FOREIGN COLLABORATION AND DOUBLE TAXATION RELIEF

FOREIGN COLLABORATION AND DOUBLE TAXATION RELIEF STRUCTURE OF THE CHAPTER UNIT 7 7.1 Introduction 7.2 Agreement with foreign countries or specified territories [Sec. 90] 7.3 Adoption by Central Government of agreement between specified associations for double taxation relief [Sec. 90A] 7.4 Countries with which no agreement exists [Sec. 91] 7.5 Summary 7.1 INTRODUCTION This lesson discusses the tax concepts related to double taxation. To save a person from double taxation, provisions of section 90, 90A and 91 of Income-tax Act are applicable. of a person generally becomes liable to tax in two countries, the country in which income is earned and the country in which the person is resident. Double taxation of such income is avoided by providing some relief to the tax-payer in the following forms: 1. Double Taxation Avoidance agreements (DTAAs/ ADTs) 2. Unilateral Relief 7.2 AGREEMENT WITH FOREIGN COUNTRIES OR SPECIFIED TERRITORIES [SEC. 90] The Central Government may enter into an agreement with the Government of any country outside India (or specified territory outside India) and may, by notification in the Official Gazette, make such provisions as may be necessary for implementing the agreement a. for the granting of relief in respect of i. income on which have been paid both income-tax under this Act and income-tax in that country (or specified territory), as the case may be; or ii. income-tax chargeable under this Act and under the corresponding law in force in that country (or specified territory), as the case may be, to promote mutual economic relations, trade and investment; or b. for the avoidance of double taxation of income under this Act and under the corresponding law in force in that country (or specified territory), as the case may be; or c. for exchange of information for the prevention of evasion or avoidance of income-tax chargeable under this Act or under the corresponding law in force in that country (or specified territory), as the case may be, or investigation of cases of such evasion or avoidance; or d. for recovery of income-tax under this Act and under the corresponding law in force in that country (or specified territory), as the case may be. 150

Applicability of the provisions Where the Central Government has entered into an agreement with the Government of any country outside India (or specified territory outside India), as the case may be, for granting relief of tax (or avoidance of double taxation), then, in relation to the assessee to whom such agreement applies, the provisions of this Act shall apply to the extent they are more beneficial to that assessee. Further, the provisions of this section shall apply to the assessee even if such provisions are not beneficial to him. Notes 1. An assessee, not being a resident, to whom the agreement under section 90 applies, shall not be entitled to claim any relief under such agreement unless a certificate of his being a resident in any country outside India (or specified territory outside India), as the case may be, is obtained by him from the Government of that country (or specified territory). 2. It is to be noted that charge of tax in respect of a foreign company at a rate higher than the rate at which a domestic company is chargeable, shall not be regarded as less favorable charge (or levy of tax in respect of such foreign company). 3. The Central Government has notified the following areas outside India as the 'specified territory' for the purposes of section 90 a. Bermuda a British Overseas Territory b. British Virgin Islands a British Overseas Territory c. Cayman Islands a British Overseas Territory d. Gibraltar a British Overseas Territory e. Guernsey a British Crown Dependency f. Isle of Man a British Crown Dependency g. Jersey a British Crown Dependency h. Netherlands Antilles an Autonomous Part of the Kingdom of Netherlands i. Macau a Special Administrative Region of The People's Republic of China j. Hong Kong a Special Administrative Region of the People's Republic of China k. Sint Maarten a part of Kingdom of Netherlands. Relevant Rulings on Section 90 1. In case of conflict between Income-tax Act and provisions of DTAA, provisions of DTAA would prevail over provisions of Income-tax Act. 2. For claiming exemption under DTAA it is not necessary that assessee should produce proof of payment of tax. 3. Section 90 provides relief from double taxation where income of assessee is chargeable under Income-tax Act as well as in corresponding law in force in foreign country; therefore, assessee would be entitled to take credit of Income-tax paid in a foreign country even in relation to income which is exempt under section 10A. 151

