IMPORTANT REGULATORY ISSUES ON ENTRY INTO INDIA Presentation by HINESH R. DOSHI 1
CONTENTS 1. ENTRY STRATEGIES 2. REGULATORY ISSUES i. TRANSFER PRICING ii. INCOME TAX iii. FEMA iv. DTAA v. OTHER ACTS 3. TAX CONTROVERSIES-EPC CONTRACTS 4. OTHER REGULATORY ISSUES 5. TAXATION AND REGULATORY ISSUES FOR EXPATRIATES 2
ENTRY STRATEGIES 3
AS A FOREIGN COMPANY AS AN INDIAN COMPANY LIAISON OFFICE BRANCH OFFICE PROJECT OFFICE WHOLLY OWNED SUBSIDIARY JOINT VENTURE 4
OVERVIEW Prior approval of RBI to set up Liaison Office (LO) & Branch Office (BO) followed by registration with Registrar of Companies (ROC). Foreign Insurance companies to obtain prior approval from IRDA. Foreign Banks to obtain prior approval from DBOD followed by registration with ROC. No approval from RBI to open Project Office (PO) in most cases, except intimation within 2 months. 5
ESTABLISHMENT OF LO & BO IN INDIA RBI ROUTE GOVERNMENT ROUTE Principal business of foreign entity eligible for 100% FDI under automatic Route Principal business of foreign entity not eligible For 100% FDI under automatic route, Non-Government organization/ Non-Profit organization/ Government Departments. 6
ELIGIBILITY CRITERIA FOR ESTABLISHMENT OF LO & BO Basic Criteria Principal business of foreign entity falls under sectors where 100% FDI permitted under automatic route. In other cases, Govt. permission required. Additional Criteria Track Record - Profit making track record of immediately preceding 3 F.Y. in home country for LO and 5 F.Y. in case of BO. Net Worth - BO - not less than USD 100,000 or equivalent LO - not less than USD 50,000 or equivalent 7
ESTABLISHMENT OF PO IN INDIA GENERAL PERMISSION CONDITIONS PO has secured from Indian company a contract in India AND Project funded by inward remittances from abroad OR Project funded by bilateral or multilateral International Finance Agency PRIOR PERMISSION FROM RBI IF CONDITIONS NOT SATISFIED OR Project cleared by appropriate authority OR Company in India been granted Term Loan by PFI or bank for the project 8
DO S & DONT S OF LO Cannot undertake any commercial/business activity directly or indirectly. Cannot earn any income in India. All expenses to be met by Inward remittances. Cannot have any signing/commitment powers on behalf of HO. Furnish to RBI (on yearly basis) annual activity certificate from Auditor with audited accounts by 30 th September. Approval by RBI granted for 3 years & renewed thru AD. 9
DO S & DONT S OF BO Permission required for new activities of trading, commercial or industrial nature. All expenses from inward remittances or thru income from permitted activities. Income earned from parties abroad to be repatriated to India. LO/BO to obtain PAN No. & UIN No. Furnish to RBI (on yearly basis) a certificate from auditor with audited accounts by 30th September. 10
DO S & DONT S OF PO Cannot lend any money to any person in India. Cannot undertake any activity other than execution of project. Cannot transfer funds inter-se projects without RBI permission. Submit to DGP and AD bank, annual activity certificate along with annexure. Each project to have separate Bank account and site office. No Equity Participation required for PO. PO can open term deposit for period not exceeding 6 months out of temporary surplus funds. 11
RESTRICTION ON ESTABLISHMENT OF OFFICE Restriction on citizens of Pakistan, Bangladesh, Sri Lanka, Afghanistan, Iran or China to establish office. RBI refers to Department of Economic Affairs, New Delhi. Only body corporates, firm and association of individuals allowed to set-up LO/BO. 12
REGULATORY ISSUES UNDER TRANSFER PRICING 13
TRANSFER PRICING ISSUES TP laws introduced since 2001, without Safe Harbour Rules and Advance Pricing Mechanism and without proper guidance to Industry. India ranked as 2nd most aggressive TP jurisdiction in the world in 2010. Several litigations with demands exceeding more than Rs. 12,000 crores. Huge quantum leap in TP adjustments from approx Rs. 1220 crores (USD 0.26 billion) in the 1st round of audit to approx Rs. 44,500 crores (USD 9.4 billion) in the 7th round of audit. Total adjustment of approx Rs. 95,000 crores. Domestic Transfer Pricing provisions also expected to create litigations and unresolved issues. Whether pure reimbursement of expenses on actual basis would be covered by transfer pricing regulations. 14
