Kuntal Dave, CA Budget 2007 – Income Tax proposals affecting non-residents Court proposes, Government disposes Date: March 5, 2007 Venue: SNDT Hall, Mumbai Group Chairman: Porus Kaka Group Leader: Kuntal Dave

Kuntal Dave, CA Contents Rate of tax (surcharge and education cess) Definition of ‘India’ (section 2(25A)) Explanation to section 9 Exemption for the Interest from banks (u/s 10(15)(iv)) Income for venture capital company (u/s 10 (23FB)) MAT for units covered u/s 10A or 10B Time limit for completion of assessment by TPO Procedure to be adopted by A.O. for consideration of the order of TPO Distribution tax on income distributed on units of Mutual Funds u/s 115R Appeal against TDS u/s 195

Kuntal Dave, CA Definition of ‘India’ Section 2(25A) Before Amendment –India shall be deemed to include the Union territories of Dadra and Nagar Haveli, Goa, Daman and Diu, and Pondicherry, as respects any period, for the purposes of section 6 ; and as respects any period included in the previous year, for the purposes of making any assessment for the assessment year commencing on the 1st day of April, 1963, or for any subsequent Year After Amendment (effective 25 Aug 1976) –India means the territory of India as referred to in article 1 of the constitution, its territorial waters, seabed and subsoil underlying such waters, continental shelf, exclusive economic zone or any other maritime zone as refereed to in the territorial waters, continental Shelf, exclusive economic zone and other maritime zone act, 1976, and the air space above its territory and territorial waters.

Kuntal Dave, CA General Definition (under treaty) The term India means the territory of India and includes the territorial sea and the air space above it, as well as any other maritime zone in which India has sovereign rights, other rights and jurisdictions, according to the Indian law and in accordance with international law An attempt to disregard order of HC – retrospective amendment Definition of ‘India’ Section 2(25A) – cont’d

Kuntal Dave, CA Explanation to section 9 Income deemed to accrue or arise in India ●Before Amendment Retrospective amendment (from 1 st June, 1976) has been proposed by inserting an explanation in Section 9 so as to tax income in the nature of interest, royalty and technical services earned in India by a Non-Resident, whether or not he has residence or place of business or business connection in India. Under the existing provisions of section 9, income earned by a Non - Resident in the nature of interest, royalty and technical services are subject to tax in India under the 'Source Rule'. ●After Amendment

Kuntal Dave, CA Explanation to section 9 – cont’d Income deemed to accrue or arise in India ●Rationale for amendment – as explained Source rule Courts have misunderstood Interest, royalty and fees for technical services at par

Kuntal Dave, CA Consortium was established Turnkey Project Setting up a Liquefied natural gas receiving storage and degasification facility Role and responsibility of consortium member separately specified Separate payments specified To develop, design, reengineer and procure equipment/ material / supplies. To erect and constitute storage tanks Marine facility for transmission & supply of LNG to purchaser To test and commission the facilities relating to receipt and unloading, storage and re-gasification of LNG To send out re-gasified LNG Explanation to section 9 – cont’d Background for proposed amendment

Kuntal Dave, CA Description of scopeIn Indian rupeesIn US Dollars Offshore supplyNil81,711,877 Offshore servicesNil19,756,225 Onshore supply ***1,869,978,658Nil Onshore services ***1,774,353,28212,780,467 Construction and erection ***3,958,464,38436,795,623 Total *** - not a subject matter before AAR 7,602,796,324151,044,192 Explanation to section 9 – cont’d

Kuntal Dave, CA Explanation to section 9 – cont’d Advance Authority Rulings - propositions ScenarioTaxability in India Sale of goods simpliciter No income accrue or arise in India Not taxable Sale of goods as a part of composite contract involving various operations within and outside India If it accrues or arises in India taxable Business of which all operations are not carried out in India Income attributable to part of operation carried out in India taxable Business connection in India or/and whether all operations of the business are not carried out in India Depends on the facts of the case

Kuntal Dave, CA Business connection in India No profits accrue in India, when the sale of goods takes place outside India Composite contract providing consideration for various obligations to be performed and few operations were performed by or through business connection profits would be deemed to have accrued in India Property in the goods passed outside India PE existed in India Findings by AAR Explanation to section 9 – cont’d

Kuntal Dave, CA Explanation to section 9 – cont’d Advance Authority Rulings Description of scopetaxabilityAmount subject to tax Offshore supplyTaxableProfit attributable to the operations Offshore servicesTaxable20 per cent on gross basis Onshore supply ***N A Onshore services ***N A Construction and erection ***N A

