Publications >> Tax Hotline >> Archives >> Archives 2000

Archives 2000

Indian Government proposes tax-friendly reforms

The Government of India has authorized the National Institute of Public Finance and Policy (NIPFP) to conduct a comprehensive study on tax compliance costs in India ("TCC"), which are believed to be particularly high in comparison to other jurisdictions. The study is the first of its kind, and is expected to be complete by September 2001. The NIPFP will suggest reforms to improve tax compliance by minimizing these costs.

Source: Business Standard, April 24, 2001

Computation of Capital Gains upon Amalgamation of Companies

A three-member bench of judges of the Supreme Court of India ("SC") recently gave a landmark judgment in the case of Commissioner of Income-tax v. Mrs. Grace Collis [2001] 48 ITR 323 (SC) on the computation of capital gains accruing to a shareholder in the case of an amalgamation of companies. The term "transfer", as defined under Section 2(47) of the Act includes - inter alia - the sale, exchange or relinquishment of an asset or an extinguishment of any rights therein. The judgment of the SC in the case of CIT v. Rasiklal Maneklal (HUF) [1989] 177 ITR 198 held that amalgamation does not involve sale, exchange or relinquishment of the asset. The SC has further held, in the case of Vania Silk Mills Private Limited v. CIT [1991] 98 CTR (SC) 153, that the phrase "extinguishment of any rights therein" as mentioned hereinabove, cannot be extended to mean an extinguishment of rights independent of or otherwise than on account of transfer.

The general view so far has therefore been that there is no transfer of capital asset, as prescribed by Section 2(47) of the Indian Income-tax Act, 1961 ("the Act"), on amalgamation of one company with another. Therefore, such transactions were not believed to be subject to capital gains tax under the Act.

The SC in the instant case has disapproved of the observations made in the case of Vania Silk Mills in this regard and has held that "extinguishment of any rights in any capital asset" under the definition of "transfer" would include the extinguishment of the right of a holder of shares in an amalgamating company which would be distinct from and independent of the transfer of the capital asset itself. Thus, a merger would be regarded as a taxable event.

The decision of the SC in the instant case is likely to have significant impact on shareholders of companies involved in cross-border amalgamations, particularly for Indian shareholders holding shares in a foreign company.

Capital gains earned by Private Equity Funds to be taxed as Business Profits

The Indian Authority for Advance Rulings (AAR), in a recent ruling, has held that gains on sale of shares, earned by a Mauritius based private equity fund (the Fund) will be regarded as business profits. According to the AAR, private equity funds are carrying on a systematic business of buying and selling shares and hence gains arising on sale of shares should be taxed as Business Profits as per Article 7 of the India-Mauritius Tax Treaty and not under Article 13 on Capital Gains.

The AAR in this landmark judgement has considered all the aspects of a private equity fund structure and ruled that neither the Investment Adviser in India, nor the custodian can constitute a Permanent Establishment (PE) of the Fund in India. Hence, in absence of a PE, the entire business profits of the Fund will be taxable only in Mauritius and not be taxable in India.

The AAR has once again accepted the ‘resident’ status of a Mauritius based Fund on the basis of the tax residency certificate issued by the Mauritius Offshore Business Activity Authority. The AAR has distinguished the present case from its earlier ruling in the case of Cyril Pereira wherein the UAE resident was denied the treaty benefits on the ground that he was not liable to tax in UAE. In case of Mauritius, the AAR has held that the Mauritius Income Tax Act does provide for a basic charge to capital gains and business profits, even though currently, all the taxes may not be levied.

At this stage, when the writ petition questioning the tax residency of Mauritius based companies is pending in the Delhi High Court, this ruling would prove to be positive step towards re-establishing Mauritius route for investments into India.

Advance rulings are private and binding only on the applicant and tax authorities, in respect of the applicant. However, they do have some persuasive value.

PIL challenges Foreign Television Companies' Tax on Advertising Income

Advocate B.L. Wadhera has filed a Public Interest Litigation ("PIL") in the Delhi High Court, challenging two circulars previously issued by the Central Bureau of Direct Taxation ("CBDT") pertaining to the taxation of foreign television companies (the "companies"). Wadhera says these circulars endow undue benefits on the companies by levying a tax on the presumptive profit of 10% earned by them through advertisements in India.

