The Finance Minister (FM) presented the Budget proposals with a plethora of initiatives to improve investor sentiment and revive economic growth. This has been reflected in the direct tax proposals presented, with promises for further benefits in the future.
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Tax incentive for industrial growth and infrastructure development
- Tax on royalty and fees for technical services (FTS) paid to non-residents brought down to 10% from 25%. This new rate mostly is in line with the rate of the tax treaties. The beneficial rate can be availed of without going through the difficult procedure for obtaining tax treaty benefit. The payee however would require PAN for not attracting the 20% penal rate. In cases where tax is pushed down to Indian payer(s), cost would also reduce. Even where tax is borne by the payee, chances of absorbing tax credit in home country would increase.
- The tax benefit of three years' weighted deduction of 30% for employing new workmen in manufacturing units (section 80JJAA) has been expanded. Going forward, benefit will apply to all taxpayers having manufacturing units. The eligibility threshold is brought down to 50 new workmen (from 100), subject to minimum 10% of workforce. This measure would have multiple benefits. The employer would get additional tax deduction to the extent of 90% of the first years cost and encourage direct employment. The lowering of the threshold would benefit MSME units (see Table).
- Income other than business income of pooled investment vehicles, namely, Category I & II Alternative Investment Funds (AIF) would enjoy pass-through status. AIFs would now be paying tax only on business income. Capital gains and other income would be chargeable to tax in the hands of unitholders in AIFs. This would increase the return of the unitholders. Investee ventures would also benefit economically through availability of more funds. Tax is required to be withheld at 10% from payments to unitholders, though clarity is required for exempt income.
- New investments up to March 31, 2020 in backward areas of Telangana and Andhra Pradesh would be eligible for additional depreciation and investment allowance. Effectively, plant and machinery acquired from April 2015 could get an aggregate deduction of 80% in the first year.
- Listed REITs/InvITs - Offloading of units by the investors would be accorded the same treatment as sale of shares in Special Purpose Vehicle (SPV) used to invest in the project, i.e. would be tax exempt if held long term and taxable at 15% if short term. Rental/leasing income of REITs/InvITs would be pass-through. This should attract investments in housing/infra sector. However, the issue of MAT on swap of SPV shares with REIT/InvIT units remain unaddressed.
- 5% tax on interest on bonds/G-Secs for FIIs and QFIs would continue till June, 2017. This would help in attracting investment in these securities, benefiting the manufacturing/infra sector.
- General Anti Avoidance Rules (GAAR) is deferred by 2 years. Additionally, GAAR would apply prospectively to investments made from April 1, 2017 onwards. Internationally, GAAR is introduced gently to protect genuine investments. The deferral and grandfathering would bring in certainty and remove the deterrence to investments for the next two years.
- Indirect transfer of shares/interest in companies: Threshold for application of the tax has been set as (i) value of India assets > Rs 10 crore and (ii) India assets being at least 50% of overall value of assets. Assets would be valued at fair market value (without liabilities) as per rules to be prescribed. Income would be proportionately computed as reasonably attributable to Indian assets. The indirect transfer tax would not be attracted if the holder does not have minimum 5% voting power/ right of management/ control in the overseas entity. Subject to conditions, merger/demerger of overseas entities would not trigger the tax. While this provision would bring certainty, one would have to wait for the valuation rules and clarifications on dividend income on the overseas shares. Clarity on cost of acquisition is also required. The amendments are prospective only but given the controversies created by the retrospective amendments on this issue in the past, the beneficial provisions should be retroactive.
- Fund managers operating in India for offshore funds would not trigger Indian business presence for the Fund, subject to specified conditions. The safe-harbour would encourage additional investment in Indian bourses and increased fund management activity in India. While, apparently, the proposal is expected to remove a litigation risk for the funds, some of the conditions like payment of arm's length management fee to the manager can create dispute at the ground level. Further, it may not be practical to impose arm's length remuneration between independent parties as a condition.
