Taxation - Income Tax

Senior officials in the ministry told Business Standard the rate of taxation would remain the same in the final version of DTC. "The idea of DTC is to make the tax structure simple. We believe the taxation rates of 10 per cent, 20 per cent and 30 per cent are the simplest for taxpayers, as well as tax authorities. If we try to tax the income at 5 per cent, 15 per cent, 25 per cent, or any other rate, it could become complicated," said an official.

Another said the country had these rates for the past several years and would continue to have the same in the future as well. He said any tinkering with the rates was not required when the purpose could be served by adjusting the tax slabs in line with the government's revenue considerations.

While the rates of taxation have remained static over the years, income tax slabs were revised upwards twice in 2009-10. Presenting the first Budget of UPA-II in July 2009, finance minister Pranab Mukherjee had widened the slabs. The revised slabs were Rs 1.6-3 lakh, Rs 3-5 lakh and above Rs 5 lakh.

Source: Business-standard By Vrishti Beniwal Change in personal I-T rates unlikely

Facts

    * The Taxpayer, a company resident of India, was in the process of building an alumina refinery using bauxite from the state of Gujarat. It engaged a Chinese company (China Co) for providing bauxite testing services in its laboratories and for preparing test reports which would be used by the Taxpayer to define the process parameters. China Co rendered the services from China and a consideration of USD 1m was agreed to be paid to China Co.
    * The test reports of bauxite samples were to cover complete chemical composition of bauxite, physical phase constitution of bauxite, performance tests etc.
    * The Taxpayer was of the view that no taxes were required to be withheld from the payments made to China Co. Accordingly, the Taxpayer moved an application for obtaining a nil withholding certificate from the Tax Authority.
    * The Tax Authority took a view that the payments made for services rendered by China Co were taxable as `fees for technical services' (FTS) under the ITL as well as the Tax Treaty.
    * The Taxpayer appealed before the first appellate authority which upheld the Tax Authority's view. Aggrieved by the above, the Taxpayer appealed before the ITAT.
    * Under the ITL, any income by way of FTS payable to a non-resident by a resident of India is generally taxable in India. FTS is defined as any consideration for rendering any managerial, technical or consultancy services. A Supreme Court (SC) decision rendered in 2004 had held that, for FTS to be taxable in India, the services should not only be utilized in India but should have also been rendered in India. The Finance Act, 2010 introduced a retrospective amendment in the ITL, with effect from 1 June 1976, to clarify that FTS would be taxablein India even if rendered from outside India.
    * Under the Tax Treaty, FTS is defined as consideration for provision of managerial, technical or consultancy services by a resident of one country in the other country. FTS is generally deemed to be taxable in the country where the payer is a resident (Source Rule).

Issue before the ITAT :- Whether the payments made for services rendered by China Co are taxable in India and whether the Taxpayer is required to WHT while making such payments.

Taxpayer's contentions

    * Under the ITL, in order to attract taxability of FTS in India, the services should be utilized as well as rendered in India. Reliance was placed on the SC's decision in the case of Ishikawajima Harima Heavy Industries Ltd. [288 ITR 408]  (Ishikawajima) and the jurisdictional Bombay High Court's decision in the case of Clifford Chance [318 ITR 297] . In the present case, no part of thetesting services was rendered in India by China Co.
    * Under the Tax Treaty, for taxation of FTS in the source country (India), there is an additional requirement of place of performance of services in India. In view of the unique wordings used in the definition of FTS and by a literal interpretation of the same, provision of servicesin India should be construed as rendition of services in India.
    * As per the Source Rule under the Tax Treaty, FTS is deemed to arise in India if the payer is a resident of India. However, the Source Rule is applicable only on the payments covered within the definition of FTS which requires the services to be rendered in India.
    * It is not necessary that the source rule must be extended to all payments for managerial, technical or consultancy services.
    * The receipts may be characterized as business profits of China Co. Since China Co does not have a permanent establishment in India, the same may not be taxable in India under the Tax Treaty.

