International Tax Issues in Entertainment Industry including Film production National Workshop on Media and Entertainment by Committee for Members in Industry of ICAI, WIRC Mumbai 1 June 2012
Contents Sector Outlook International Tax Issues ~ Entertainment Industry Agency PE and Profit Attribution Tax Planning Avenues Direct Taxes Code 2
Sector Outlook Industry Growth Media & Entertainment Industry in India 1500 1000 587 652 738 834 957 1104 1275 Size (in INR Billions) 500 0 2009 2010 2011 2012 2013 2014 2015 Projected CAGR growth of 14% Source: FICCI-KPMG report on Entertainment 2011 Largest film producing market in the world with over 1,000 films released every year and more than 3 billion tickets sold annually The number of TV channels grown from 5 (1991) to 550 plus (2011), more than 50% were added in the last five years 3 With successful hosting of ICC Cricket World Cup and annual Indian Premier League (IPL) along with recent Formula One Grand Pix (F1 Race) the sports entertainment industry in India is on rise
Sector Outlook Global Association India s association with overseas entertainment industry is growing over the years Slumdog Millionaire the film based in India and shot in India won eight academy awards (Oscar) including best film Awards for best original score, best song, best lyrics and best sound mixing went to Indian artists Robot (Endhiran) the highest grosser Indian film collected over INR 375 crores, in which costumes, special effects, stunts, animations were executed by foreign professionals Over 65 overseas players participates in a mega event of IPL which is held for two months every year International sensations such as Akon, Bryan Adams, Lady Gaga, Shakira all had their concerts in various cities of India and more such artists will be visiting India in coming months All are targeting the 700 million plus Indian population below 30 With second largest population in the world and growing per capita income levels, India has become one of the top target market for global entertainment industry 4
International tax issues in Entertainment industry 5
International Film Co-production Benefits of international film co-production are as under: the ability to pool financial resources, access to the partner government's incentives and subsidies available under film co-production treaty, India has a film co-production treaty with Brazil, France, Germany, Italy, Switzeland, United Kingdom, etc. access to the partner's market, or to a third market, access to a particular project initiated by the partner, cultural benefits; and the opportunity to learn from the partner Possible tax implications in India on the co-production agreement Exposure to constitution of Association of Persons (AOP) If not deemed as AOP, then the foreign resident is exposed to constitution of Permanent Establishment (PE) such as Fixed base PE, Service PE, etc. 6
Association of Persons (AOP) Based on tax provisions and various judicial precedents till date, the essential ingredients of AOP are as under; Two or more persons, Voluntary contributions, A common purpose or common action, Combination of joint enterprises, Some kind of scheme for common arrangement Some notable judicial precedents: Geoconsult ZT Gmbh (AAR) [2008] - The common management and common design proved to be against the tax payer Hyosung Corporation (AAR) [2009] - Separate contracts, independent work execution and back to back guarantee proved to be in favor of the tax payer 7
Taxation of AOP (1) Key tax implications are explained hereunder in brief: Status & taxation Treatment of Losses Head office expenses Consortium Not treated as separate entity and hence profits & gains are taxable in the hands of each member separately Losses, if any, will be eligible for set off in the hands of each member against the gains from its other business income, Deduction of common business expenses possible AOP Treated as a separate taxable entity and hence entire profits of the project is taxable at maximum rate of 30.90%/ 32.45%/42.02% Losses, if any, will not be eligible for set off in the hands of members, due to separate entity treatment Deduction of common business expenses difficult 8
Taxation of AOP (2) Applicability of tax treaty Treatment of foreign tax credit Remuneration cross charges Taxability of global income Consortium Each member can avail the treaty benefits as per its eligibility Members are eligible for tax credit in their host country Cross charges may be deductible Not possible for non-residents AOP Treated as a separate taxable entity, hence each member is not eligible for treaty benefits May not be eligible for the foreign tax credit Remuneration to members is not allowed May be treated as resident, hence possible If co-production contracts are indivisible contracts then it may result in significant tax inefficiencies 9
AOP ~ Do s & Don'ts Partnering Well defined scope, rights and obligations of Consortium partners Pre-work arrangement Separate contracts by each parties with the Contractors with clearly identified and divisible scope and obligations are preferable, If Contractor insist for a single agreement then one agreement can be executed containing separately identifiable and divisible scope, rights and obligations of each party, Contract execution Raising of separate invoices and receiving separate payments from Contractor 10 Actual implementation and conduct of parties is vital, otherwise arrangement could be held as sham and disregarded by revenue authorities