Tackling black money
A comprehensive law would be enacted to deal with black money parked outside India. The likely key features are - (a) Taxation at maximum rate without any exemption/deduction (b) Severe consequences of concealment and non-compliance like penalty, imprisonment, without recourse to compounding or settlement. Consequential changes in anti money laundering law and FEMA would be made.
It is also proposed to tackle black money under the Income Tax Act through (a) Prohibition of and penal consequences for acceptance or re-payment of any advance of INR 20,000 or more in cash for purchase of immovable property (b) Disclosure of assets in the tax return.
These proposals show the Government's determination to bring back black money to the country as well as curb its creation. However, toning up the existing law may be required to tackle unaccounted income already generated as the new law can only be prospective.
Corporate tax rates
It is proposed to reduce corporate tax rate progressively from 30% to 25% over the next four years with consequent phasing out of tax incentives. However, for 2015-16 the effective rates have actually gone up.
This has increased the disparity between effective tax rates of domestic and foreign companies - 45.67% and 43.26% respectively.
There are no changes in the personal tax rates except the increase in surcharge by 2% for the super-rich. However, social investment is the key focus of the proposals -
- Enhancement of ceiling for contribution to annuity plans under section 80CCC increased from Rs 1 lakh to Rs 1.5 lakh within the overall cap.
- Removal / enhancement of ceiling for contribution to NPS under section 80CCD and option to contribute in NPS instead of EPF.
- Increase in deduction for mediclaim contribution by Rs 10,000 for all, including senior citizens. Benefit for medical insurance for non-senior citizen category announced in FM's speech is missing in the Finance Bill - needs to be rectified.
- Deduction for medical expenditure of persons in 80 plus age group up to Rs 30,000 per annum.
- Enhancement of ceiling for benefits to differently abled persons by Rs 25,000.
- Requirement of investment under Sukanya Samriddhi scheme in the name of the girl child only.
- To prevent tax leakage from salaries, employers would have to obtain evidence of expenses/investments before granting deductions / exemptions, while withholding tax [Section 192(2D)]
- Exemption on transport allowance will be doubled to Rs 1,600 p.m.
To mobilise the resources for Swachh Bharat Abhiyan, contribution to Swachh Bharat Kosh and Clean Ganga Fund will be eligible for 100% deduction (section 80G). However, it has been clarified that contribution to such fund under CSR will not be eligible for a deduction. The deductibility of the contribution can be challenged given the requirement of segregation from CSR.
There is a welcome trend accepting Court rulings favourable to taxpayers and overriding rulings favourable Revenue (see table). This is in line with the Government's acceptance of recent Court rulings on transfer pricing (Vodafone and Shell cases) - departing from the consistent policy of overriding rulings through retroactive amendments.
Even for existing litigation - mechanism for foreign tax credit will be notified through Rules.
DTC is being scrapped after introducing key proposals in the current law. The Finance Bill proposes to incorporate-
- Place of effective management (POEM) - Tax residence of companies will be enlarged to consider foreign companies having POEM in India at any time during the year. POEM means a place where, in substance, key management and commercial decisions of the overall business are taken. This could affect foreign companies holding Board meetings in India and foreign subsidiaries of Indian companies if management decisions are taken in India.
- Revision of orders prejudicial to revenue - Scope of Commissioner's power of revision will be enlarged as in DTC.
- Payment of interest by foreign Bank's India branch to HQ to be income for HQ - clarity required for other payments;
- Penalty provisions regarding MAT income proposed to be rationalised - may result in penalty even without increase in taxable income;
- Domestic Transfer Pricing threshold increased from Rs 5 Crore to 20 Crore - should benefit MSMEs;
- Wealth tax being abolished -safeguarding provisions introduced for income tax.
Partner - Direct Tax, PwC India
Team members: Pallavi Singhal, Saurav Bhattacharya, Ravi Jain, Madhukar Dhakappa, Amit K A, Subhasis De, Gaurav Bajoria, Vikash Dhariwal, Gaurav Kumar Goyal, Abhishek Rao, Santhosh S, Keerthana Prabhu, Monika Baid