Clearing the Air Central Board of Direct Taxes' guidelines on whether an entity's place of effective management lies in India will affect foreign, domestic cos' overseas ops PLUGGING THAT LOOPHOLE Cos avoided paying tax in India by artificially escaping residential status outside India
Foreign companies outsourcing high-end critical functions to India that contribute substantially to their global value or domestic companies setting up arms outside the country for raising funds or expanding business could now face a tighter scrutiny to see if they were being effectively managed from India.
In what could have significant tax implications for such businesses, the Central Board of Direct Taxes has spelt out norms to determine if an entity's place of effective management lies in India.
In what could have significant tax implications for such businesses, the Central Board of Direct Taxes has spelt out norms to determine if an entity's place of effective management lies in India.
These guidelines follow a change in income tax in the budget, which provided that a company will be resident in India in any previous year if it is an Indian company or its place of effective management (POEM) is in India in that year, to plug a loophole used by firms to avoid paying tax in India.
Prior of 2015, a company was considered a domestic resident in any previous year if it's an Indian company or if during the year the control and management of its affairs is situated wholly in the country .This allowed companies to avoid paying tax in India by artificially escaping residential status by shifting insignificant or isolated events related with control and management outside India.
These guidelines, which have been put up to seek public comments, will help determining whether or not any company has place of effective management in India in previous year and should be taxed here.
“Draft POEM guidelines pro vides directional guidance on many controversial issues on the way the concept should be applied,“ said Girish Vanvari, national head of tax, KPMG in India. POEM determination will be primarily based on the fact as to whether or not the company is engaged in 'active business outside India'. 'Active business outside India' will be total asset base, number of employees and payroll expenses in India and outside.
The guidelines also factor in the digital era that makes physical location irrelevant -cases where directors or persons taking decisions usually reside or additional factors such as place where main and substantial activity or where company accounts records are kept may be taken into account.
The place where management decisions are taken would be more important than the place where such decisions are implemented and `substance' would be conclusive rather than `form'.
According to the draft guidelines, a company will treated as having foreign business if its passive income is not more than 50% of total income and less than 50% of its total assets, less than 50% of employees are in the country and payroll expense incurred on such employees is less than 50% of total payroll spending.
Head office of a company would be in place where company's senior management and their direct support staff is located. If they are in multiple lo aggregate of income from the transactions where both the purchase and sale of goods is from to its associated enterprises and income by way of royalty, dividend, capital gains, interest or rental income Determination of POEM will be case specific and determined on year on year basis.
The government has built in adequate checks to prevent misuse or arbitrariness in line with the Narendra Modi-led NDA government's promise of can be given only after prior ap proval from senior official at the level of Principal commis sioner or commisioner. Princi pal commissioner or commis sioner will also have to give an opportunity of hearing to the company .
The guidelines also made it clear that “snapshot“ approach not be adopted and POEM be determined on facts and cir cumstances.
Jiger Saiya, Partner Direct Tax, BDO India : “The guide lines are based on internation ally prevalent practices, focus on substance over form. While the guidelines provide guid ance on tests of PoEM, lot wil be determined by the facts, the decision making authority and place where the Senior Man agement takes such decisions The guidelines and have con sidered practical situations like meetings held by video conferencing.“
Some experts raised concerns guidelines leave room open for interpretation and could lead to litigation.
“A combined reading of defi nition of active business and passive Income, could result in significant number of over seas subsidiaries falling with the ambit of POEM regula tions. This is especially so, tha most of the subsidiaries of In dian MNC's function as trading hubs distributors overseas business holding companies whereby majority of transac tions would be with the Indian head office or group entities,“ said Rakesh Nangia, Managing Partner, Nangia & Co.
Experts also pitch for applica tion of the provision from Apri 1, 2016. “Given that draft guide line are being issued now it is expected the law is made effec tive period begging April 1 2016 rather than from assesses no year 2016-17,“ said Rahul Garg partner Direct Tax, PwC.
The Economic Times, New Delhi, 24th Dec. 2015
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