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· The classical system of corporate taxation
is followed.
· Domestic companies are permitted to deduct
dividends received from other domestic companies in certain cases.
· Inter Company transactions are honored if
negotiated at arm's length.
· Special provisions apply to venture funds
and venture capital companies.
· Long-term capital gains have lower tax
incidence.
· There is no concept of thin capitalization.
Liberal deductions are allowed for exports and
the setting up on new industrial undertakings under certain
circumstances.
· There are liberal deductions for setting up
enterprises engaged in developing, maintaining and operating new
infrastructure facilities and power-generating units.
· Business losses can be carried forward for
eight years, and unabsorbed depreciation can be carried
indefinitely. No carry back is allowed.
· Specula tax provisions apply to activities
carried on by nonresidents.
· A minimum alternative tax (MAT) on
corporations has been proposed by the Finance Bill 1996.
· Dividends, interest and long-term capital
gain income earned by an infrastructure fund or company from
investments in shares or long-term finance in enterprises carrying
on the business of developing, monitoring and operating specified
infrastructure facilities or in units of mutual funds involved with
the infrastructure of power sector is proposed to be tax exempt. |
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Corporations and shareholders
India follows the "classical" system:
companies are taxed at flat rates and dividends distributed are
included in the taxable income of shareholders. However, a domestic
company receiving dividends from another domestic company is entitled
to deduct the amount of dividends received to the extent of the
dividends it distributes to its own shareholders before the due date
for filing the return.
Individual shareholders are permitted to deduct
dividends received from Indian companies to a specified extent. Tax is
withheld from dividends distributed, and shareholders get full credit
for that amount against their tax liability, but they do not get
credit for the underlying corporate tax paid by the company. Residents
receiving dividends from foreign companies get credit for foreign tax
paid to the extent of the extent of the Indian tax on the doubly taxed
income, either unilaterally or under treaty.
Taxable entities
A "company" means an Indian company or
a corporate body incorporated by or under the laws of a foreign
country. A company is treated as resident if its is an Indian company
or if during the years the control and management of its affairs are
situated wholly in India.
Territoriality
A resident company is taxed on its worldwide
income. A nonresident company is taxed only on income that is received
in India, arises in India or is deemed to arise in India, subject,
however, to treaty provisions.
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The accounting period for tax purposes must end
on March 31.
Under the Indian Companies Act, accounting must
be on an accrual basis, and this is adopted for tax purposes.
Dividends are taxed in the year in which they are declared, and
capital gains are taxed in the year in which the capital asset is
transferred. However, certain deductions, such as statutory dues,
bonuses or commissions to employees, as well as interest on
borrowings from public financial institutions, are permitted only on
a cash basis (however, they are allowed if paid within the due date
for filing the return), and deductions for contributions to approved
retirements funds are permitted only on a cash basis and if they are
paid within the specified due dates applicable to the funds. I is
proposed under the Finance Bill 1996 that the rule for interest be
applied to scheduled banks as well.
Taxable profits are accounting profits as
modified by specific statutory provisions (e.g., adjustment for
nonallowable terms, allowances and losses carried forward).
Generally, intercompany transactions are
accorded the same tax treatment as transactions with unrelated
parties if they are negotiated at arm's length. However, note
should be taken of the following.
1. In cases of payments to specified related
parties, the assessing officer is empowered to disallow as much
thereof as is considered excessive or unreasonable with respect to
the fair market value, legitimate business needs and benefits
derived (there is no specific provision for corresponding
adjustment in the hands of the payee).
2. Where, due to close connection with
nonresident, the transaction produces less than ordinary profits
to the resident, the assessing officer can substitute reasonable
profits for the profits shown.
3. Where by design an income-producing asset
is transferred to a nonresident while the resident continues to
have power to enjoy the income or obtains the income in the guise
of a loan or repayment of a loan, the income in the guise of a
loan or repayment of a loan, the income may be taxed in the hands
of the transferor.
4. No capital gain or loss is recognized on
transfer of capital assets between a company and its 100 percent
subsidiary if the transferee is an Indian company, provided the
relationship continues for at least eight years.
5. The base for calculating depreciation
remains unchanged in the case of transfer of depreciable assets
between a company and its 100 percent subsidiary if the transferee
is an Indian company, irrespective of the actual transfer price.
6. Advances or loans given by a closely held
company to its shareholders are treated as dividends. A closely
held company is a private company, a company whose shares are not
lasted on any stock exchange in India or a company more than 50
percent (60 percent in the case of manufacturing companies) of
whose shares are beneficially held through out the year by other
closely held companies.
Any method of inventory valuation that
accords with sound commercial accounting principles can be
followed for tax purposes, provided it is adopted consistently at
the beginning and end of the accounting periods over the years.
Subjected to this general proposition, in practice inventory is
usually valued at (1) cost or (2) cost or market value, whichever
is lower. For deterrnining cost, FIFO or the average-cost methods
is used.
Reserves for obsolescence cannot be
deducted. Obsolete items are usually reflected by lower year-end
values where the valuation is at the lower of cost and market
value.
Gains arising on the transfer of capital
assets are subject to tax as capital gains. Capital assets
include property of any kind, but exclude personal effects other
than jewelry, inventories held for the purpose of business and
agricultural land situated more than eight kilometers from a
town with a population of 10,000 or more. Capital gains arising
from the transfer of depreciable assets that form part of a
"block of assets" are treated as short-term capital
gains and computed by deducting from the sale price the
following amounts.
1. Written-down value of the block of
assets at the beginning of the previous year.
2. Actual cost of assets falling within the particular block
that were acquired during the previous year.
Capital gains on other assets are computed
by deducting from the sale price the following amounts.