Some common methods of granting relief under such section 90 1. Exemption Method Under this method, a particular income is taxed in one country and exempt in another country. 2. Tax Credit Method Under this method an income is taxable in both the countries in accordance with their respective tax laws read with such agreements. The home country (where the assessee is resident) permits deduction of taxes paid by residents in host country from the tax due on worldwide income in the home country. The objective is to reduce tax on foreign source income to the extent that income has already been taxed in the foreign jurisdiction. Under the tax credit system, the tax payer pays the higher of the two taxes. 3. Deduction System Under this system, foreign tax is allowed as a deduction from profits liable to tax in the home country. This system differs from the tax credit method in the sense that foreign tax is deducted from tax base under this system whereas it is credited against the tax liability under the tax credit method. Above methods are explained below with the help of an example Earnings abroad Rs. 100, tax rate in host country is 40% and tax rate in home country is 60%. No Relief Exemption Tax Credit Deduction (Rs.) Method (Rs.) Method (Rs.) Method (Rs.) Income (a) 100 100 100 100 Tax paid in host country 40 40 40 40 (40%) (b) Tax paid in home country 60 20 36 [60%(a-b)] (60%) Total tax paid by the 100 40 60 76 assessee (c) Remaining income with the assessee (a) (c) 60 40 24 7.3 ADOPTION BY CENTRAL GOVERNMENT OF AGREEMENT BETWEEN SPECIFIED ASSOCIATIONS FOR DOUBLE TAXATION RELIEF [SEC. 90A] Any specified association in India may enter into an agreement with any specified association in the specified territory outside India and the Central Government may, by notification in the Official Gazette, make such provisions as may be necessary for adopting and implementing such agreement a. for the granting of relief in respect of i. income on which have been paid both income-tax under this Act and income-tax in any specified territory outside India; or 152

ii. income-tax chargeable under this Act and under the corresponding law in force in that specified territory outside India to promote mutual economic relations, trade and investment; or b. for the avoidance of double taxation of income under this Act and under the corresponding law in force in that specified territory outside India; or c. for exchange of information for the prevention of evasion or avoidance of income-tax chargeable under this Act or under the corresponding law in force in that specified territory outside India, or investigation of cases of such evasion or avoidance; or d. for recovery of income-tax under this Act and under the corresponding law in force in that specified territory outside India. Applicability of the provisions Where a specified association in India has entered into an agreement with a specified association of any specified territory outside India and such agreement has been notified for granting relief of tax, or as the case may be, avoidance of double taxation, then, in relation to the assessee to whom such agreement applies, the provisions of this Act shall apply to the extent they are more beneficial to that assessee. Further, the above provisions shall apply to the assessee even if such provisions are not beneficial to him. Notes 1. An assessee, not being a resident, to whom the agreement under section 90A applies, shall not be entitled to claim any relief under such agreement unless a certificate of his being a resident in any specified territory outside India, is obtained by him from the Government of that specified territory. 2. It is to be noted that the charge of tax in respect of a company incorporated in the specified territory outside India at a rate higher than the rate at which a domestic company is chargeable, shall not be regarded as less favourable charge or levy of tax in respect of such company. 3. "specified association" means any institution, association or body, whether incorporated or not, functioning under any law for the time being in force in India or the laws of the specified territory outside India and which may be notified as such by the Central Government for the purposes of this section. 7.4 COUNTRIES WITH WHICH NO AGREEMENT EXISTS [SEC. 91] The relief under section 91 is granted to an assessee who fulfills all the following conditions 1. The assessee is resident in India in any previous year. 2. His income is accrued (or arose) during that previous year outside India (and which is not deemed to accrue or arise in India). 3. He has paid tax in that country where the income accrued (or arose). 153

