A tax expert helps UK businesses navigate through some provisions and amendments in Indian corporate tax law that impact cross-border investments.
In recent years, India has emerged as one of the most attractive investment destinations amongst emerging markets. In 2018, India ranked 11th amongst the highest recipients of foreign direct investment (FDI) globally as per A.T. Kearney's 'FDI Confidence Index'. In terms of investment flows from the UK to India, UK has emerged as the fourth-largest investor in India, after Mauritius, Singapore and Japan.
The government of India has been increasingly focusing on ease of doing business and tax reforms as the core of the country's growth agenda. Consequently, India leap-frogged by over 40 positions in the World Bank's rankings for 'Ease of Doing Business'.
India has been at the forefront of international dialogue on taxation of the digital economy, both through its participation in the OECD's base erosion profit shifting (BEPS) plan project, as well as through amendments in its domestic tax regime. India is amongst the first countries to introduce an equalisation levy on cross-border digital advertising.
New provisions and amendments
, to limit base erosion involving interest deductions, India has introduced a new provision with effect from financial year 2017-18, to limit deduction in relation to interest payments made to non-resident associated enterprises. Due to non-deductibility of interest expense beyond the prescribed thresholds, foreign investors investing in the form of debt may have to re-consider the return on investments and take into account the present value of the interest, which may be disallowed and allowed to be set off against future profits.
Through the Finance Act 2018, India's income tax law has been amended to clarify that the significant economic presence (SEP) of a non-resident in India would constitute a business connection in India. By virtue of this amendment, a foreign entity would come into the Indian tax net even without a physical presence in India, if it is engaged in any transaction in India including provision of download of data or software entailing aggregate payments above a prescribed threshold or solicitation of business through interaction with prescribed number of users in India through digital means.
However, it is relevant to note that India's existing double tax avoidance agreements or tax treaties, including India's treaty with the UK, do not provide for SEP test for determination of PE. Hence, this amendment in India's domestic law shall currently impact foreign investors from only such jurisdictions which do not have a tax treaty with India.
In alignment with BEPS Action Plan 7, another amendment brought about by the Finance Act 2018 to India's domestic tax regime seeks to widen the scope of dependent agent to include persons who play a principal role leading to conclusion of contracts by a non-resident. Prior to this amendment, only persons who had the authority to conclude contracts in India on behalf of non-residents were covered as a dependent agent to determine taxability of such non-residents in India. However, unless corresponding amendments (i.e. modified PE rule) are introduced in India-UK tax treaty or other tax treaties, there may not be any adverse impact of the proposed amendment on the UK or other investors respectively.
The Indian tax authorities recently adopted an extensive view of PE in India in the case of Master Card Singapore and held that existence of equipment and network (i.e. card interface processors and global card network which was required in the initial stages of transaction processing) in India constituted a fixed place PE in India for the overseas applicant, warranting attribution of profits to the operations conducted in India. Further, the authorities followed the approach of splitting the transaction into various elements to evaluate the nature of payments for the purposes of royalty taxation.
Further, in the case of Google India, the tax authorities reviewed the business arrangement to conclude that Google India had access to the overseas company's (i.e. Google Ireland) patent, technical know-how, trademark, process, brand etc. and that the arrangement was not just a simple re-distribution of ad space. Consequently, payment for purchase of ad-space was re-characterised as royalty payments requiring withholding tax obligations to be discharged by the Indian party.
In view of these recent judicial pronouncements, it is imperative for multinational corporations to re-evaluate the values attributed to their Indian subsidiaries/ entities vis-à-vis the functions performed in India. While more and more emphasis is being placed on proper documentation, importance of substance of the transactions providing suitable rationale for the arrangement cannot be ignored.
In line with the global tax developments, General Anti Avoidance Rules (GAAR) have also been made effective in India from April 1, 2017, with a grandfathering clause applicable to the investments made up to March 31, 2017. There is a de-minimus threshold prescribed for applicability of GAAR where the tax benefit is up to INR 30 million (GBP 320,000). The Indian GAAR is more onerous from the UK GAAR since India's tax authorities can seek to invoke GAAR even if a single step in an arrangement is motivated by a tax benefit although the arrangement as a whole is driven by a commercial rationale.
Amendments have been made in India's transfer pricing reporting framework by introducing Country by Country Reporting (CbCR) requirements for international groups with consolidated turnover of more than INR 55,000 million (GBP 600 million). Such groups have to file CbCR in the template as prescribed by OECD. In response to the taxpayer's concerns about the assessment and use of the critical data furnished by them in the CbCR, it has been clarified that the information furnished in CbCR would not be the sole basis to propose transfer pricing adjustments.
Further, Master File (MF) reporting requirements were also introduced in 2016 whereby entities are required to file MF (which comprises of two parts) before the due date of filing annual tax return i.e. November 30th each year. India has prescribed very low threshold for applicability of MF and taxpayers have been facing practical challenges in collating information from overseas parents to be furnished as part of prescribed MF Form in India.
A large proportion of tax disputes in India relates to related party transactions. In view of the time consuming domestic appeal and dispute resolution process, the Indian Revenue had introduced Advance Pricing Agreement (APA) program in 2013 as an alternate dispute resolution mechanism. The APA regime has witnessed significant success and it is interesting to note that the maximum number of executed bilateral APAs has been with the UK.
To conclude, India is likely to continue being an important partner in the UK's global future post Brexit and in the backdrop of bold economic initiatives taken by the Indian government. Recent developments on the Indian tax front require foreign investors to carefully consider the impact of provisions such as thin capitalisation and GAAR while planning cross-border investments and transactions with India. Investors also need to be mindful of changes on the compliance front in the transfer pricing regime as the costs related to non-compliance can significantly add to the cost of doing business in India.
Radhika Jain is Partner, Transaction Tax, at Grant Thornton India LLP.