10 most aggressive tax authorities for transfer pricing globally Country Rank in 2010 Japan 1 India 2 China 3 Canada 4 United States 5 France 6 Germany 7 Australia 8 Korea 9 United Kingdom 10 Primary burden of proving whether international transaction is at arm s length price is on the taxpayer by demonstrating the applicability of most appropriate transfer pricing method. 15
INDIA TRANSFER PRICING Assessment Year AUDIT TRENDS Seven rounds of Transfer Pricing audits completed (FY 01-02 to 07-08) Number of TP audits completed Number of cases adjusted % of adjustment cases Adjustment Amount INR USD Crore Million 2002-2003 1,061 239 23 1,220 260 2003-2004 1,501 337 22 2,287 490 2004-2005 1,768 471 27 3,432 730 2005-2006 1,945 754 39 7,754 1,650 2006-2007 1,830 813 44 10,908 2,320 2007-2008 2,301 1,138 49 23,237 4,940 2008-2009 2,589 1,338 52 44,500 9,470 16
KEY TRIGGERS FOR AGGRESSIVE AUDIT 1. Consistent losses / low margins of the assessee attributable to inter-company transactions. 2. Significant changes in profitability of the assessee and its Associated Enterprises. 3. High Royalty / Technical fee payouts, Cost recharges, Management Fees, Cost allocations. 4. Low mark-ups for services. 17
KEY TRIGGERS FOR AGGRESSIVE AUDIT 5. Significant Advertisement and marketing spends by manufacturing / distribution companies. 6. Inadequate/Non Charging for services provided to Associated foreign Companies by Indian Subsidiary on Intangibles, Guarantees, Services, Brands etc. 7. Transfer of Shares at inadequate/low value of foreign Subsidiaries. 18
ADVANCE PRICING AGREEMENT (APA) CBDT proposed significant initiatives with introduction of Advance Pricing Agreements ( APA ) notified on 30 th August, 2012. Key Features Advance ruling of transfer price Assurance on TP Methods Certainty for TP strategies Unanimity in approach In multilateral/ bilateral APAs, certainty of tax treatment by relevant tax authority and possible reduction of future double taxation. 19
TIMELINE FOR COMPLETION OF APA RULING Particulars Unilateral APA Bilateral APA Multilateral APA Timeline 6 Months 1-2 Years 2-3 Years Ruling of APA is binding on the company for 5 Years 20
FEES FOR APPLYING TO APA Slab Structure for APA Application Amount of international transaction entered or proposed to be undertaken Not exceeding Rs. 100 crores Not exceeding Rs. 200 crores Exceeding Rs. 200 crores Fee (Rs.) 10 lakhs 15 lakhs 20 lakhs Application fees not refunded in event of inconclusive outcome resulting to withdrawal of application by taxpayer. However if tax authorities reject APA Application, fees likely to be refunded. 21
REGULATORY ISSUES UNDER INCOME TAX 22
REGULATORY ISSUES Personal Income Tax - Higher Tax in India PARTICULARS IN INDIA OUTSIDE INDIA Exemption Limit Highest Tax Bracket Low exemption limit - Rs.200,000 per year Highest tax rate applicable @ 30% for income above Rs. 10,00,000. High Exemption limits - approx USD 30,000 (Rs.15,00,000) per year Highest tax rate applicable @ 30% for income above USD 150,000. (Rs.75,00,000) Most foreign expats have low personal income tax upto max 15% in their home country. Refusal to stay in India due to high taxes. Preferable countries - UAE, Singapore, HK etc where tax rates are Nil or maximum 15%. 23
REGULATORY ISSUES High Tax to foreign companies (42.024%) and higher withholding tax Foreign cos liable to tax @ 42.024% on profits. Further, higher withholding tax rate @ 42.024% in absence of 195/197 certificate leads to heavy cash outflows. PAN NO compulsory for foreign cos/ Individuals doing business with India else tax rate @ 20% U/s 206AA. Process of obtaining PAN NO for foreign cos / expats cumbersome, procedural and time consuming. 24