4. There is no agreement with than country under section 90 for the relief or avoidance of double taxation. Amount of relief Under section 91, the assessee is entitled to the deduction from the Indian income-tax payable by him of a sum calculated on such doubly taxed income at the Indian rate of tax or the rate of tax of the said country, whichever is the lower. Notes 1. "Indian rate of tax" means the rate determined by dividing the amount of Indian incometax after deduction of any relief due under the provisions of this Act but before deduction of any relief due under section 90, 90A and 91, by the total income. 2. "Rate of tax of the said country" means income-tax and super-tax actually paid in the said country in accordance with the corresponding laws in force in the said country after deduction of all relief due, but before deduction of any relief due in the said country in respect of double taxation, divided by the whole amount of the income as assessed in the said country. 3. Double taxation relief is allowable on foreign income included in the net taxable income or net taxable income, whichever is less. In other words, it can be said that relief cannot be granted on the amount exceeding net taxable income. 4. Relief under section 91(1) is to be calculated on country-wise basis and not on basis of aggregation or amalgamation of income of all foreign countries. Therefore, an assessee is entitled to double income-tax relief under section 91 in respect of income from one country without adjusting losses from another country. Steps for calculating unilateral relief under section 91 Step 1: Compute the of an assessee including foreign income. Step 2: Compute the net tax liability (including surcharge and cess) of the assessee as per the Income Tax Act, 1961 Step 3: Compute the Indian Rate of Tax (IRT) as well as Foreign Rate of Tax (FRT): IRT = FRT = Income tax calculated in step (2) Net Taxable Income of step (1) Income tax paid in foreign country Step 4: Relief under section 91 = Double Taxed Income* Lower of IRT and FRT Step 5: Computation of net tax liability of the assessee in India: XX 154

minus Relief under section 91 in step (4) Net tax liability of the assessee in India XX XXX Case 1 A resident individual has derived the following income during the previous year 2015-16: Income from profession 4,94,000 Share of profit from a partnership firm in Singapore 50,000 (Tax paid in Singapore for his income in equivalent Rupees is Rs. 10,000) Interest from bank deposits in India 28,000 He wants to know whether he is eligible for any double tax relief and if so, its quantum. He also wants to know his final tax liability. India does not have any double taxation avoidance agreement with Singapore. In the present case, the assessee satisfies all the given below conditions of section 91 and thus, entitled for relief under section 91 1. The assessee is resident in India in any previous year. 2. His income is accrued (or arose) during that previous year outside India (and which is not deemed to accrue or arise in India). 3. He has paid tax in that country where the income accrued (or arose). 4. There is no agreement with than country under section 90 for the relief or avoidance of double taxation. Step 1: Computation of Net Taxable Income of the individual for the assessment year 2016-17: Business Income 4,94,000 Income from other sources (Interest on bank deposits) 28,000 Indian Income 5,22,000 Add: 50,000 5,72,000 Less: Deductions under chapter VIA 5,72,000 Step 2: Tax on NTI of Rs. 5,72,000 of the individual for the assessment year 2016-17: [Rs. 25,000 + 20% (Rs. 5,72,000 - Rs. 5,00,000)] 39,400 Total 39,400 Add: EC @ 2% 788 SHEC @ 1% 394 Net tax liability (Rounded off) 40,580 Step 3: Indian Rate of Tax (IRT) = Net Taxable Income of step (1) 40,580/5,72,000 = 7.09% 155

Foreign Rate of Tax (FRT) = 10,000/50,000 = 20% Step 4: Relief under section 91 = Rs. 50,000 * 7.09% = Rs. 3,545 Step 5: Net tax to be paid in India by the individual in the assessment year 2016-17 = Rs. 40,580 Rs. 3,545 = Rs. 37,040 (Rounded off) Note It is assumed that interest income from bank is earned from fixed deposits. Case 2 Mr. D is a musician deriving income from concerts performed outside India of Rs. 2,50,000. Tax of Rs. 50,000 was deducted at source in the country where the concerts were held. India does not have any DTAA with that country. Assuming that the Indian income of D is Rs. 5,00,000, what is the amount of tax payable by him in India for the assessment year 2016-17? Step 1: Computation of Net Taxable Income of Mr. D for the assessment year 2016-17: Indian Income 5,00,000 Add: 2,50,000 7,50,000 Less: Deductions under chapter VIA 7,50,000 Step 2: Tax on NTI of Rs. 7,50,000 of Mr. D for the assessment year 2016-17: [Rs. 25,000 + 20% (Rs. 7,50,000 Rs. 5,00,000)] 75,000 Total 75,000 Add: EC @ 3% 2,250 Net tax liability 77,250 Step 3: Indian Rate of Tax (IRT) = Foreign Rate of Tax (FRT) = Net Taxable Income of step (1) 77,250/7,50,000 = 10.30% 50,000/2,50,000 = 20% Step 4: Relief under section 91 = Rs. 2,50,000 * 10.30% = Rs. 25,750 Step 5: Net tax to be paid in India by Mr. D in the assessment year 2016-17 = Rs. 77,250 Rs. 25,750 = Rs. 51,500 156