Film Co-production Alternate structures Comparison of key tax imperatives between these structures is as under; Particulars AOP LLP Ind. Co. Maximum rate of tax on net profits incase of foreign resident members Maximum rate of tax on net profits incase of foreign resident companies as members Payment to corporate members for services rendered by them 30.90% 30.90% 32.45% 42.02% 30.90% 32.45% Not allowed Not allowed Allowed Payment of interest on capital Not allowed Allowed up to 12% MAT @20.01%, DDT@16.22% & Deemed dividend distribution tax Not applicable Not applicable Not allowed Applicable Liability of members Unlimited Limited Limited Perpetual succession No Yes Yes Limited Liability Partnerships (LLP) seems more favorable subject to exchange control regulations 11
Taxation of LLP Alternate Minimum Tax From 2011-12, LLPs are brought under the ambit of AMT, the salient features are as under: Rate of tax = 19.06% on Adjusted Total Income (ATI) ATI = Total taxable income before deduction under chapter VI A or section 10AA [profit linked incentives] AMT Credit = AMT less regular income tax AMT Credit carry forward = Ten years Incomes which are still out of AMT are as under: Stream of income Minimum Alternate Tax (Company) Alternate Minimum Tax (LLP) Businesses income under investment linked incentives 20% Nil Capital gains exempt under section 10(38) 20% Nil 12
Exchange control regulations LLP Foreign Direct Investment (FDI) Allowed only in sectors where 100% FDI is allowed through the automatic route and there are no FDI-linked performance related conditions Not allowed in agricultural / plantation activity, print media or real estate business Allowed only through Approval route Not allowed to make downstream investments Foreign Institutional Investors (Flls) and Foreign Venture Capital Investors (FVCIs) not permitted to invest in LLP Funding in LLP Foreign Capital participation in the LLPs needs to be in cash received by inward remittance through normal banking channels LLPs not permitted to avail External Commercial Borrowings (ECB) Conversion of Company with FDI into LLP Existing company with FDI can be converted into LLP with the prior approval of Foreign Investment Promotion Board (FIPB) / Government 13
Shooting of Films in India Section 9(d) - No income accrued on shooting of films in India, if The producer is An Individual who is neither resident nor a Citizen of India A firm or company not having any partner/shareholder who are citizen or resident of India Producer s operations are confined only to shooting of films in India Examples: Mission Impossible 4, Singularity, Eat Pray love, Slumdog Millionaire, The Mighty Heart, etc. Exhibition of Films in India Section 9(1)(vi) - Explanation 2 specifically excludes consideration received towards sale, distribution or exhibition of cinematographic films from the ambit of royalty Whether the same be taxable under 9(1)(i) due to business connection? Whether the consideration towards Video rights, broadcasting rights, DTH rights or music rights may still be taxable as royalty? 14
Production of Films - Indian branch (1) At the initial stages of Indian business, the production of movies may be undertaken by the foreign companies through its Indian branch Branch constitutes fixed base PE in India and hence the foreign company will be liable to tax both under the Act as well as tax treaty Therefore, foreign producers of the Indian films will be governed by the provisions of the income tax Act Section 285B - Submission of statement by producers of films Statement in form 52A to assessing officer per film per year, within 30 days from end of the financial year or completion of the film, whichever is earlier Stating the details of persons to whom the aggregate annual payments exceeds ` 50,000 Failure to comply may attract penalty of ` 100 per day under 272A 15
Production of Films - Indian branch (2) Rule 9A - Deduction of Cost of Production for film producer Outcome of exercise of power given to CBDT u/s 295 (1) Recognizes the special characteristics of the production expenses which may spread over a period beyond a year Deduction Criteria 16 Censor Board Certification Exhibition/ Sale of rights Release 90 days before end of the financial year Deduction of Cost of production Full Deduction Extent of amount realized No Deduction Cost of Production includes all expenditure incurred on production of the film, except Expenditure incurred on preparation of positive films Expenditure incurred on advertisement of the film after Censor certificate Subsidy received from the government will be reduced from the cost
Production of Films - Indian branch (3) Other issues Exhibition on a commercial basis - Whether it includes paid preview, direct online release, direct exhibition on Television, etc. Yes, as per Vishesh Films Pvt. Ltd vs. Dy. CIT (Mumbai ITAT) ITA No 5569 & 5570/Mum/2004 dated 27-08-2008 The requirement of Rule 9A is exhibition of film and the mode has not been prescribed Hence exhibition film on Television on commercial basis clearly falls within the ambit of Rule 9A Remuneration to actors, artists, etc. paid in Kind - Whether liable to TDS/withholding tax? Yes, as per Kanchganga Seas Foods Ltd. v. CIT (SC) [2010-TII-03-SC-INTL] and Mr. Amitabh Bachhan Vs DCIT (Mumbai Tribunal) ITA No 1584 & 2509 /Mum/2006 dated 29th November 2006 Remuneration in kind should be properly accounted at its fair market value It should be added to the Cost of production and the TDS needs to be deducted Precaution while computing cost of production - Rule 9A may not override other provisions of Act, hence the deduction may be subject to other conditions such as compliance of section 40(a)(ia), 40A, 43B, etc. 17