1. Actual cost of the asset.
2. Cost of improvements made to the asset.
3. Expenditure incurred in connection with the transfer.
While computing capital gains from the
transfer of shares and other specified securities held for more
than one year and other assets held for more than three years
(long-term capital gains), actual cost and cost of improvement
are to be increased by a specified inflation factor (with fair
market value on April 1, 1981 as the base if the asset was held
from before than date).
In calculating capital gains on shares and
debentures in Indian companies, nonresidents have the benefit of
protection against falls in the value of the rupee vis-à-vis
the foreign currency in which the asset was acquired. However,
in such cases, no indexation for inflation is available. Special
rules and rates apply for the computation of gains earned by
approved foreign institutional investors.
Short tem capital gains are taxed at the
same rate as other income. Long-term gains are taxed at 20
percent for individuals, 30 percent for domestic companies and
20 percent for non domestic (i.e., foreign) companies. However,
the rate is 10 percent on long-term capital gains from the
transfer of units of Indian mutual funds purchased in foreign
currency by specified overseas financial organizations and from
the transfer by non-residents of shares or bonds issued abroad
by Indian companies under approved schemes. Concessional tax
rates for computation of capital gains are applicable to
approved foreign institutional investors. Long -term capital
gains income of venture capital funds or venture capital
companies from the transfer of equity shares of venture capital
undertaking are wholly exempt from taxation.
No capital gains tax is assessed on the
transfer of assets between a parent company and its 100
percent-owned subsidiary, provided this relationship continues
for at least eight years from the date of transfer and the
capital asset is not converted by the transferee company as its
stock-in-trade (inventory) at the time of transfer. Also there
is no capital gains tax on transfers in cases of specified
amalgamations or when buildings, land, and plant and machinery
are sold upon the relocation of an industrial undertaking from
an urban to a nonurban area if the sale proceeds are reinvested
in similar assets in the new area within a specified period.
Furthermore, no capital gains tax is imposed on transfers abroad
by one nonresident to another of shares or bonds issued abroad
by Indian companies under specified schemes or on transfers of
shares in Indian companies by one foreign company to another in
an amalgamation if at least 25 percent of the shareholders of
the amalgamating company become shareholders of the amalgamated
company and the transfer is exempt from capital gains tax in
treatment of losses arising on transfer of capital assets.
Interest is taxable on an accrual basis.
In the absence of any thin-capitalization rule, interest is
never treated as dividends. Certain interest received by
nonresidents is exempt from tax, including the following.
1. Interest payable by industrial
undertakings in India on Borrowings from approved foreign
financial institutions.
2. Interest at approved rates on debts incurred in a foreign
country for the purchase outside India of raw materials or
machinery and equipment.
3. Interest on approved foreign currency loans from sources
outside India.
4. Interest payable by Indian financial institutions or banks
at approved rates on borrowing from foreign sources.
Any other interest from foreign borrowings
where the funds are utilized in a business in India is subject
to tax, which is withheld at rates shown in Appendix IV. A
lower tax rate of 10 percent applies to interest on bonds
issued abroad by Indian companies under approved schemes.
A domestic company receiving dividends
from another domestic company is entitled to deduct them when
computing its taxable income, to the extent covered by the
dividends it distributes to its own shareholders before the
due date for filing its return. Dividends received by foreign
companies from Indian companies are taxed at 20 percent or a
lower treaty rate. A lower tax rate of 10 percent applies to
dividends in certain cases. Dividends received by a venture
capital funds or company from venture capital undertakings are
wholly exempt from taxation.
Bonus shares (stock dividends) are not
taxed in the hands of the recipient shareholders.
Dividends-in-kind are virtually
unknown. If received, they are taxed like ordinary
dividends.
Royalties and fees for technical
services received by Indian companies from Indian concern
are taxable in full. Fifty percent of royalties and fees
for technical services received by Indian companies and
other residents in convertible foreign exchange from
foreign governments or foreign concerns are exempt from
tax.
Nontaxable income items that may be
received by companies include the following.
1. Interest on certain tax-free
bonds.
2. Agricultural income (but certain types are liable to
agricultural income tax levied by state governments).
3. Certain interest received by nonresidents.
5. Payments made by an Indian company engaged in the
business of operation of aircraft to a foreign enterprise
in order to acquire an aircraft of aircraft engine on
lease, provided the agreement is approved by the central
government.
6. Subsidies received by tea, rubber, coffee, and cardamom
companies from their boards for replantation, replacement,
rejuvenation, or consolidation.
7. Income of nonresident companies and nonresident news
agencies shooting cinermatographic films in India not
having an Indian shareholder or partner.
8. Profits of new industrial undertakings set upon
free-trade zones, Software / Hardware Technology Parks and
100 percent export-oriented undertakings for five
consecutive years during the first eight years.
It is proposed that interest income
on foreign currency loans to industrial undertakings
involved in the operation of ships or aircraft or in the
construction and operation of rail system also be
nontaxable.
For various other exemptions and full
and partial deductions applicable to certain activities
and circumstances, see "Capital gains" and
"Intercompany dividends" above and "Other
deductions" below.
Generally, all expenses are
deductible if they are laid out or expended wholly and
exclusively for the purpose of the business, provided
they are not of a capital nature or in the nature of
personal expenses. There are no territorial limits to
this rule (except the restriction on deduction of general
administrative expenses of a foreign head office-see
"Intercompany charges" below). Payments to
affiliates in excess of normal commercial rates may no be
deducted.
Not with standing the general rule
above, the Income Tax Act sets specific limits for the
deductibility of certain specified expenses.
Capital expenditures are generally
deductible only through depreciation or as the basis of
property in determining capital gains or losses.
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General Section