Tax Authority's contentions

    * Under the ITL, FTS is taxable in India when services are utilized in India. The above view is clarified and supported by the amendment by the Finance Act, 2010. Hence, the Ishikawajima and Clifford Chance decisions are no longer good in law.
    * Under the Tax Treaty, the Source Rule is clear that when a payment is made by a resident of India, FTS is deemed to have arisen in India. The deeming provision would be rendered meaningless, if one were to proceed on the basis that the Source Rule can be invoked only when services are renderedin India, as one cannot deem something which exists in reality.

ITAT ruling

Taxability under the ITL

    * Payments received by China Co are covered within the definition of FTS under the ITL. The Clifford Chance's decision which relies on the Ishikawajima's decision rests on: (i) The legal premise that services must be utilized and renderedin India. (ii) The conceptual premise that territorial nexus for determining tax liability is an internationally accepted principle.
    * In light of the amendment by the Finance Act, 2010, the legal proposition stated above is no longer good in law. It is not necessary that in order to attract taxability of FTSin India under the ITL, services must also be rendered in India.
    * Income of China Co for services rendered to the Taxpayer is taxable as FTS in India under the ITL.

Taxability under the Tax Treaty

    * The definition of FTS covers payments for provision of managerial, technical or consultancy services by a resident of one country in the other country. The expression `provision of services' is not defined or elaborated anywhere in the Tax Treaty.
    * As per the Source Rule, FTS will be deemed to have accrued in the country where the payer is a resident, irrespective of the situs of technical services having been rendered.
    * A literal interpretation of the definition of FTS as provision of service to mean rendition of service would render the Source Rule meaningless. Such an interpretation of atax treaty, which renders a provision unworkable or is contrary to the clear and unambiguous scheme of the tax treaty, has to be avoided.
    * Reliance was placed on an earlier decision Hindalco Industries Ltd. [94 ITD 242]  of the ITAT which laid down certain principles of interpretation of tax treaties stating that the language used in atax treaty need not be examined in literal sense and a departure from plain meaning is permissible where the context so requires.
    * The payments received by China Co are taxable as FTS under the Tax Treaty as well as the ITL and the Taxpayer is liable to WHT from such payments.

Comments

Taxability of offshore services in India has been a subject matter of persisting controversies in the past. With a view to remove any doubts regarding the legislative intent and the scope of the Source Rule on FTS under the ITL, a retrospective amendment was brought in by the Finance Act, 2010. The present ruling of the ITAT reiterates the law as amended.

The appeal has been made part of the Central Board of Direct Taxes (CBDT) TDS clean-up drive for liquidating suspense accounts. This will continue till July 31.

Suspense account is the account in which tax deducted is deposited but the deductees are not getting the benefit of TDS due to the non-linking of tax deduction with the deductees' account because of mistakes made by deductors.

At present, about Rs 177 crore is lying in the suspense account in Bihar and Jharkhand for which deductees have not been able to get any benefit.

"The timely filing of quarterly return and quoting correct TAN would help deductees get the benefits of tax deducted at source from their income," said S D Jha, commissioner of income tax (TDS), Bihar and Jharkhand, while addressing a seminar organised as part of the CBDT special drive here on Tuesday. A good number of representatives of Bihar Chamber of Commerce and those from the Chartered Accountants' Association took part in it.

The notification (No.40/2010) of the I-T department, dated May 28, 2010, in this regard, has come into effect from June 1, 2010. It aims at a streamlined tax assessment in the district. On the front of assesses, they will be knowing where to head in case of a grievance.

Claiming that both the seller and purchaser were located outside India, tax was not deducted under Section 195 of the Income-Tax Act which is more like a residuary section exhorting taxpayers to deduct tax on "any other sums".

Vodafone sought solace from the Supreme Court which remained non-committal and threw the ball back into the court of the tax authorities. The mega-judgment (761 pages) comes to the conclusion that the transaction was taxable in India and, being taxable, the tentacles of Section 195 would apply to it.