Case 3 Professor K, an individual and citizen of India, earned the following remuneration during the previous year 2015-16: Salary from Delhi university for 8 months 4,00,000 Salary from U.S. University 4,00,000 He went to U.S. on leave without pay for four months during the previous year. He returned to India on 1.1.2016 and brought with him Rs. 3,00,000 in convertible foreign exchange. The foreign university deducted tax at source Rs. 50,000. Compute the amount of tax payable for the assessment year 2016-17. Step 1: Computation of Net Taxable Income of Professor K for the assessment year 2016-17: Indian Income (Income from salary) 4,00,000 Add: 4,00,000 8,00,000 Less: Deductions under chapter VIA 8,00,000 Step 2: Tax on NTI of Rs. 8,00,000 of Professor K for the assessment year 2016-17: [Rs. 25,000 + 20% (Rs. 8,00,000 - Rs. 5,00,000)] 85,000 Total 85,000 Add: Cess @ 3% 2,550 Net tax liability 87,550 Step 3: Indian Rate of Tax (IRT) = Foreign Rate of Tax (FRT) = Net Taxable Income of step (1) 87,550/8,00,000 = 10.94% 50,000/4,00,000 = 12.5% Step 4: Relief under section 91 = Rs. 4,00,000 * 10.94% = Rs. 43,760 Step 5: Net tax to be paid in India by Professor K in the assessment year 2016-17 = Rs. 87,550 Rs. 43,760 = Rs. 43,790 Case 4 Mr. B is resident in India. The following points are noted for the previous year 2015-16 from the books of account: Income from a business in India (-) 2,00,000 157

Income from a business in country X 5,00,000 (India does not have DTAA with country X) Income from other sources in India (Interest on Govt. securities) 1,20,000 PPF contribution 70,000 Tax levied in country X 9,000 Compute the amount of relief under section 91 and income tax payable in India for the assessment year 2016-17. Step 1: Computation of Net Taxable Income of Mr. B for the assessment year 2016-17: Business Income (2,00,000) Income from other sources (Interest on government securities) 1,20,000 Indian Income (80,000) Add: 5,00,000 4,20,000 Less: Deductions under chapter VIA 70,000 3,50,000 Step 2: Tax on NTI of Rs. 3,50,000 of Mr. B for the assessment year 2016-17: [10% (Rs. 3,50,000 - Rs. 2,50,000)] 10,000 Less: Rebate under section 87A 2,000 8,000 Total 8,000 Add: Cess @ 3% 240 Net tax liability 8,240 Step 3: Indian Rate of Tax (IRT) = Foreign Rate of Tax (FRT) = Net Taxable Income of step (1) 8,240/3,50,000 = 2.35% 9,000/5,00,000 = 1.8% Step 4: Relief under section 91 = Rs. 3,50,000 * 1.8% = Rs. 6,300 Step 5: Net tax to be paid in India by Mr. B in the assessment year 2016-17 = Rs. 8,240 Rs. 6,300 = Rs. 1,940 Case 5 X is a resident in India for income tax purposes. His total income in previous year 2015-16 is Rs. 4,45,000, which includes net foreign income of Rs. 45,000 (Income Rs. 50,000 Tax paid in foreign country, Rs. 5,000) from a country with which India does not have DTAA. Will X be allowed relief 158