REGULATORY ISSUES GENERAL ANTI-AVOIDANCE RULE (GAAR) A deterrent & tool against tax evasion and avoidance. To avoid and to dissuade taxpayers from entering an arrangement to obtain tax benefit w.e.f. 01.04.2014, however Shome Committee proposed Govt. to postpone the implementation for 3 years. Grants power to tax authority to adjust assessment of taxpayer to counteract undue tax advantage. 25
REGULATORY ISSUES Retrospective amendments in Act after SC judgments Foreign cos rely on decisions of SC to decide and interpret various issues on taxation and also to negotiate contracts. Retrospective change in laws w.e.f. April, 1962 discourage foreign entities to enter India. Hitherto, offshore services rendered outside India not liable to tax in India. However, retrospective amendment w.e.f. 1st April, 1976, taxed all offshore services rendered outside and utilized in India. Similar amendments in Sec 9 to counter Vodafone Rulings. 26
REGULATORY ISSUES Average litigation time ranges from 5 to 15 years No simple dispute resolution mechanism in Indian tax system. Incase tax effect in tax litigation > Rs 10 lacs and Rs.25 lacs, tax department need to litigate till High Court and Supreme Court respectively. Generally, tax dispute takes atleast 5-10 years and in many cases about 15-20 years to settle. Accounting issues India to implement IFRS from 2014. Whereas most countries are implementing IFRS from 2011. Hence, Subsidiaries of such foreign cos in India require to maintain two sets of Accounts, as per IFRS and as per Indian GAAP. 27
REGULATORY ISSUES Limited scope of Authority for Advance Rulings (AAR) AAR set up to give clarity on tax involved for a proposed transaction. However, no chance to approach AAR incase, matter pending before tax authorities, i.e. after filing of Income Tax return. This creates situations of long drawn tax litigations for foreign cos. Dispute Resolution Panel Mechanism (DRP) DRP started since 2009 to settle and reduce litigation time, but not effective. Most foreign cos refuse to opt for such scheme, as panel consist of CITs from tax department only and not from Independent authority. 28
REGULATORY ISSUES New Direct Tax Code Bill (DTC) Certain new concepts like Controlled Foreign Corporation (CFC), Thin Capitalisation Norms, Resident norms etc bound to create litigations with foreign cos leading to uncertain situations. Issues related to MAT Surcharge and education cess paid on MAT are not included in MAT credit u/s 115JAA, thereby resulting in payment of higher taxes. MAT provisions applicable to tax free zones @ 18.5% like Software Units, Infrastructure Units, etc. Indirect method to levy taxes. 29
REGULATORY ISSUES Presumptive taxation Presumptive taxation levied on foreign cos engaged in specified sectors like Oil & gas, Shipping, Construction of power projects, etc. Foreign cos need to pay such taxes inspite of incurring losses and does not get tax credit in residence country for such taxes. Unexpected rise in cost Unprecedented variations in forex rates, invariable rise of fuel and diesel prices, increased cost of raw material and inflation disturbs the financial position of the Company vis-à-vis expected at the time of entry into India. Leads to tight cash flow position and increased interest cost of the project. 30
REGULATORY ISSUES Dividend Distribution Tax (DDT) @ 16.2225%, with no tax credit in host country Such DDT not eligible as Tax credit in home country of foreign cos and amounts to double taxation on same income. Foreign cos have routed their Investments thru Countries like Mauritius, Singapore, Cyprus, which allows such underlying tax credit. Higher Capital gains tax on sale of shares Long term Capital gains tax is 21.012% on sale of Unlisted shares. Approx 40% of FDI Investments routed thru small Island country of Mauritius, Cyprus since, all foreign cos taking benefits of Nil taxation on capital gains in India-Mauritius treaty. Foreign cos adopted treaty shopping and routed their Investments thru Mauritius, Singapore and Cyprus. However MAT & Transfer Pricing is applicable. (AAR in case of Castleton Investment Limited ) 31
REGULATORY ISSUES UNDER FEMA 32