According to the PIL, the impugned circulars have resulted in the effective rate of tax of 3.8% for the companies during the assessment years 1995-96 to 1997-98 and 3.3% from the assessment year 1998-99. The petition also alleges that the CBDT has not carried out a review of the guidelines based on the "reasonableness of the rates of interest", as promised. This has resulted in a substantial loss of revenue to the exchequer in particular and the public at large.

Source: Economic Times, February 22, 2001

Transfer Pricing Regulations to include penalties to check fraudulent transfer pricing

The Raj Narain committee appointed by the Central Board of Direct Taxes of India will make its recommendations on the transfer pricing policy by the end of January. These recommendations are expected to figure in the next budget.

One of the steps being considered is levying penalties on companies who refuse to comply with the requirements of reporting transfer pricing arrangements along with supporting documents to the Revenue authorities within the stipulated time.

The OECD guidelines suggest that the penalty should be calculated as a percentage of the understated tax. This may range from 10% to 200%. In India the aforesaid committee may opt for the already existing provisions of the Income Tax Act, which levies a penalty for concealment of income which ranges from 100 to 300 percent of the suppressed tax or may bring in a new a rate of penalty for assessments of transfer pricing.

Source: The Economic Times, January 6, 2001

Consolidation of financial statements to be compulsory from April 1, 2001

The Institute of Chartered accountants of India (ICAI) has come out with a draft of the proposed accounting standards on consolidated financial statements. The Securities and Exchange Board of India (SEBI) requires that the accounting standard for consolidated statements would be made mandatory for listed companies from April 1, 2001. A Company having one or more subsidiaries would have to present consolidated financial statements. The accounting standard will apply to all subsidiaries except in those cases where control of the parent on a subsidiary is intended to be temporary or where a subsidiary operates under severe long term restrictions which significantly impairs its ability to transfer funds to the parent.

Source: The Economic Times, January 5, 2001

Index Futures trading, treated as speculation

As per the views of the Chief Commissioner of Income tax, the income from Indexed Futures trade would be treated as a speculative income and would be taxed at normal business income rates.

As per the provisions relating to speculative income the loss arising from the same would not be allowed to be adjusted against any other income. The loss from speculation would however be allowed to be carried forward for four years.

Index futures have been legally recognised and should be taxed as Business Income or Capital Gains.

There have been representations made to the Central Board of Direct Taxes stating that Indexed Futures should not be considered as speculation income.

Source: The Economic Times, November 29, 2000

Surcharge on Corporate tax proposed to be increased by 1%

The Finance Minister moved the Taxation Laws Amendment Bill 2000 in the lower house of parliament proposing a 1 % additional surcharge on income tax payable by companies.

The surcharge is being imposed to fund a 500-crore corpus for the National Calamity Contingency Fund.

Indian companies already pay a 10% surcharge on a 35% corporation tax. The proposal would increase the tax liability of companies by 0.4 % and hence corporate entities would be paying a tax at the rate of 38.9% (inclusive of surcharge of 11%) for the financial year 2000-2001.

Source: The Economic Times, December 14, 2000

The High Court refuses to grant a stay against the CBDT Circular reaffirming India-Mauritius Tax Treaty benefits

The CBDT on April 13, 2000 had issued a circular stating that tax exemption on Capital Gains should be granted to Mauritius-based FIIs once they have been given tax residency certificate by the Mauritius Income Tax authorities. This circular was contested through a public interest litigation (PIL) by an NGO Azadi Bachao Andolan.

The Delhi High Court refused to stay the operation of the circular. However, it held that should its final ruling uphold all the writ petitions which challenge the circular, the FIIs claiming tax exemption upto that time based on the Board's order would be penalized. The final ruling is scheduled for January 31, 2001.

There were two PILs challenging the circular on the ground that CBDT had wrongly construed the residential status of the FIIs who had registered their offices in Mauritius only to gain tax benefits in India under the Tax Treaty. The third petition contends that the CBDT was violating the very fundamentals for which it was granted powers as a statutory body u/s 119 of the IT Act by defending the right of these FIIs to claim tax exemption here under the Tax Treaty.