The Reasoning

The Department reasoned that Section 5(2)(b) clearly uses the terms ` accrue or arises or is deemed to accrue or arise'. Full effect to all the words employed in Section 5(2) has to be given. The term `accrue or arise' forming the first part of Section 5(2) refers to income that in the ordinary course can be regarded as accruing or arising in India without taking recourse to the provisions of Section 9(1).

Merely because Section 9(1) separately covers the situation where income accrues or arises whether directly or indirectly through the transfer of capital asset situated in India, it cannot be concluded that Section 5(2) cannot cover a situation of the transfer of a capital asset when that results in income accruing or arising in India. Separate, independent structure of the intermediate subsidiaries has neither been recognised nor maintained by HTIL. The conduct of the parties to the Share Purchase Agreement shows that HTIL has functioned as a single entity and for all intent and purposes it has regarded the downstream companies as its own extended hands.

The Revenue need not lift the corporate veil which has already been discarded by the vendor. The undisputed conclusion which has emerged from the factual and legal matrix outlined in the order is that the deal was acquisition of the telecommunication operations of the Hutchison group in India along with all accompanying assets, interests, rights, whether tangible or intangible, which was sold by Hutchison Telecom International to Vodafone by virtue of the sale and purchase agreement.

Sufficient nexus

It went on to rule that on the date of payment, that is, on May 8, 2007, Vodafone had sufficient nexus and presence in India and it cannot claim that it was not bound by Indian laws, including tax laws and the withholding tax provisions. Having concluded that the income is chargeable to tax in India, Vodafone was under an obligation to deduct tax at source at the time of making payment. The tax authorities made note of the fact that not all documentation was forthcoming from the appellant and only "relevant extracts" of the due-diligence report were provided.

This, coupled with the facts that the Group stood guarantee for a $3590 million loan for the transaction, proved to what extent the Group was prepared to bend its back. The tax authorities laid their hands on a tax deed dated the same date as the acquisition date which describes reciprocal Secondary Liabilities Indemnities and provides in its sub-clause (1) that HTIL agrees to pay Vodafone, among others, any amount on account of taxation for which a Wider Group Company becomes liable, in consequence of failure by any member of the HTIL Group to discharge taxation primarily attributable to that member of the HTIL Group.
Way forward

Having battled so much, it is unlikely that Vodafone would throw in the towel. It could knock on the doors of the apex court again. However, as recent rulings (Samsung, etc) on Section 195 prove, Indians are taxed on their global income irrespective of transactional territories in some instances. Just to ensure that the money comes into the kitty early, the withholding provisions in Section 195 encompasses all transactions.

In Delhi, special counters will be set up in Pragati Maidan, as in earlier years, to receive about 5 lakh income tax returns that are filed in the last few days. The Chief Commissioner of Income Tax, Delhi, will later announce the details of the special arrangements made for the taxpayers of Delhi. Counters will be opened to give additional and value-added services such as free return forms, photocopy, PAN application and information, e-filing, help desk, etc. Separate counters will also be opened for senior citizens and ladies, wherever required.

Similarly, special arrangements will be made in other major tax-collecting centers of the ITD such as Mumbai, Kolkata, Bangalore, Chennai, Chandigarh, Ahmedabad, Hyderabad, etc. The respective Chief Commissioners of Income Tax will announce details of arrangements made in these cities.

Taxpayers have been advised to use the e-filing facility of the Income Tax department to get faster and error-free services. It is easy, secure and can be availed of from anywhere anytime. E-filing service is available on the website https://incometaxindiaefiling.gov.in/portal/index.jsp

In Delhi, special counters will be set up in Pragati Maidan, as in earlier years, to receive about 5 lakh income tax returns that are filed in the last few days. The Chief Commissioner of Income Tax, Delhi, will later announce the details of the special arrangements made for the taxpayers of Delhi. Counters will be opened to give additional and value-added services such as free return forms, photocopy, PAN application and information, e-filing, help desk, etc. Separate counters will also be opened for senior citizens and ladies, wherever required.