REGULATORY ISSUES Change of Valuation method to Discounted Cash Flow method for issue or transfer of shares to foreign companies / entities RBI amended valuation norms and scrapped all methods of share valuation. Difficult for foreign cos to follow such method due to lack of availability of projected figures from Investee Companies. Several large M&A and equity investments stuck due to such regulation. Compounding under FEMA Several practical difficulties to Foreign Companies. Single-brand FDI policy, global retailers have to procure at least 30% of their merchandise requirements from small companies, having total investment in plant and machinery not exceeding $1 million. 33
REGULATORY ISSUES UNDER DTAA 34
REGULATORY ISSUES Double Tax Avoidance Agreements (DTAAs) with about 84 countries Issues related to treaty interpretations, wrong characterization of Income between domestic laws of both countries. Results in refusal of tax credit by residence country creating double taxation. Unresolved matters referred to Mutual Agreement Procedure (MAP), which takes long time to settle such matters. No separate provisions for domestic interpretations of the treaty terms, no tax credit rules specified in Act, no definitions of several terms used in Tax Treaty. Results in ambiguity and wrong characterization of income. Format of Tax Residency Certificate (TRC) as notified by Indian Govt. may differ country wise. 35
REGULATORY ISSUES UNDER OTHER ACTS 36
REGULATORY ISSUES Fragmentation on taxation of goods and services and non implementation of GST Due to various central and state taxes on goods and services, Indian taxation framework fragmented. Leads to Cascading and multiplicity of taxes, cumbersome requirements, high cost of transaction and nagging uncertainty in tax liability for a business in the present taxation system. Single tax regime of GST required subsuming all indirect taxes and levies. 37
REGULATORY ISSUES Lack of uniformity in regulations under various Acts Same transaction taxed twice under separate Acts creating ambiguity and disparity. For eg: a) Computer software, Renting of Movable assets liable for both VAT and Service tax. b) Software considered as goods and liable for VAT by certain Courts whereas certain Courts held it as services. c) Import of designs & drawings liable for Customs duty as goods whereas Income Tax charges same services under Technical services. 38
TAX CONTROVERSIES IN EPC CONTRACTS Consortium & Joint Venture/ Association of Persons Transfer Pricing Issues Offshore supply of goods & services Attribution to Permanent Establishment Onshore supply of goods & services 39
RELATED CASE LAWS Favorable Rulings Nokia Networks OY v. Dy CIT (Delhi ITAT Special Bench) 96 TTJ1 dt. 7 th Sept, 2012. DDIT vs. M/s TOYO ENGINEERING CORPORATION (Mumbai ITAT)2012-TII-55-ITAT-MUM-INTL dt.3 rd Apr, 2012 Dongfang Electric Corporation vs. DDIT (Kolkata ITAT) 2012-TII-66-ITAT-KOL-INTL dt. 22 nd Jun, 2012. National Petroleum Construction Company vs. ADIT [2012] 26 taxmann.com 50 (DELHI - Trib.) dt. 5 th Oct, 2012. Unfavorable Rulings Roxar Maximum Reservoir Performance WLL 2012-TII- 24-ARA-INTL, dt. 7 th May, 2012. LINDE AG 2012-TII-13-ARA-INTL dt. 20 th March, 2012. Alstom Transport SA 2012-TII-28-ARA-INTL dt. 7 th June,2012. 40
TAX CONTROVERSIES IN EPC CONTRACTS Taxation of turnkey projects matter of considerable debate and controversy in India. Recent AAR rulings in Roxar, LINDE AG and Alstom set altogether opposite trend for taxability of offshore supplies in turnkey EPC contract. AAR not accepted decision of IHI and held that dissecting approach to contract not adopted in view of SC decision in Vodafone International Holdings BV Netherlands v. Union of India [2012] 341 ITR 1 Adverse decisions pronounced inspite of settled principles dictated by SC and other tax judiciaries, leaving room for litigation and debate. Uncertainty and resentment among taxpayers resorting to hitherto settled principles of law. 41
TAXABILITY OF AOP If revenue / profit shares of AOP participants determinate, each member s share in AOP income subject to tax at respective rate applicable to member. If shares revenue / profit shares of AOP participants is indeterminate, entire revenues of AOP subject to tax at highest tax rate applicable to any of members. 42