from double taxation? If so, what are the conditions prescribed for the purpose and what will be the amount of relief and tax paid in India? In the present case, X satisfies all the given below conditions of section 91 and thus, entitled for relief under section 91 1. He is resident in India in any previous year. 2. His income is accrued (or arose) during that previous year outside India (and which is not deemed to accrue or arise in India). 3. He has paid tax in that country where the income accrued (or arose). 4. There is no agreement with than country under section 90 for the relief or avoidance of double taxation. Step 1: Computation of Net Taxable Income of X for the assessment year 2016-17: Indian Income 4,00,000 Add: 50,000 4,50,000 Less: Deductions under chapter VIA 4,50,000 Step 2: Tax on NTI of Rs. 4,50,000 of X for the assessment year 2016-17: [10% (Rs. 4,50,000 - Rs. 2,50,000)] 20,000 Less: Rebate under section 87A 2,000 18,000 Total 18,000 Add: Cess @ 3% 540 Net tax liability 18,540 Step 3: Indian Rate of Tax (IRT) = Foreign Rate of Tax (FRT) = Net Taxable Income of step (1) 18,540/4,50,000*100 = 4.12% Step 4: Relief under section 91 = 50,000 * 4.12% = 2,060 5,000/50,000 = 10% Step 5: Net tax to be paid in India by X in the assessment year 2016-17 = Rs. 18,540 Rs. 2,060 = Rs. 16,480 Case 6 X, an individual, resident of India has the following incomes during previous year 2015-16: 159

Indian income 4,00,000 Royalty on books sold in a foreign country 4,50,000 Tax levied in foreign country on income mentioned above 50,000 Compute his tax liability. India does not have DTAA with this foreign country. Step 1: Computation of Net Taxable Income of X for the assessment year 2016-17: Indian Income 4,00,000 Add: (Royalty Income) 4,50,000 8,50,000 Less: Deductions under section 80QQB 3,00,000 5,50,000 Step 2: Tax on NTI of Rs. 5,50,000 of X for the assessment year 2016-17: [Rs. 25,000 + 20% (Rs. 5,50,000 - Rs. 5,00,000)] 35,000 Total 35,000 Add: Cess @ 3% 1,050 Net tax liability 36,050 Step 3: Indian Rate of Tax (IRT) = Foreign Rate of Tax (FRT) = Net Taxable Income of step (1) 36,050/5,50,000 = 6.56% 50,000/4,50,000 = 11.11% Step 4: Relief under section 91 = Rs. 1,50,000 * 6.56% = Rs. 9,840 Step 5: Net tax to be paid in India by X for the assessment year 2016-17 = Rs. 36,050 Rs. 9,840 = Rs. 26,210 Case 7 X, a resident Indian, has derived the following incomes for the previous year 2015-16 relevant to the assessment year 2016-17: Income from Profession 1,94,000 Income from house property in country X 40,000 (Tax paid for income in country X in equivalent Rs. 2,000) Royalty on books from foreign country Y 6,00,000 (Tax paid in country Y @ 20% converted in Indian Rs.) Expenses incurred for earning royalty is Rs. 1,00,000 Income from scheduled banks 18,000 160

Compute the income tax payable by X in India. India has no DTAA with country X and country Y. Step 1: Computation of Net Taxable Income of X for the assessment year 2016-17: Income from House Property in country X Business Income 40,000 1,94,000 Royalty Income from country Y 6,00,000 Less: Expenses incurred 1,00,000 5,00,000 Income from scheduled banks Less: Deduction under section 80QQB 18,000 7,52,000 3,00,000 4,52,000 Step 2: Tax on NTI of Rs. 4,52,000 of X for the assessment year 2016-17: [10% (Rs. 4,52,000 - Rs. 2,50,000)] 20,200 Less: Rebate under section 87A 2,000 18,200 Total 18,200 Add: Cess @ 3% 546 Net tax liability (Rounded off) 18,750 Step 3: Average Rate of Tax (ART) = Net Taxable Income of step (1) 18,750/4,52,000 = 4.15% Foreign Rate of Tax (FRTX) = Foreign Rate of Tax (FRTY) = 2,000/40,000 = 5% 1,00,000/5,00,000 = 20% Step 4: Relief on income of country X under section 91 = Rs. 40,000 * 4.15% = Rs. 1,660 Relief on income of country Y under section 91 = Rs. 2,00,000 * 4.15% = Rs. 8,300 Total relief under section 91 = Rs. 1,660 + Rs. 8,300 = Rs. 9,960 Step 5: Net tax to be paid in India by X assessment year 2016-17 = Rs. 18,750 Rs. 9,960 = Rs. 8,790 (Rounded off) Case 8 X (28 years) is ROR in India. His income is Rs. 3,46,000 from a business in India and Rs. 1,92,000 from a business in a foreign country with whom India has an ADT agreement. According to ADT 161