Similarly, special arrangements will be made in other major tax-collecting centers of the ITD such as Mumbai, Kolkata, Bangalore, Chennai, Chandigarh, Ahmedabad, Hyderabad, etc. The respective Chief Commissioners of Income Tax will announce details of arrangements made in these cities.

Taxpayers have been advised to use the e-filing facility of the Income Tax department to get faster and error-free services. It is easy, secure and can be availed of from anywhere anytime. E-filing service is available on the website https://incometaxindiaefiling.gov.in/portal/index.jsp

"I am happy to announce that the Income Tax department has identified two more locations for setting up Centralised Processing Centres (CPC) in Pune and Maneasar," Mukherjee said after dedicating the CPC here to the nation.

The CPC at Bengaluru processes electronic tax returns for the entire country, besides physical returns for the Karnataka and Goa regions.

"I am glad to note that the CPC has become operational in a short period of time. It has processed over 7 lakh returns during this period," Mukherjee said.

Mukherjee said that Bengaluru, the IT capital of India, was appropriately chosen as the location for the first CPC.

The CPC project at Bengaluru was approved by the Union Cabinet at a total cost of Rs 255 crore over a five-year period. The centre has been set up with technological support from Infosys.

Provision Before Amendment by Union Budget 2010

As per existing provision, in case of TDS deducted as per Chapter XVII-B but the payment of the same not deposited with the Government within due date of section 139(1) for the last month of the previous year and within the last day of the financial year for the first eleven months, results in the disallowance of such expenses, the same not being an amount deductible as an expense.

Amendment made in Union Budget 2010

Union Budget 2010 amended the due date for the payment of TDS for the first eleven months of the previous year to align it with the due date prescribed for the last month of the previous year being the due date prescribed under section 139(1) of the Act. So, as per the new amendment the due date of depositing the TDS for all the payments made has been made to Section 139(1) of the Act, being the due date prescribed for the filing of returns.

Analysis & Comments

Present provision pertaining to disallowance of expenses on which TDS is deductible as per Chapter XVII B due to non-payment of TDS had dual treatment, for the first eleven months the due date being last day of the financial year and for the twelfth month being the due date prescribed for filing of tax returns. This differentiation has been done away, post the present amendment. Also, considering the present cash crunch situation of various corporates there are various instances where the invoice billing of sale is done and there are payment's due for the said contract to other vendors but the same are paid only after the receivable's are received. In the given case the income gets accounted but the expenses are not allowed due to non-payment of TDS, as the same is based on Cashflow situation of the company leading to the violation of matching concept for the purpose of determining business profit on standalone yearly basis. By the present amendment the due date has been extended for the payment of TDS to the due date of filing returns prescribed under section 139(1) of the Act. So, the grace time provided for payment of TDS has been sufficiently enhanced making the allowability of expense more practical and possible. The amendment has been retrospectively made to give effect from assessment year 2010-2011. So, all the assessees can make the payment of TDS for ongoing financial year till the due date of filing tax returns prescribed under section 139(1) of the Act.

Effective Date

Up to September, 1998 any amount received without consideration was taxable as gift under Gift Tax Act. From October, 1998 to August, 2004 any amount received as gift or without consideration no tax was leviable either for giver or receiver.

The clarification, issued following a story in Mint on 17 May, also stated that the process for renewal had been started well before the certificate had lapsed.

"Pending completion of certification procedure, the efiling facility for AY (assessment year) 201011 has been temporarily suspended. This will not affect taxpayers in any way, as the earliest incometax return for AY 201011 falls due on 31 July 2010. The facility is expected to be renewed very shortly," the press release said.

Interestingly, the release added that "the efiling portal of the incometax department remains fully secure, and lapse of the security certificate does not mean that its security features are slackened or compromised".

A senior official from Entrust, the agency that issued the security certificate to the IT department, on Monday said the renewal procedure had been concluded.

A security certificate guarantees the authenticity of a website and ensures that all transactions are encrypted and, hence, secure.

Mint had earlier reported that due to the lapse of the security certificate, filing tax returns online could be risky as it could potentially compromise confidential information of tax assessees.