Kuntal Dave, CA Explanation to section 9 – cont’d Before SC – Department’s contentions Composition of contract – based on facts (linkeage with onshore activities, dominant objective, point of time and place where title of goods not relevant) All the activities were to ensure completion of entire contract Breach would result for the entire contract and not just the particular obligation Turnkey project shall be PE Business connection in India and offshore supply/services interlinked with the entire project DTAA facilitates the allocation of income amongst the jurisdiction Offshore supply/services attributable to turnkey project and taxable in terms of article 7

Kuntal Dave, CA Explanation to section 9 – cont’d Before SC – Appellant’s contention Payments in US$, title of the goods passed on outside India and services rendered outside India Contact important and not where was it signed (converse situation) Consideration was not for construction or like project Fees effectively connected to contract but not attributable to PE Scope of 5(2) – income accrues or arises or deemed to accrue or arise in India or received or deemed to be received No part of income received in India All operations in connection with offshore supply carried outside India No consideration for certain services (like unloading, port clearance, etc.) Activities in India were independent of offshore services DTAA – no tax in India on offshore supply

Kuntal Dave, CA Explanation to section 9 – cont’d Income attributable to operations carried out in India No tax in India – all parts of the transactions outside India Territorial jurisdiction to be followed Contract where signed not important PE is different from Business connection As per Explanation 1(a) to S. 9(1)(i) only such part of the income as is attributable to the operations carried out in India, are taxable in India. Permanent establishment does not constitute sufficient 'business connection', and the permanent establishment would be the taxable entity. There is a difference between the existence of a business connection and the income accruing or arising out of such business connection. Involvement of PE is important for attributing profits SC - Offshore supply

Kuntal Dave, CA Sufficient territorial nexus between the rendition of services and territorial limits of India is necessary to make the income taxable. The entire contract would not be attributable to the operations in India Act not wide import to include the income received by non-resident outside India for the services rendered outside India ‘Residence’ qua the tax payer and not the recipient of the services Services to be utilized within India and must be rendered in India The terms 'effectively connected' and 'attributable to' are to be construed differently even if the offshore services and the permanent establishment were connected SC - Offshore services Explanation to section 9 – cont’d

Kuntal Dave, CA Section 9(1)(vii)(c) of the Act would not apply as there is nothing to show that the income derived by a non-resident company irrespective of where rendered, was utilized in India. No profit can be attributable to PE in India in terms of Article 7 Applying the principle of apportionment to composite transactions which have some operations in one territory and some in others, is essential to determine the taxability of various operations. The location of the source of income within India would not render sufficient nexus to tax the income from that source Distinction exists for connection between the Indian and foreign operations and apportionment of income The services are inextricably linked to the supply of goods, and it must be considered in the same manner SC - Offshore services Explanation to section 9 – cont’d

Kuntal Dave, CA SC - several observations independent of Section 9 Turnkey project would not mean that taxability of entire contract should be considered to be an integrated Specification of different supply of equipment and services points that liability of tax would be different Execution of contract in India would not make the entire income derived from the contract taxable in India. A contract must be construed keeping in view the intention of the parties Where different severable parts of the composite contract are performed in different places, the principle of apportionment can be applied to determine which fiscal jurisdiction can tax that particular part of the transaction Income that was attributable to the operations carried out in India would be taxable in India Territorial nexus doctrine upheld (entire income cannot be regarded as accruing or arising in each of jurisdictions) Explanation to section 9 – cont’d

Kuntal Dave, CA SC - several observations independent of Section 9 CBDT instructions of September 21, 1989 in case of hydro electric power project was upheld Principle of apportionment of is recognized under Act – goods manufactured and sold outside India?? 9(1)(vii)(c) – requires two conditions to be met (rendered in India as well as utilized in India) 9(1)(vii) must be read with section 5 Territorial nexus for the purpose of determining the tax liability is an internationally accepted principle Whatever is payable by a resident to a non-resident by way of fees for technical services would not always come within the purview of section 9(1)(vii) Agree to the view of Prof Klaus Vogel Explanation to section 9 – cont’d

Kuntal Dave, CA Issues Whether the proposed amendment would reverse the SC decision? Whether the proposed amendment can be regarded as unconstitutional? International Law on the suo motto amendment to the domestic law by a state (especially to such retrospective amendment) Explanation to section 9 – cont’d

Kuntal Dave, CA Exemption for the Interest from Banks Section 10(15)(iv) (fa) ●Amendment Consequential to amendment to section 36(1)(vii)

Kuntal Dave, CA Income for venture capital company Section 10 (23FB) oAny income of a Venture Capital Company or Venture Capital Fund, set up to raise funds for investments in Venture Capital undertaking is exempt from tax oVenture capital undertaking means a venture capital undertaking referred to in the Securities and Exchange Board of India (Venture Capital Funds) Regulations, 1996 made under the Securities and Exchange Board of India Act, 1992 and notified as such in the Official Gazette by the Board ●Before Amendment