Foreign Telecasting company (1) Income streams of foreign telecasting companies Lease of decoders to cable operators Subscription charges for pay channel Advertising revenues Lease of decoders - May deemed to be lease of commercial equipment and hence taxable as royalty under the Income tax Act Subscription charges - May not be covered under the term royalty under the Income tax Act and hence may not be taxable in the absence of non-resident s business connection Advertising revenues - Position varied over the years Option of presumptive taxation on deemed profits i.e. 10% of the gross receipts meant for remittance [gross receipts excluding amounts retained by advertising agent and Indian agent s commission] - CBDT Circular no.742 dated 2 May 1996 and no.765 dated 15 April 1998 The above circulars were withdrawn vide Circular no.6/2001 dated 5 March 2001, w.e.f. 31 March 2001 18
Foreign Telecasting company (2) Profit attribution incase of PE If non-resident s operations are solely carried out through its PE in India and if the PE is remunerated at arms length then no further profits could be attributed to the non-resident operations in India, as held in CBDT Circular no.23/1969 dated 23 July 1969 CBDT Circular No. 5/2004 dated 28 September 2004 DIT v. Morgan Stanley and Co Inc [2007] 292 ITR 416 (SC) Set Satellite (Singapore) v. DDIT [2008] 218 CTR 452 (Bombay HC) Worley Parsons Services Pty. Ltd [2008] 170 Taxman 91 (AAR) Galileo International Inc v. DDIT [2009] 180 Taxman 357 (Delhi HC) BBC Worldwide Ltd. [2011] 203 Taxman 554 (Delhi HC) Rolls Royce Plc v. DDIT (Delhi ITAT) Amadeus Global Travel v. DDIT (Delhi ITAT) Circular 23/1969 was withdrawn vide Circular no. 7 dated 22 October 2009 - Whether this withdrawal will effect the above stated position? 19
Foreign Telecasting company (3) Profit attribution incase of PE The withdrawal of circular 23/1969 may not affect the prevailing legal position, because: Most of the above rulings does not refer to Circular 23/1969 including Circular 5/2004 which is not yet withdrawn, the rulings were passed considering the judicial position under section 9(1)(i)(a) which remains unchanged Supreme court in its ruling in the case of CCE v. M/s Ratan Melting and Wires Industries [2008] 220 CTR 98 has held that: Circulars and instructions issued by the Board are no doubt binding in law on the authorities under the respective statutes, but when the Supreme Court or the High Court declares the law on the question arising for consideration, it would not be appropriate for the Court to direct that the circular should be given effect to and not the view expressed in a decision of this Court or the High Court. So far as the clarifications/circulars issued by the Central Government and of the State Government are concerned they represent merely their understanding of the statutory provisions. They are not binding upon the court. It is for the Court to declare what the particular provision of statute says and it is not for the Executive. Looked at from another angle, a circular which is contrary to the statutory provisions has really no existence in law. 20
Payment for Transponder (1) New Skies ruling Facilitating the signal transmitting process Amplifying the signals Uplink Earth station Encryption of data into TV signals Uplinking of the signals Satellite Downlink Earth station Downlinking of the signals Distribution of signals in the footprint area Facts Dutchco owned and operated satellites for telecasting companies These satellites were located outside India and there was no presence of Dutchco in India The telecasting companies would relay their programmes through the communication transponders on the satellites by using their own earth stations to uplink and downlink the signals The transmission facility was availed of by telecasting companies according to their needs 21
Payment for Transponder (2) New Skies ruling Facilitating the signal transmitting process Amplifying the signals 22 Uplink Earth station Encryption of data into TV signals Uplinking of the signals Satellite Downlink Earth station Downlinking of the signals Distribution of signals in the footprint area Issues Whether the payment received by Dutchco from its customers for use of its satellite will satisfy the definition of royalty under the India / Netherland treaty? Whether the services rendered by Dutchco through its satellite amount to secret process or only process? Whether the process needs to be secret to be treated as royalty? Definition of royalties in India / Netherlands treaty:.means payments. received as a consideration for the use of, or the right to use, any., secret formula or process, or for information. The missing comma., secret formula or process,. Should this be interpreted as: A. secret formula or secret process ; or B. secret formula, or process? What is the significance of there being no comma after formula?