Companies that managed to show profits by wiping off underwriting losses with investment income during 2008-09 include United India Insurance, Oriental Insurance, New India Assurance and National Insurance as well as a couple of private insurers including ICICI Lombard. Underwriting losses refer to losses arising out of pure general insurance business. Investment income, on the other hand, is the income from investments made in the debt and equities market.

For example, the four general insurers registered a total underwriting loss of Rs 4,227 crore during 2008-09. They also registered a gross investment income of Rs 4,800 crore in the same period and managed a net profit of Rs 498 crore. With capital gains tax of 32.2%, which includes a 30% base tax as well as a 7.5% surcharge on the base rate, plus 3% of the base tax added to the surcharge, such profits are likely to be wiped off. General insurers now need to show larger investment incomes and reduce their underwriting losses.

"Till last year, there was actually no clarity on payment of taxes for capital gains realised by general insurers. Till 1988, capital gains used to be taxed when there was only one entity--General Insurance Corporation, under which, United India, Oriental Insurance, New India Assurance, National Insurance were subsidiaries. But, the tax was later withdrawn. Subsequently, the four general insurers were spun off into separate independent companies and they used to follow the rule where no tax was required to be paid. The Income-Tax department challenged this logic and the issue became sub-judice. Last year, the government issued a clarification, which made such income taxable," said Bajaj Allianz General Insurance chief financial officer S Srinivasan.

He added: "Tax, at the rate of 32.2% on income earned, will eat into the profits of investment income and reduce net profits to that extent. Tax will be applicable on all investment income made this year and subsequent years."

The transaction value of warrants, preference shares and other such instruments transferred to another individual or a company will now have to be certified by a category-I merchant banker according to CBDT's new fair market value (FMV) norms for gifts.

"Valuation rules have now been prescribed for gifts or properties, other than immovable properties," said Vikas Vasal, partner, KPMG. "Accordingly, all gifts of jewellery, art etc post October 1, 2009 would have to valued and taxed in line with the new rules. Tax will have to be paid now, if not deposited in advance on an ad hoc/estimated basis."

Gifts from a relative for a marriage, under will or by way of inheritance, from any local authority, or from any fund or trust is exempted from tax. Spouses, siblings, and any lineal ascendant or descendant are defined as relatives under the Income-Tax Act.

The government had amended Section 56 of the Income Tax Act in 2009 to bring to tax the difference between the FMV of a property and the actual money paid by the recipient of such property, in cases where it was acquired free or for a low amount. The rules for computing FMV other than property were pending.

According to the latest notification, the FMV of jewellery, archeological collections, drawings, paintings, sculptures or works of art shall be the price which they would would fetch if sold in the open market on the valuation date. For jewellery or artistic works bought on the valuation date from a registered dealer, its invoice shall be the FMV. If jewellery or art is received by any other mode and its the value exceeds Rs 50,000, the taxpayer will have to get the report of a registered valuer regarding the price it would fetch if sold in the open market on the valuation date.

For shares and securities of listed companies, the FMV will be that recorded on any reconised stock exchange. If these quoted shares and securities are transacted other than through recognised stock exchanges, their FMV shall be their lowest price quoted on the exchange on the valuation date. In the case of unlisted shares, book value will be the benchmark.

Tax experts say the guidelines are quite fair. "The guidelines are quite reasonable for taxpayers. There was apprehension that the guidelines for shares would be very agressive but they are actually quite conservative," said Anurag Jain, BMR Advisors.

The FMV for unquoted shares (warrants, preference shares) and securities other than equity shares in a company that are not listed in any recognised stock exchange shall be the price it would fetch if sold in the open market on the valuation date for which a taxpayer will have to obtain a report from a merchant banker or an accountant.

However, administrative convenience made collection of taxes in the hands of the company more elegant. Successive governments have flip-flopped on whether to tax dividends in the hands of the shareholder or the company. The arguments are strong for both.