HYOSUNG CORPORATION LARSEN & TOUBRO COUNTER PERFORMANCE GUARANTEE FOR ONSHORE SUPPLY & SERVICE CONTRACT PROVIDED PERFORMANCE GUARANTEE TO POWER GRID FOR OFFSHORE & ONSHORE SUPPLY & SERVICE CONTRACTS Not Assessable as AOP Here, separate contract, independent work execution and back to back guarantee proved to be in favor of the tax payer 43
REGULATORY ISSUES IN FEMA & I.T. FOR LO, BO & PO 44
REGULATORY ISSUES IN FEMA & I.T. FOR LO, BO & PO Reporting requirement with DGP List of foreigners other than employees who visited Indian Office in connection with the activities of the company with details such as purpose of visit, date of visit, place of stay in India. Projects/Contracts/Collaborations worked upon or initiated during the year along with details such as approximate value of project/ work, place /area of project /work, period of project /work, Approx number of foreign work force required in India. 45
RECENT AMENDMENTS IN FEMA & I.T. FOR LO, BO & PO Details of contact with Government Departments / PSUs Civil Society Bodies / Trusts / Non-Government Organisation including names of officials. Details of places / states visited along with dates, accommodation used. Due date for filing uncertain. 46
RECENT AMENDMENTS IN FEMA & I.T. FOR LO & BO Reporting requirement with DGIT (Form 49C) India specific financial details for the financial year i.e. receipts, income and expenses of the non-resident person from or in India (not only of the LO). Details of all purchases, sales of material, and services from/to Indian parties during the year by the non-resident person (not limited to transactions made by LO). 47
RECENT AMENDMENTS IN FEMA & I.T. FOR LO & BO Names & addresses of the top five parties in India with whom the L.O. has been doing the liaisoning. Details of Group entities present in India as Branch Office/ Companies/LLPs etc., incorporated in India and nature their business activities. 48
OTHER REGULATORY ISSUES APPLICABLE TO LO, BO & PO 49
REGULATORY ISSUES Whether restriction and prohibition to open office only applicable to citizens of restricted countries or also to entities/companies of such countries. Due date for submission of annual activity certificate alongwith annexure specifically provided to LO/BO (i.e 30 th September) but not to PO (i.e. annual basis) 50
REGULATORY ISSUES Restriction on Inter-project funds transfer. Leads to practical difficulties during start-up as PO has to approach local bank or Head office for funds leading to exchange differences. Whether idle assets of PO after completion of project allowed to be rented or transferred to some other project. 51
CLOSURE OF LO LO Application to RBI through AD NOC NOC Income Tax ROC This process will take minimum 6 months to 2 year 52
TAXATION AND REGULATORY ISSUES FOR EXPATRIATES 53
TAXABILITY Salaries paid for services rendered in India taxable irrespective of place of payment 54
SOCIAL SECURITY AGREEMENT Sr. No. Country Effective Date 1. Luxembourg 1 st June, 2011 2. Switzerland 29 th January, 2011 3. Germany 1 st October, 2009 4. Belgium 1 st September, 2009 5. France 1 st July, 2011 6. Netherland 1 st December, 2011 7. Korea 1 st November, 2011 8. Denmark 1 st May, 2011 55
REGULATORY ISSUES Applicability of PF to International Workers in India; however, no systematic regulations for refund of PF on their exit. PAN No difficult for expatriates having one/two letter name. Undue burden for TDS deduction @ 20% U/s 206AA. No appropriate provisions in Act to get tax credit in home country inspite of DTAA s. Visa restrictions and availability of the same to only key personnel, minimum salary not less than USD 25,000 p.a. 56
FRRO issues. REGULATORY ISSUES Other issues like residential status & tax incidence, domestic / treaty law relief, corporate tax issues associated with deputation of employees, social security issues and issues connected with ESOP s. Non encashment of the Income Tax refund due to non operation of Bank accounts for the expatriates who have left India. 57