Everything you need to know as a CFO about: The Indian Tax System

The Indian tax system is often a headache for foreign CFOs with offices in the country. Nevertheless, the Indian tax system has undergone significant reforms in recent years and the paying taxes has become has become a lot clearer and easier. Here is what every foreign CFO should know about the Indian tax system.

Direct and indirect taxes

There are two types of taxes in India: direct taxes and indirect taxes. Direct taxes are levied on the income earned by companies or individuals in a financial year. The income tax paid by individual taxpayers is the Personal Income Tax (PIT). Individuals are taxed based on tax brackets at different rates. The income tax paid by domestic companies and foreign companies on their income in India is the Corporate Income Tax (CIT). The CIT has a specific rate as stipulated in the Indian Income Tax Act.

As the name suggests, indirect tax is not imposed directly on the taxpayer. Instead, this tax is levied on goods and services. Some examples of indirect taxes in India are the Central Excise and Customs Duty, and Value Added Tax (VAT). One of the most important indirect taxes is the Goods and Services Tax (GST), read all about it here.

Corporate Income Tax

In India, both domestic and foreign companies have to pay corporate income tax. According to the Indian Income Tax Act, you are a domestic company if you have a registered office or head office in India. A subsidiary company also falls under this category. You will be assessed as a foreign company if you have a branch office, project office or permanent establishment in India. While a domestic company is taxed on its universal income in India, a foreign company is taxed only on the income made in India. This sounds more advantageous, but it is not always the case. 

Corporate Income Tax - Domestic Enterprises

The rate of Corporate Income Tax (CIT) applicable to a domestic company for the financial year 2020-21 is as follows: 

Articles 115BAA and 115BAB

In September 2019, the Government of India added a new section, 115BAA, to the existing Income Tax Act, 1961. This section offers domestic companies a reduced corporate tax rate from the 2019-2020 financial year (AY 2020-21) onwards, if these domestic companies meet certain conditions. The tax rate will then no longer be 25 or 30 per cent, but 22 per cent. 

What are the terms of Articles 115BAA and 115BAB?

Firstly, domestic companies must not already be using other exemptions or incentives to qualify for deduction under 115BAA. Therefore, the total income of such companies must be calculated without: 

• Claiming any deduction specifically available to units located in special economic zones (Section 10AA).

• Request for additional depreciation under Article 32

• Allowance for investments in new plants and machinery in designated backward areas of the States of Andhra, Pradesh, Bihar, Telangana and West Bengal under Article 32 AD. 

• Deduction under Article 33AB for tea, coffee and rubber factories.

• Claiming deductions under Section 33ABA for deposits made into land rehabilitation funds by companies engaged in the extraction or production of petroleum, natural gas or both in India.

• Applying for Article 35 deductions for scientific research.

• Claiming deductions for the capital expenditure of specific farms under Section 35 of the Agriculture Act.

• Article 35CCC - Expenditure on agricultural information projects.

• Article 35CCD - Expenditure on a skills development project.

• Claims for deduction under Chapter VI-A (80IA, 80IAB, 80IAC, 80IB, etc.) are not allowed, but deduction under Section 80JJAA is exempted. Section 80JJAA allows an employer to claim part of the salary of new employees through tax. 

• Claiming set-off of any losses carried forward from previous years, if such losses were incurred in relation to the above deductions. 

The conditions for 115BAB are:

• The company was incorporated and registered after 1 October 2019. 

• Production starts before 1 April 2023

• The company shall be engaged in the manufacture or production of any article or product, and/or research relating to such product. The company may also engage in the distribution of the article or product produced by them. 

• The company may not invoke this condition if it is formed by splitting or reconstructing a pre-existing company within the meaning of Article 33B.

• The company cannot apply this condition if it is using a plant or machinery which has been used for any purpose previously. Used imported machinery is allowed if such machinery has never been installed in India and depreciation of such machinery has never been claimed in India.  

Please note!

It is extremely important that companies are certain that they will be better off by opting for the lower tax rate of 115BAA before they actually take that step, because once a company takes advantage of the reduction, it must be continued in subsequent tax years. Since there is no time limit in which the option under section 115BAA can be exercised, it is better to take your time and find out how much benefit other exemptions and incentives can bring to the company. Subsequently, 115BAA can always be opted for, but note that once it is exercised, it must be continued.

Corporate Income Tax - Foreign Corporations

As explained earlier, if you have a branch office, project office or permanent establishment in India, you will be taxed as a foreign company. While a domestic company is taxed on its universal income in India, a foreign company is taxed only on the income earned in India.