Add to this an argument on double taxation of the same income arising out of the dividend distribution tax (DDT). Corporates believe that DDT leads to double taxation of the same income. Dividends are nothing but a distribution of profits of the company that have already suffered corporate taxes. They believe that the same profit should not be taxed twice, once in the hands of the corporate and again in the form of DDT, when it gets distributed to shareholders.

The revenue department believes a company has a distinct identity from its shareholders. The company pays corporate taxes on its income. Once it is paid to the shareholder as dividend, it is the income of the shareholder and it enters a different passage.

A debate is on and both the arguments are valid. Various countries have approached this subject differently and there is no common view on this.

I personally think that dividend should be taxed in the hands of the shareholder. The present system of taxing dividend in the hands of the company is unfair to small shareholders.

A company's ability to pay higher dividend is restricted as it shares the burden of the DDT. Even though the company pays DDT, all shareholders, irrespective of their economic status, share the burden. The small shareholder whose income (including the dividend income) is within the exemption limit shares the burden of DDT in the same proportion as a large shareholder. At the same time, a large shareholder gets a huge amount ofdividend ; tax-free, without the need to pay higher taxes even though he is in a higher slab of income for taxation purpose. This is a big inequity in law and requires correction.

The collection of taxes from individual shareholders makes it highly inconvenient to the revenue department. But, to bring in equity in law, there is a strong case for taxing dividendsin the hands of the shareholder. The via media would be to exempt dividend in the hands of the small shareholder. Shareholders receiving dividends up to, say, Rs 1 lakh can be exempt from dividend tax. For all the other shareholders, the dividend should be taxed at the normal rate of taxes depending on the individual tax slab. This will ensure fairness to the small shareholder while, at the same time, make thecollection of taxes easier for the revenue.

India is a developing country and there is a huge disparity in incomes between the rich and the poor. The government requires a huge amount of money to fund its social programmes and to bring in equity in growth across rural and urban sectors of the economy. The present system of tax-free dividendsin the hands of high-income individuals will only increase the income disparity and would be seen as inequitable in law by small shareholders.

Dividend distribution tax is against vertical and horizontal equity.

The principle of equity suggests that income from all sources should be treated equally. Hence, dividend should be taxed in the hands of the investor according to the size of her income.

It is argued that since the profits of companies are already taxed, taxation of dividend in the hands of investors amounts to double taxation. Therefore, under Section 80L of the Income-Tax Act, the government had initially partially-exempted taxation ofdividend income of individuals. For inter-corporate dividends, this was done by deduction of a fraction of the dividend received by a company from another company.

All this manoeuvring was done to have an integration of personal and corporate income tax. In the past, the Indian Income-Tax Act, 1922, provided for this integration by `grossing up' thedividend received by a shareholder with the tax paid by the company before it was taxed in the hands of the recipient. This system was in operation till 1959 when it was given up as grossing up created problems due to a wide variation in effective tax rates on companies due to the prevalence of numerous concessions and rebates. Hence, the system ofdividend taxation was introduced.

In 1997, all dividends were exempted from taxation and the dividend tax was replaced by dividend distribution tax (DDT) at the rate of 10%, which now stands at 15%.

The integration of personal and corporate income taxes through DDT has been achieved at a huge cost to vertical and horizontal equity. It seeks to mitigate the ill-effects but, in an inept way as DDT, is not a withholding tax to be credited toshareholders but takes on the character of another impost on the corporate sector that discourages dividend distribution.

Under DDT, all shareholders, irrespective of their incomes, are treated equally; shareholders who belong to the no-tax or low-tax category are penalised, while those belonging to the top brackets are taxed lightly. Thus, the benefit ofdividend exemption goes largely to the wealthy taxpayers.

With taxes of various kinds levied on companies, it is not easy to make out the incidence of tax on foreign investors as all the taxes are not possibly covered under the double tax treaties.

The argument of double taxation for dividend tax loses force in view of the fact that the effective rate of tax suffered by companies is much lower than the statutory rate. The dividends distributed out of their profits go untaxed, except for the DDT. By an amendment in the Income-Tax Act in 2005, companies operating in the special economic zones will not be required to pay tax, not even the DDT.