of amount attributable?
Verification of PE in India
Can Nil withholding foreign remittance
certificate be issued???
28
Section 195AGrossing up of Tax

• Grossing up required in case of net of tax
  payments
• Amount of tax payable by the NR has to be added
  to the income remitted to the NR and the tax
  payable by the NR should be determined with
  reference to the gross figure arrived at as above

Not applicable in case of payments referred to
in S.192(1A) - Non monetary perquisites taxable
as salary
29
Recent developments
30
Section 206AA

• Section 206AA stipulates withholding at higher
  of following rates in case PAN of payee is not
  furnished
• Rate specified in the relevant provisions of the
  Income-tax Act, 1961 (varying rates prescribed
  for different nature of payments) or
• Rates in force (as specified in the Schedule to
  the Finance Act relevant tax treaties) or
• 20 percent.
• Further, PAN to be quoted on all correspondence,
  bills, vouchers, etc. between payer and payee.

with effect from 1 April 2010
31
Certain issues connected with 206AA

• Applicability restricted to transactions where
  tax is deductible?

Timing for applicability of Section 206AA
Applicability on payments to non residents?
Overriding effect on tax treaties
Grossing up and determination of income liable to
tax in payees hands in net of tax contracts
Levy of surcharge and education cess on maximum
rate of 20
Credit under relevant tax treaty of the
non-residents home country for higher taxes paid
32
New WHT Rules Some important changes
New WHT provisions applicable w.e.f. FY 2010-11

(Not applicable to FY 2009-10)
Particulars Existing New Impact
Quarterly WHT statement for Q4 15 June 15 May Pre-poned by 1 month
WHT deposit for year end provisions 31 May (for 31 March entries) 30 April (for entries in March) Pre-poned by 1 month
33
Other interesting issues
34
Cost to cost reimbursement Obligation u/s 195
Cost to cost reimbursement requires TDS

• Danfoss
  268 ITR 1 (AAR)
• Timken India Ltd.
  193 CTR 610 (AAR)

• Cochin Refineries Ltd. 222 ITR
  354 (Ker)
• Hyder Consulting Ltd. 236 ITR 640
  (AAR)

Reimbursement of cost allocation
Reimbursement of expenses along with FTS
35
Cost to cost reimbursement Obligation u/s 195
Cost to cost reimbursement does not require TDS

• Decta 237 ITR 190 (AAR)
• Clifford Chance UK 82 ITD 106 (ITAT Mum)
• HNS India VSAT Inc. 95 ITD 157 (ITAT Del)
• Tata Engineering and Locomotive Co. Ltd.
  245 ITR 823 (Bom)
• HCL Infosystems Ltd. 76 TTJ 505 (ITAT Del)
• Dolphin Drilling Ltd. 121 TTJ 433 (ITAT Del)
• ABB Ltd. 230 CTR 327 (AAR)

36
Software Payments
Payment for Software whether royalty??

• Motorola Inc. 96
  TTJ 1 (ITAT Del) (SB)
• Lucent Technologies International Inc. 28 SOT 98
  (ITAT Del)
• Infrasoft Limited (Indian Branch Office) 28 SOT
  179 (ITAT Del)

• Airport Authority of India 304 ITR 216
  (AAR)
• IMT Labs India (P) Ltd. 287 ITR
  450 (AAR)

Not Royalty
Royalty
37
Software Payments
Payment towards use/ access of computer server is
royalty or not

• Factset Research Systems, Inc. 317 ITR 169 (AAR)
• Wipro Limited
  278 ITR 57 (ITAT Bang)
• Dun Bradstreet Espana S.A. 272 ITR 99 (AAR)

• ABC, In re
  238 ITR 296 (AAR)
• IMT Labs (I) (P) Ltd.
  287 ITR 450 (AAR)
• Cargo Community Network Pte. Ltd. 289 ITR 355
  (AAR)

Not Royalty
Royalty
38
Fees for Technical Services

• Raymonds Limited 86 ITD 791 (ITAT Mum)
• C.E.S.C. Ltd. 87 ITD 653 (ITAT Cal)
• The Boston Consulting Group 94 ITD 31 (ITAT Mum)
• Gujarat Ambuja 2 SOT 784 (ITAT Mum)
• National Organic 96 TTJ 765 (ITAT Mum)

Treaties with USA, UK, Singapore, Australia,
Canada etc. have the concept of make available
in the FTS definition
Make available significantly narrows down the
scope of FTS
39
Refund of Tax Withheld Under Section 195
40
Refund of Tax Withheld u/s 195

• Contract is cancelled and no remittance is made
  to the non-resident
• Remittance is made to the non-resident but the
  contract is cancelled
• Contract is cancelled after partial execution
• Retrospective amendment in law/ exemption by way
  of notification making the sum remitted exempt
  from tax
• Order u/s 154/ 248/ 264
• Tax deducted twice on the same income by mistake

Payer is entitled to claim refund in prescribed
cases Circular No. 7/ 2007 dt. 23-10-2007
41
Refund of Tax Withheld u/s 195

• Tax deducted at domestic tax rates lower rate as
  per DTAA
• Prior Approval of the Chief Commissioner/
  Director General
• Refund is first to be adjusted against any
  existing tax liability
• Interest u/s. 244A is not payable on such refunds
• Undertaking to be given by the payer that TDS
  certificate has not been issued
• Deductee has not filed the return of income and
  time of filing the return has also been lapsed
• Claim should be made within 2 years from the end
  of the FY in which tax has been deducted

42
Consequences of non compliance
43
Consequences of non compliance
Applicable section Nature of default Consequence
40(a) Withholding tax not deducted or not deposited within prescribed time Disallowance of expenses in computation of taxable income of payer deduction in year of payment
201(1) Tax not withheld/ deposited appropriately Recovery of tax not withheld/ deposited or short withheld/ deposited
201(1A) Tax not withheld/ deposited appropriately Interest _at_ 1 per month or part of he month
221 Tax withheld not paid Penalty, not exceeding the amount of tax not paid
271C Tax not withheld or short withheld Penalty, not exceeding the amount of tax not withheld
44
Consequences of non compliance
Applicable section Nature of default Consequence
272A Delay in issuing withholding tax certificate/ filing withholding tax statement Penalty _at_ Rs 100 per day for period of default, subject to maximum of the tax withheld
276B Withholding Tax not deposited within prescribed time Prosecution by way of imprisonment for a term between 3 months to 7 years and with fine
Non compliance results in severe consequences
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Key takeaways
46
Concluding Thoughts

• Payment to non-residents should be thoroughly
  examined from tax withholding perspective
• Payments can be remitted under the alternate
  mechanism (with CA Certificate) if the case is
  strongly supported by judicial precedents
• In case of doubt coupled with substantial amount
  - Advisable to obtain tax withholding order u/s
  195
• Mitigate grave consequences of non compliance
  with S.195

Tax Withholding from cross-border transactions is
critical
47
Open house
Questions
48
Contact details
Sanjiv Chaudhary KPMG India Tel (Direct) 91
124 334 5032 Cell 91 9810127362 e-mail
schaudhary_at_kpmg.com
Nidhi Maheshwari Tel (Direct) 91 (124) 307
4322 Cell 91 9810583215 e-mail
nmaheshwari_at_kpmg.com