The rate of Corporate Income Tax (CIT) applicable to a foreign company for the financial year 2020-21 is as follows: 

These tariffs are higher than the tariffs for domestic companies and you, as a foreign company, cannot claim tariff reductions like the 115BAA either. If you are just starting out in India and your turnover is still low, these high tariffs are manageable. But once you start growing, it is advisable to set up your own entity in India so that you can take advantage of the favourable tax rates for domestic companies. 

Filing your income tax return

Normally, all companies, including foreign companies, must file their income tax returns on or before 30 October each year. Even if the company is incorporated in the same financial year, income tax returns must be filed for the period before 30 October. In addition, companies that have a turnover, profit or gross receipts of more than INR 10 million or about EUR 110,000 are required to have an audit carried out. This audit report must be submitted to the Indian Tax Department along with the income tax return. The audit report should be submitted annually by September 30, if the rule is applicable to your company.

A guide for CFOs in India

Doing business in India can be challenging, especially because the government processes require a lot of time and energy. That is why consultancy firm IndiaConnected wants to offer you insight into the fiscal and financial system every CFO in India has to deal with. From obtaining all necessary documents for your first export from the Netherlands to taking care of the entire back-office of your Indian entity, so you can always fully focus on your activities in India.

Why the pandemic made India the world's most popular manufacturing location

The COVID-19 outbreak confronted the world with its dependence on China for the production of all kinds of goods. Consequently, newspapers have recently been full of reports of big names moving production to India, or opting for a second location in India. Apple and Samsung opened their Indian factories in August 2020, and pharma giant Johnson and Johnson is moving its operations from China to India. But what makes India such an attractive location to manufacture?

India offers low production and labour costs and a large pool of well-trained workers

Production hub India offers foreign companies interesting advantages. For instance, production and labour costs are still low, but the country's rapid technological development ensures that the quality of production meets high European standards. This was also an important reason for the Amersfoort-based supplier of castings and forgings, Prins, to stop producing exclusively in China after 23 years. "China became too expensive in some areas, for example, the hourly wage has risen considerably in recent years. In India, we found competitive prices and an extensive choice of production methods," Erik Sattler, the CTO of Prins, told us in an interview about setting up their Indian production branch. "On top of that, India is more accessible because of the language, everyone in India speaks English. The lines of communication are short because of this; I am in contact with our suppliers simply via Whatsapp."

Tax breaks and subsidies for those who produce in India

The Indian government is working hard to create a favourable business environment. Cheap land for industrial use is being freed up on a large scale and the country's infrastructure is being improved considerably. An example of this is the successful commissioning of the first double-stack container train by Indian Railways. In addition, the Indian government introduced a lot of favourable financial incentives for companies manufacturing in India. A few of these initiatives are listed below: 

• The corporate tax rate has been reduced from 30% to around 25%. India's corporate tax rate is now the lowest in Southeast Asia.

• Introduction of initiatives like 'Make in India' and 'Skill in India'. These programmes focus on creating employment in the manufacturing sector. Moreover, they also focus on improving skill development to create a large pool of skilled labour.

• The rules for land acquisition have been relaxed.

• Companies and limited liability companies benefit from various relaxations in the Companies Act 2013 and LLP Act 2008.

• Income tax, GST and customs exemptions came in when Lockdown was lifted.

"Opening a factory in India also offers the possibility of winning large government contracts," says Maarten Durville, director of the Indian factory of aircraft component builder Fokker Elmo. "We work a lot with Boeing, for example, and they would like to sell their Super Hornet Fighter to the Indian government. But the Indian government will only make such a large purchase on condition that the company also does something in return for the country. In this case, Boeing can show that through our cooperation it creates jobs in India and thus win a place at the negotiating table."

The Do's and Dont's of setting up production in India

Apart from all the advantages of a manufacturing location in India, there are always a lot of things to consider when starting out in India. We discussed the smartest strategies during our last webinar on manufacturing in India. The COO of Maier+Vidorno, IndiaConnected's partner in India, Shavikesh Goel shared his key tips. Please find below the registration of the webinar:

New budget plans for India favour foreign investors

India managed to attract a whopping $81.7 billion in foreign direct investment, or FDI, last year, the highest amount the country has ever seen. But India still needs much more investment, and so the government has an ambitious budget for the coming year, focusing on a major upgrade of India's infrastructure, the transition to a digital economy and clean energy, and making it easier and more profitable for foreign investors to do business. 

Key proposals

These are some of the key proposals in the new budget that will affect how foreign investors and companies do business in India:

Taxes

1. No change in tax rates for companies

The income tax rates (including surcharge and cess) for companies (domestic and foreign), corporations and limited liability companies remain unchanged, including the rates for the Minimum Alternate Tax (MAT) and the Alternate Minimum Tax (AMT).