Kuntal Dave, CA ●After Amendment oAny income of a Venture Capital Company or Venture Capital Fund, from investments in Venture Capital undertaking is exempt from tax oVenture capital undertaking means such domestic company whose shares are not listed in a recognised stock exchange in India and which is engaged in certain specified business or industries Income for venture capital company – cont’d Section 10 (23FB)

Kuntal Dave, CA ●Specified Business − Nanotechnology, − Information technology relating to hardware and software development, − Seed research and development, − Bio-technology, − Research and development of new chemical entities in the pharmaceutical sector, − Production of bio-fuels − Building operating composite hotel-cum convention centre with seating capacity of more than three thousand. ●Specified Industries −Dairy −poultry Income for venture capital company – cont’d Section 10 (23FB)

Kuntal Dave, CA Set up to raise funds for investments v/s from investments Definition of VCU –‘Deserving sectors’ –SEBI (VCF) Regulations and role of VC industry internationally –Earlier proviso to cl (b) to sub-section (1) to 112 Income for venture capital company – cont’d Section 10 (23FB)

Kuntal Dave, CA 10 (23F) and 10 (23FA) not to apply to investments made after 31 March 99/00 What about the income arising to VCC for investments made prior to 31 March 07 or from other business/industry? What if VCU changes the business? Income arising after VCU get listed? Whether it will make any difference to the tax incidence, after proposed amendment? Income for venture capital company – cont’d Section 10 (23FB)

Kuntal Dave, CA Income for venture capital company – cont’d Section 10 (23FB)

Kuntal Dave, CA Income for venture capital company – cont’d Section 10 (23FB)

Kuntal Dave, CA MAT for units covered u/s 10A or 10B Section 115JB For the purposes of section 115JB, book profit means −the net profit as shown in the profit and loss account for the relevant previous year prepared under sub-section (2), as increased by −the amount or amounts of expenditure relatable to any income to which section 10[(other than the provisions contained in clause (23G) thereof)] or section 10A or section 10B or section 11 or section 12 apply [explanation (f) ]section 10section 10Asection 10Bsection 11 section 12 ●Before Amendment ●After Amendment ●Income to be included in book profit for the purpose of MAT Change of domestic law by the state – Foreign Company can take shelter of international law?

Kuntal Dave, CA Time limit for completion of assessment by TPO and role of AO Section 92CA (4) oTPO to arrive at ALP – no time limit prescribed oWhere an arms length price is determined by the Assessing Officer under sub-section (3), the Assessing Officer may compute the total income of the assessee having regard to the arms length price so determined ●Before Amendment oTPO to arrive at ALP – time limit prescribed oWhere an arms length price is determined by the Assessing Officer under sub-section (3), the Assessing Officer may compute the total income of the assessee in conformity with the arms length price so determined ●After Amendment

Kuntal Dave, CA Time limit for completion of assessment by TPO and role of AO Section 92CA (4) oAssessee deprived of dual opportunity of substantiating the transfer price oDecision of Delhi HC in the case of Sony India – will it make department’s case weak now? oPractical difficulties (to facilitate the completion of assessment during the month of October) ●Issues

Kuntal Dave, CA Distribution tax on income distributed on units of Mutual Funds Section 115R Income DistributorRate of distribution tax Money market Mutual Fund / liquid fund Existing rateProposed rate Recipient – Individual/HUF Others Other Mutual fund Existing rateProposed rate Recipient – Individual/HUF Others

Kuntal Dave, CA Distribution tax on income distributed on units of Mutual Funds Section 115R SEBI (MF) Regulations Whether amendment to the proviso to section 10(35) necessary? Information to the investors?

Kuntal Dave, CA Appeal against TDS Under Section 195 −Any person after deducting and making the payment of tax in accordance with the provision of section 195 and 200 is eligible to make appeal to the CIT (A) challenging such liability to deduct tax at source. −In such situation the person making the payment (the deductor) shall claim claim the refund of tax deducted and paid by him in addition to the Non -Resident from whose income the tax has been deducted as such. ●Before Amendment −where under an agreement or other arrangement, the tax deductible on any income, other than interest, under section 195 is to be borne by the person by whom the income is payable, and −such person having paid such tax to the credit of the Central Government, claims that no tax was required to be deducted on such income, he may appeal to the Commissioner (Appeals) for a declaration that no tax was deductible on such income ●After Amendment

Kuntal Dave, CA Issues –Appeal only when the tax has been paid by the person – will it cover TDS? –Appeal within 30 days from the date of payment of tax – practical difficulties for a non-resident, especially in case of TDS? –Time limit for disposal of application u/s 195(2)/(3)? Appeal against TDS Under Section 195

Kuntal Dave, CA Thank You