Payment for Transponder (3) New Skies ruling Facilitating the signal transmitting process Amplifying the signals Uplink Earth station Encryption of data into TV signals Uplinking of the signals Satellite Downlink Earth station Downlinking of the signals Distribution of signals in the footprint area Ruling of Special Bench of the Tribunal The services rendered by Dutchco through its satellite amounts to a process Payment by telecasting companies is for the use of or right to use the process The process in a transponder is not secret Process need not be secret to be characterized as royalty under the treaty i.e. interpretation B. ( secret formula, or process ) is correct The payment made to Dutchco by telecasting companies will be taxable as royalty 23
Payment for Transponder (4) New Skies ruling Facilitating the signal transmitting process Amplifying the signals Uplink Earth station Encryption of data into TV signals Uplinking of the signals Satellite Downlink Earth station Downlinking of the signals Distribution of signals in the footprint area Comments Key observations of the Tribunal: The process of uplinking and downlinking is embedded in the transponder which is used by the telecasting companies as per their needs through the earth stations owned by such companies Once the process in the transponder is predetermined by Dutchco, it is made available to the customers Dutchco has no right to interfere in the transmission process Without knowing the process involved in the transponder, the telecasting companies will not be able to telecast their programmes in the desired area at the desired time 24
Payment for Transponder (5) New Skies ruling Facilitating the signal transmitting process Amplifying the signals Satellite Comments PanAmSat decision is overruled The word secret does not qualify the word process in the royalty definition under the provisions of the Act as well as Tax Treaty Skycell decision is distinguished In telecommunication process, customer merely makes a request to the service provider and does not take part in the process unlike the telecasting process Uplink Earth station Encryption of data into TV signals Uplinking of the signals Downlink Earth station Downlinking of the signals Distribution of signals in the footprint area ISRO decision is distinguished The ruling in ISRO was in context of a navigational transponder which is different from the communication transponder used by the telecasting companies 25
Payment for Transponder (6) After New Skies ruling Verizon Communication Singapore (Chennai ITAT) [January 2011] While analyzing payments made by Indian customers towards International Private Leased Circuit or dedicated bandwidth, the tribunal observed as under: This capacity is made available on a dedicated basis to the customer for the entire contract period, usually a year The amount received by tax payer from Indian customers is also for the use of a process and would therefore qualify as royalty under Act as well as treaty The Delhi special bench ruling in the case New Skies satellite has been referred and relied upon Asia Satellite Telecommunication (Delhi HC) [January 2011] The High Court observed that: The transponder is not distinct and separate from the satellite The transponder is situated in orbit and merely because the satellite had a footprint in India would not mean that the process took place in India The payment can not be deemed to be the payment for the process Hence, payment for transponder are not royalty under the Act However, the special bench ruling in the case New Skies satellite has not been specifically discussed, reliance placed on Isro (AAR), Ishikawajima Harima Heavy Industries (SC) and OECD commentary 26
Payment for Transponder (7) Finance Bill 2012 Explanation 5 to section 9(1)(vi) inserted with effect from 1 June 1976 to provide that: The royalty includes and has always included consideration in respect of any right, property or information, whether or not - The possession or control of such right, property or information is with the payer Such right, property or information is used directly by the payer The location of such right, property or information is in India Explanation 6 to section 9(1)(vi) inserted with effect from 1 June 1976 to provide that: The expression process includes and shall be deemed to have always included transmission by satellite (including up-linking, amplification, conversion for down-linking of any signal), cable, optic fibre or by any other similar technology, whether or not such process is secret. Finance Minister has provided an assurance that completed assessments will not be reopened, however CBDT is yet to issue a circular in this regard!! 27
Tax Planning Avenues 28
Intangible Management Overseas IPR Company Step 1 IPR holding co in offshore jurisdiction Benefits of Royalty i. WHT of 10.51% on repatriation instead of 16.22% on DDT ii. Claim of tax credit possible unlike DDT iii. Deduction of expenses can be claimed unlike DDT iv. Reduction in overall group taxation Step 2 IPR holding co in offshore jurisdiction Payment of sale proceeds 29 A Ltd Sale of IP located in India Vital considerations before planning i. Domestic laws direct as well as indirect of all the countries ii. Other incidental taxes such as R&D cess etc. iii. IP valuation iv. Transfer Pricing v. Logistics vi. vii. General Anti Avoidance rules Controlled Foreign Company rules Non exclusive transfer of IP A Ltd Payment of royalty