Source: The Economic Times, November 22, 2000

Deferred Tax to be shown as liability in the books of Accounts

The Securities and Exchange Board of India (SEBI) has finalised the move of making it mandatory for the Indian corporates (a select category to begin with) to start showing deferred taxation as a liability in their annual reports, in line with the norms of International Accounting Standards (IAS) from financial year 2001-2002. The guidelines for this disclosure are expected to be issued by the Institute of Chartered Accountants of India (ICAI) sometime later, however till such time, SEBI has decided to go ahead with the IAS from the beginning of the next fiscal year i.e. April 01, 2001.

A committee on corporate governance had earlier proposed that four sets of financial disclosures viz. consolidation of accounts, segment-wise reporting, related party transactions and treatment of deferred taxation should be introduced at the earliest. Of these, ICAI has already come out with guidelines for segment-wise reporting of accounts and for related party transactions.

SEBI has also decided to make the consolidation of accounts mandatory on lines with IAS with effect from April 01, 2001, if ICAI is unable to come out with guidelines till then. In such case the companies would have to disclose consolidated accounts of all its subsidiaries in which they hold more than 51% stake.

Source: The Economic Times, November 07, 2000

All income tax returns shall not be subject to scrutiny

The Central Board of Direct Taxes (CBDT) has recently issued a circular barring the assessing officers from scrutinizing income tax returns, except in cases of glaring tax concealment.

Such a decision was taken by the CBDT a couple of months ago to enable the officers to complete the ongoing computerization process, the first phase which is scheduled to be completed by March 2001. However chief commissioners are vested with powers to order a scrutiny of a return if they suspect income concealment.

The chief commissioner is reported to have said that even after the completion of the first phase of the computerization process the computers would do such a scrutiny. Computerized scrutiny models that are in vogue in other countries are being examined to determine which system would be the most suitable for the Indian scenario.

In a fully developed computer system all the transactions in which Permanent Account Numbers (PAN) are recorded will be matched with the returns of the assessee so that no transaction goes undetected. It is reported that there shall soon be an amendment to the Income Tax Act, 1961, whereby it would become mandatory to record the PAN on all transactions.

Source: The Economic Times, October 31, 2000

Indian Software professionals to be subject to the same rate of tax

The chairman of the Central Board of Direct Taxes (Board) clarified that there shall not be differential tax rates for Indian Software professionals.

The issue of taxing the software professionals on a differential basis came up from a suggestion which was received by the Board from the Madras Chamber of Commerce (MCCI) at an interactive session conducted at Chennai.

MCCI contended that the salary paid to software professionals in India were highly lucrative and had no comparison to that of others working in the same concern as such and this lead to social and economic disparities among employees.

Replying to this suggestion the Board said that everyone was free to grab the opportunities that came across them and the Board had no intention of taxing them at a higher rate. The chairman of the Board is reported to have said "Everyone is free to make hay when the sun shines. Let them make money when opportunities for them are good, may be for some years. There is no question of the department going after them". Another issue that was settled by the Board at this interactive session was the issue of bringing down the corporate tax rate. The Board said that there was no future possibility of bringing down the corporate tax rates as corporates already enjoyed certain exemptions and concessions.

Source: The Financial Express, October 3, 2000

IT Sectors notified for tax holidays

Under the Finance Act 2000, vide Sections 10A and 10B, the Ministry of Finance introduced new provisions in the Indian Income Tax Act, 1961 (ITA) to provide for deduction in respect of profits and gains derived by an undertaking - set up in a free trade zone, software technology park, export-oriented unit or any special economic zone - from export of articles or things or computer software.

The deduction is available upto the assessment year ending with 2009 - 2010. The meaning of "computer software" was under debate and therefore the Finance Ministry notified sectors, which would fall within the ambit of the term "computer software". The Indian Tax Authorities notified sectors which would be eligible to avail of the provisions of section 10A and 10B of the ITA which include back office operations, call centres, content development/animation, data processing, engineering and design, geographic information systems services, human resources services, insurance claim processing, legal databases, medical transcription, payroll, remote maintenance, revenue accounting, support centres and web site services.