agreement, income is taxable in the country in which it is earned and not in the other country. However, in the other country, such income can be included for computation of tax rate. According to the tax laws of the foreign country, business income of Rs. 1,92,000 is taxable @ 23 percent. During the previous year, X has deposited Rs. 42,000 in his public provident fund account (out of which Rs. 10,000 is deposited out of foreign income). He has also received an interest of Rs. 32,000 on Government Securities. Find out X s tax liability under the Income Tax Act for the assessment year 2016-17. Step 1: Computation of Net Taxable Income of X for the assessment year 2016-17: Business Income 3,46,000 Income from other sources 32,000 Indian Income 3,78,000 Add: 1,92,000 5,70,000 Less: Deductions under section 80C 42,000 5,28,000 Step 2: Tax on NTI of Rs. 5,28,000 of X for the assessment year 2016-17: [Rs. 25,000 + 20% (Rs. 5,28,000 - Rs. 5,00,000)] 30,600 Total 30,600 Add: Cess @ 3% 918 Net tax liability (Rounded off) 31,520 Step 3: Indian Rate of Tax (IRT) = Net Taxable Income of step (1) 31,520/5,28,000 = 5.97% Foreign Rate of Tax = 23% Step 4: Relief under section 91 = Rs. 1,92,000 * 5.97% = Rs. 11,462 Step 5: Net tax to be paid in India by X for the assessment year 2016-17 = Rs. 31,520 Rs. 11,462 = Rs. 20,060 (Rounded off) Note: Deduction of PPF has no relation with foreign income. Case 9 X, an individual, is resident and ordinarily resident in India. During the previous year 2015-16, he has earned the following incomes: Income from business A situated in India 8,00,000 Income from business B situated in a foreign country R 7,15,000 Tax paid in this country 2,80,000 162

Loss from business C situated in another foreign country S (1,60,000) Income from other sources in India 40,000 Amount of deduction under section 80C 80,000 Compute the tax liability of X for the assessment year 2016-17. India does not have DTAA with any of the foreign countries given above. Step 1: Computation of Net Taxable Income of X for the assessment year 2016-17: Business Income (Rs. 8,00,000 + Rs. 7,15,000 Rs. 1,60,000) 13,55,000 Income from other sources 40,000 13,95,000 Less: Deductions under section 80C 80,000 13,15,000 Step 2: Tax on NTI of Rs. 13,15,000 of X for the assessment year 2014-15: [Rs. 1,25,000 + 30% (Rs. 13,15,000 - Rs. 10,00,000)] 2,19,500 Total 2,19,500 Add: Cess @ 3% 6,585 Net tax liability (Rounded off) 2,26,090 Step 3: Indian Rate of Tax (IRT) = Net Taxable Income of step (1) 2,26,090/13,15,000 = 17.19% Foreign Rate of Tax (FRTR) = 2,80,000/7,15,000 % = 39.16% Step 4: Relief under section 91 = Rs. 7,15,000 * 17.19% = Rs. 1,22,909 Step 5: Net tax to be paid in India by X for the assessment year 2016-17 = Rs. 2,26,090 Rs. 1,22,909 = Rs. 1,03,180 (Rounded off) Note: To calculate Indian tax rate, one has to first find out taxable income in India from all sources (including loss from foreign business C). In other words, to find out average rate of tax in India, loss from business C shall be taken into consideration. The ruling of Bombay high court supports this view as per the case [CIT v. Bombay Burmah Trading Corpn. Ltd. [2003] 126 Taxmann 403 (Bom.)] in which the Court stated that, to find out doubly taxed income, loss incurred in business C in another foreign country cannot be reduced. 7.5 SUMMARY 163

This lesson discussed the concept of double taxation. Relevant sections of Income-tax Act, 1961 which deals with double taxation relief have been discussed in detail along with practical cases. 164