MAT concerns put to rest for now and DTC proposes a new anti tax avoidance plan
The Government of India released the much awaited revised discussion paper on the Direct Taxes Code (DTC) on 15 June 2010 for public comments. The revised discussion paper has given due consideration to the
concerns expressed by the business communities and has addressed 11 major issues.
MAT – book profit ‘IN’ gross assets ‘OUT’
One of the major areas of concern expressed was the Minimum Alternate Tax (MAT) for corporates based on gross assets rather than on book profits, with no eligibility to carry forward such tax credit. In an attempt to expand the tax base, the original DTC (of August 2009) proposed to introduce a new form of MAT on gross assets. However, in light of the concerns raised by the business community, the revised discussion paper proposes that the current approach of levying MAT, with reference to book profits, would continue. This would have the corporates breath a huge sigh of relief. Levying of MAT based on gross assets would have largely impacted, among others, loss making companies, non-banking financial companies, insurance companies, capital intensive companies and companies with a long gestation period. Importantly, this would remove the anomaly between the services sector and the manufacturing sector, as the services sector tends to use much lesser assets, in contrast to the manufacturing and infrastructure sectors. The rate for MAT has not been announced. Hopefully, the MAT rate would be calibrated accordingly and reduced from the present rate of 18 percent (plus surcharge and education cess).
Wealth tax – back on track
The original DTC proposed to levy wealth tax on the net wealth (all assets less debt owned in respect of such assets) of individuals, hindu undivided families and private discretionary trusts. The assets part of net wealth would include financial assets (investment in shares, fixed deposits) and productive assets (business assets). Wealth tax would be levied on net wealth in excess of INR 50 crores at 0.25 percent. Now, the revised discussion paper proposes to levy wealth tax broadly on the same lines as in the present regime rather than as proposed in the original DTC. In light of the above, only the specified unproductive assets would be subject to wealth tax while the threshold limit and the tax rate would be suitably modified in the context of overall tax rates. Further, the levy of wealth tax has been extended to all taxpayers (except non-profit organisations). Accordingly, the corporates would continue to be subject to wealth tax on certain assets such as motor cars.
Good and Bad for SEZs
The current Income-tax law provides for certain area-based tax incentives. A tax holiday for 15 years is available to units set-up in a Special Economic Zone (SEZ) subject to fulfiling of prescribed conditions. The original DTC provided for grandfathering of tax incentives (i.e. protection for the unexpired period of tax holiday) for a SEZ developer, while they were silent for the SEZ units. In the revised discussion draft, the interests of SEZ units have been protected. The tax holiday would be available to SEZ units, which are set-up prior to coming into force of the DTC, which should be 1 April 2011. Further, there were some expectations that the Government would re-think on its earlier proposal of discontinuing tax holiday for new SEZs set-up under the DTC. However, the government has reiterated its earlier position and such SEZs would not be eligible for a tax holiday. This could adversely impact the level of activity in SEZs.
GAAR to continue, but some relief provided
The DTC proposes to introduce for the first time in India General Anti Avoidance Rules (GAAR) to serve as an effective deterrent and compliance tool against tax avoidance. GAAR has the effect of invalidating an arrangement that has been entered into by a taxpayer with the main objective of obtaining a tax benefit and subject to certain conditions. In framing such a legislation, which is sufficiently all-embracing to deter tax avoidance, there is always a danger of penalising those who have entered into a bonafide transaction.
The revised discussion paper proposes to bring in legislative and administrative safeguards to avoid arbitrary application of GAAR. A threshold limit of tax amount would be prescribed for cases wherein GAAR could be invoked. Further, guidelines would be issued to outline circumstances in which GAAR may be invoked. It would be appropriate for the guidelines to broadly be in line with the settled law based on judicial precedents with regard to tax avoidance. Additionally, in case GAAR provisions are invoked, the taxpayer has been granted the liberty to approach the Dispute Resolution Panel which would speed-up the dispute resolution process for the taxpayer.
Residency rule revisited
For determination of the residential status of a foreign company, the original DTC provided that a foreign company shall be treated as resident in India if partial control and management is in India for even part of a year. This is an extremely low threshold and if triggered would lead to taxation of the global income of such foreign company in India. In the revised discussion paper, as a welcome step, this threshold has been raised and the internationally accepted principle of place of effective management has been adopted as the criteria for determination of the residential status of foreign companies.
CFC rule comes into play
A significant proposal, which was not part of the DTC released in August 2009 is the introduction of Controlled Foreign Corporation (CFC) regulations. Such legislation is prevalent in certain developed economies and these regulations would have implications for the Indian companies having operations/ presence in overseas jurisdictions. CFC regulations impact the taxability of passive income (royalty, interest, dividend) and typically, such regulations propose to tax passive income of a foreign company, which is controlled by a resident in India, as dividend received in the hands of the resident shareholder in cases where such income is not distributed to its shareholders. Accordingly, the CFC regulations eliminate deferral of taxes till the stage of actual distribution of dividend. The Indian corporates would need to evaluate the impact of the CFC regulations once the fine print is available, which should also throw light on availability of tax credit.
In an important proposal potentially impacting all non-residents doing business in/ with India, the government has decided to continue with the current position of Double Taxation Avoidance Agreements (DTAA) having preferential status over the domestic tax laws. However, in the following situations, the DTAAs would not enjoy such preferential status:
- When GAAR is invoked.
- When CFC regulations is invoked.
- When branch profits tax is levied.
This is certainly a positive move by the government for the foreign investors, as the certainty and stability that DTAAs bring to international taxation get disturbed and to some extent undermined, if domestic legislation introduces a blanket treaty override provisions. A blanket treaty override provision would have dampened the sentiment of foreign investors and would have adversely impacted foreign direct investment into India.
Even though the government has indicated that the tax slabs, tax rates, will be suitably calibrated, the efforts of the government has been commendable and encouraging and the revised discussion paper addresses certain major concerns raised. In light of the revised discussion paper, the businesses would need to assess the impact of the above proposals on their current structures and business models.
Prashant Bhojwani
Prashant Bhojwani is a Senior Tax Professional with Ernst & Young.
To write to the author, please send an email to dare@cybermedia.co.in with the subject line 'Prashant Bhojwani'.
Disclaimer: The views expressed here are that of the author and do not represent the magazine's.
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written by discount omega watches, December 10, 2010
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