The Indian Tax Authorities specifically stated that it would not be possible for them to provide a comprehensive list since this sector is still evolving. Thus the notified sectors would be eligible to gain the benefit under sections 10A and section 10B of the ITA.

Source: The Economic Times, September 28, 2000

Corporates covered under the Minimum Alternate Tax (MAT) provisions would be liable to pay Advance taxes:

Under the MAT provisions if the tax payable by a corporate is less than 7.5% of its book profits, 7.5% of book profits would be the minimum tax payable by it. In a recent judgement, Commissioner of Income Tax (Appeals) in Mumbai, India, held that any corporate covered under the Indian Income Tax Act, 1961 will be liable to pay advance tax in four installments during the accounting year on its normally estimated taxable profits. This obligation would exist irrespective of the fact that at the end of the accounting year on the basis of its audited accounts it may be liable to pay tax under the MAT provisions.

P.S. Prior to Finance Act 2000, under the MAT provisions if the taxable profit of a corporate was less than 30% of it's book profits, then 30% of book profits would be deemed to be it's taxable profit.

Source: The Economic Times, September 13, 2000

Tax Rates of foreign telecasting companies to be revised

Foreign telecasting companies in India are subjected to withholding tax on remittances made to them by Indian residents based on a presumptive profit rate of 10% of the gross remittances. This resulted in effective rate of tax at source of 4.8% for these companies. It was made effective by a circular issued by the Central Board of Direct Taxes (CBDT) No. 742 dated May 2, 1996.

The Circular stated that such a rate of tax would be applicable until March 31, 1998 after which the position with regard to the reasonableness of the rate would have to be reviewed.

Sources in the Income Tax department are now of the view that this presumptive rate of profit results in unrealistically low withholding tax rate. With a dozen foreign channels setting shop in India and beaming news, views, music and entertainment into Indian homes, the department evidently smells additional revenue. It is therefore proposed to withdraw the said circular. The CBDT is looking at all possibilities including normal rate of tax, ie. 48% applicable to foreign companies to a more appropriate rate between the present 4.8% and the full rate of 48%. The foreign telecasting companies which have Indian subsidiaries would however be taxed at 38.5% (Including the 10% surcharge) on their net profit.

Source: The Economic Times, August 28, 2000

Tax Holiday to be extended to revenues from "On-Site" Services provided by Software companies.

Prior to the changes brought about by the Finance Act 2000, income from "on-site" software services were exempt from tax in India by virtue of section 10 A of the Income Tax Act, 1961(ITA).

The new section 10 A introduced by the Finance Act, 2000 does not provide this tax holiday to such income. The new section exempts from tax the profits from export of software earned by units in Software Technology Park, Hardware Technology Park or 100% Export Oriented Units. The definition of "software exports" does not include "on -site" services even though they result in foreign exchange earnings.

Approximately 58% of total computer software exports constitute 'on-site' services. Hence, the new provision would result in substantial tax burden to the software industry. Upon representation made by the industry to the Information and Technology Ministry, the Ministry sources said that the amendment required for this purpose in the ITA shall be presented to the Parliament in the Winter Session to reinstate the tax benefit to profits from 'on-site' services.

Source: Business Standard, August 25, 2000

The Income Tax Tribunal - Mumbai, India relieves the employer from liability to make up shortfall of tax at source on salary to employee.

The Indian Income Tax Appellate Tribunal (Mumbai) (ITAT) in the case of The Associated Cement Co Ltd. (the employer), Mumbai V/s The Income Tax Officer held that the tax authorities should collect the deficient amount of tax deducted at source on salary income directly from the employee and not from the employer.

It was further held that the Income Tax Act, 1961 (ITA) casts an obligation on the employer to deduct tax at source on the salaries paid to its employees, and deposit the same to the Government Treasury. Under the provisions of the ITA the employer cannot be treated as "assessee in default" if there is a shortfall in such deduction. Hence a penalty cannot be imposed on the employer for the shortfall. The primary responsibility of making up the shortfall in tax is that of the employee and the income tax officer should collect the shortfall together with the penalty from the employee.

Source: The Economic Times July 6, 2000