2. Repeal of favourable tax rate on dividends received from foreign subsidiaries

Currently, dividends received by Indian companies from their investments in foreign companies are taxable at a reduced rate of 15%. Moreover, under certain conditions, these companies can avail of a special tax deduction if the foreign dividend received is further distributed. Under the new budget plans, this favourable tax rate of 15% will be abolished and the foreign dividend received will be taxed at the ordinary corporate tax rates. The deduction for further distributions remains.

3. Tax benefits for producers and start-ups

Newly established manufacturing companies and factories can benefit from the preferential tax rate of 15 per cent (plus surcharge and cess) for one more year. The scheme will be extended until 31 March 2024. Start-ups that qualify for the so-called tax holiday benefits can also avail of them for one more year, until March 31, 2023.

4. Submission of updated tax returns 

Previously, no changes could be made to a submitted income tax return, but with the new budget, this changes. To encourage voluntary tax compliance and filing of returns, taxpayers can file an updated tax return within three years of the end of the tax year, provided they pay additional taxes on undisclosed income. However, an updated tax return cannot be filed if it leads to a reduction in tax liability, a tax refund or an increase in the refund. 

5. Changes in withholding tax

Under the Indian tax code, the value of any benefit or fringe benefit received by a taxpayer in the course of his business is taxable as business income. The Budget 2022, therefore, proposes the imposition of a 10% withholding tax on such benefits or favours, requiring the person paying or providing such benefits or favours to a resident of India to withhold such taxes.

6. International Financial Services Centre (IFSC)

In recent years, India has introduced various tax breaks for entities based in the IFSC to make it a global hub of the financial services industry. A tax exemption is now announced for non-resident income from offshore derivatives or over-the-counter derivatives issued by an offshore bank, income from royalties, and income from portfolio management services provided by the IFSC, subject to certain conditions.

7. Deadline for submitting the monthly GST declaration

The deadline for filing monthly GST returns by foreign companies is brought forward to the 13th of the month (previously it was the 20th).

8. Input tax credit (ITC)

Budget 2022 imposes additional restrictions on the application of the ITC under the GST laws, making taxpayers even more compliant. 

The Indian tax system can become a real headache without the right local help. IndiaConnected has therefore put together this guide, which provides insight into the complex tax and financial system every CFO in India has to deal with, and which we can support you with at all times. From obtaining all necessary documents for your first export from the Netherlands to taking care of the entire back-office of your Indian entity, so you can always fully focus on your activities in India.

Export

1. Less benefit on import duties and more focus on Make-in-India

The new budget announces a phased review and partial elimination of nearly 350 duty exemptions to encourage companies to set up a manufacturing plant in India.

2. Special Economic Zones (SEZ)

To promote exports from India, the Special Economic Zones Act is being replaced by a new legislation that will bring the states together as partners in 'Development of Enterprise and Service Hubs'. The aim of these hubs is to improve cooperation between all major existing and new SEZs, make the best use of available infrastructure and increase export competitiveness.

The number of SEZs in India will also increase substantially in the coming year, with almost 40% of the approved SEZs yet to become operational.

Interesting opportunities for international companies in India

Defence
In the new budget, 25% of the 66 billion dollar defence budget will be made available for R&D in this sector by companies, start-ups and academia, providing opportunities to international players with innovative solutions. In addition, this investment is expected to create exciting opportunities for manufacturers in this sector based in India. In 2020, India changed its regulations for FDI in the defence sector and now allows investments of up to 74 per cent. 

Healthcare
The Indian government is expanding the favourable tax regime for manufacturers in this sector, with the aim of stimulating, among other things, the production of pharmaceuticals and medical devices. It has also identified the pharmaceutical sector as one of the key growth sectors and is supporting the sector with favourable policy measures. However, in the budget it leaves out the R&D segment of this sector, which is a missed opportunity. 100 per cent FDI is allowed in almost all segments of the healthcare sector. 

Digitalisation and technology
India's new budget shows the ambition to move towards a digital society and economy. As a result, almost every sector (digital currency, infrastructure focuses on EVs, e-passport, etc) will get a digital boost, creating significant direct and indirect opportunities for start-ups and companies, such as software, hardware and service companies. In the technology sector, 100 per cent FDI is allowed.

The Indian government also aims to boost the country's data centres and energy storage systems, charging infrastructure and battery systems. It wants to build a world-class data centre ecosystem by attracting investments from domestic and international players, thereby boosting this sector.

Agriculture
One of the sectors where the government is trying to make a big push for development is agriculture. A new fund has been announced that will support start-ups that lease agricultural machinery to farmers and provide companies with innovative, digital solutions to make their operations more efficient. Innovative solutions are also being looked at: such as using drones to help farmers with land registration. In the agricultural sector, 100 per cent FDI is allowed.

Are you curious about the specific opportunities that exist in the Indian market for your company or sector? Our local experts are ready to answer your questions.