Fees for Technical services (1) Whether services is taxed in India? Fees for technical services under the Act includes any payment for rendering of any managerial, technical or consultancy services Hence, taxed @10.51% on gross income under the Act in the absence of PE Avenues for mitigating the taxation of services in India? Under certain tax treaties of India, services which does not make available any technical knowledge, skill, etc. are excluded from purview of FTS and some tax treaties does not have FTS and service PE clause Hence services procured from tax residents of these countries may not be liable to withholding tax in the absence of non-resident s fixed base PE in India Tax planning is vital in terms cost saving, as most of the times service recipient bears the tax liability 30
Fees for Technical services (2) B Inc B Inc Country A Country A How can we save the tax of 10.51% Onshore services supply Payment of fees 100, no WHT (if no PE) due to tax treaty Onshore services supply 31 A Ltd Payment of Onshore services 100 + Withholding tax (Grossing up) 10.51 ------------------------------- Total cost to the project 110.51 Vital considerations before planning i. Domestic laws direct as well as indirect of all the countries ii. Other incidental taxes such as personnel etc. iii. Transfer Pricing iv. Logistics v. General Anti Avoidance rules Onshore services supply Operating co in offshore jurisdiction A Ltd Payment of fees 100, no WHT (if no PE) due to tax treaty
Lease of equipment (1) Whether lease of equipments is taxed in India? After the amendment in finance Act 2002, Royalty under the Act includes payment for use of right to use of any industrial, commercial or scientific equipments, Hence, taxed @10.51% on gross income under the Act in the absence of PE Avenues for mitigating taxation on lease of equipments in India? Most of India s tax treaties on the line of the domestic law, includes payment for equipment in the definition of royalty except some countries, Hence, equipments procured from tax resident of the above countries may not be liable to withholding tax in the absence of non-resident s PE in India Tax planning is vital in terms cost saving, as most of the times lessee bears the tax liability while leasing the equipments 32
Lease of equipment (2) B Inc B Inc Country A Country A How can we save the tax of 10.51% Supply of equipment Payment of Rent 100, no WHT (if no PE) due to tax treaty Supply of equipment 33 A Ltd Payment of Rent 100 + Withholding tax (Grossing up) 10.51 ------------------------------- Total cost to the project 110.51 Vital considerations before planning i. Domestic laws direct as well as indirect of all the countries, ii. Other incidental taxes such as stamp duty etc, iii. Transfer Pricing, iv. Logistics v. General Anti Avoidance rules Supply of equipment Operating co in offshore jurisdiction A Ltd Payment of Rent 100, no WHT (if no PE) due to tax treaty
Direct Taxes Code 34
Key amendments for Entertainment industry (1) Tax provisions Income tax Act DTC the transfer of all or any rights in respect of cinematographic films Not taxable due to specific exemption vide explanation 2 to section 9(1)(vi) Included in royalty Shooting of films in India by non-resident who is not a Indian citizen Not taxable due to specific exemption vide section 9(1)(d) There is no specific exemption Deduction to film producer and film distributor Rule 9A and Rule 9B Rules are yet to be notified Income earned from house property such Multiplex, studio, stadium, etc. May be considered as business income, based on the judicial precedents Included in income from letting of house property and the standard deduction reduced to 20% 35
Key amendments for Entertainment industry (2) Increase in withholding tax rate from 10.51% to 20% for royalty and fees for technical services - In the following cases the payments to non-residents may liable to higher withholding tax: India has more than 75 tax treaties, out of which over 30 tax treaties provide for a withholding tax rate of 15% to 20% Resident from a non tax treaty country may liable to higher withholding tax rate of 20% Permanent establishment - No threshold limit has been specified for construction site, building site, services rendered etc. hence following circumstances may lead to constitution of PE of foreign residents from a nontax treaty country: Building site, construction site, rendering of services or leasing of equipments within India for a day or more Gross-up contracts with the non-residents will have be analysed carefully, as the same may increase the cost of overseas transactions 36
Open house.. 37
The views expressed in this presentation are solely that of the speaker and do not constitute any kind of professional advice. These views or opinion expressed in this presentation should not be applied or used without a prior professional advice, as the review of the facts and prevailing judicial position is of utmost importance in the analysis of tax implications. 38