Beyond Arun Jaitley's Budget Speech

Major change proposed by Finance Bill is introduction of the concept of taxing income in India based on 'significant economic presence'

The Finance Minister broke tradition and read out parts of the Budget speech in Hindi. While the imposition of tax on long-term capital gains hogged the headlines, this article covers some tax provisions of the Finance Bill which, for paucity of time or importance, did not form part of the speech.

Taxpayers presently have the option of saving long-term capital gains tax by investing in bonds with a three-year lock issued by various authorities, including National Highways Authority of India (NHAI) and Rural Electrification Corporation Limited. This is sought to be curtailed by limiting the benefit to save tax only on gains arising from sale of land and building, and by extending the lock-in period of bonds from three years to five years. From next year, among others, taxable long-term capital gains on sale of equity shares will therefore not be eligible for this deduction.

Advances given to certain interested parties by private companies resulted in a deemed dividend in their hands, though there was uncertainty on who should be ultimately liable for this tax. The Bill removes this uncertainty and provides for a payment of the tax on such deemed dividends in the same manner as other dividends declared.

FM Arun Jaitley with other ministers

On the corporate front, a Delhi High Court ruling had cast doubts on the legality of the Income Computation and Disclosure Standards (ICDS), which require tax to be paid by adopting these Standards which are different from the Accounting Standards used for preparation of accounts. A number of provisions have been amended to remove the doubt created by the High Court ruling, which is a good factor since it eliminates uncertainty on this front. However, the larger question of whether the ICDS should be relooked at from an Ease of Doing Business perspective remains; hopefully, the Committee on the new taxes code will have the scope to cover this. 

Foreign corporates should take note of the lower thresholds proposed in invoking the business connection test which requires payment of tax in India. The earlier threshold of habitually exercising the authority to conclude contracts is sought to be extended to habitually playing the principal role leading to conclusion of contracts. 

Another major change, following the large digital user base in India, is the introduction of the concept of taxing income in India based on “significant economic presence”. This, amongst others, includes the activity of engaging in interaction with users in India through digital means, whether or not the foreign entity has presence in India or renders services in India. Tax authorities will lay down a threshold of number of users below which these provisions will not apply. With India emerging as one of the largest users of digital apps in the world, this would otherwise have had wide ramifications for a large number of global entities. However, while these provisions are to be introduced in domestic Indian tax law, for entities who are tax residents of countries with which India has Double Tax Avoidance Agreements, these provisions would typically not apply until there are similar amendments agreed to be made in those treaties under the Multilateral Convention. India does have a large number of countries with whom such treaties have been signed, and these cover most of the developed markets such as the US, the UK, among others.

A bit of operational ease has been provided for corporates who are required to file the Master File and Country by Country Report – the timeline for submitting this has been extended to twelve months from the end of the reporting accounting year. 

Additionally, certain points did not make it to the Finance Bill. The Economic Survey released earlier brought out the fact on substantial avoidable litigation which has built up, pointing out that 56 per cent of the disputes in value were locked in just 0.2 per cent of the cases, whereas 66 per cent of the cases in number accounted for only 1.8 per cent of the disputes by value. The petition rates by the government are around 80 per cent, with success rate largely below 20 per cent. A rollout of initiatives to deal with this would be important since the broader point of contract and dispute resolution is a lag factor in the World Bank Ease of Doing Business Report, in which India has otherwise fared very well to enter  the Top 100.

And while there was the imposition of long-term capital gains tax, and a marginal 1 per cent increase in cess on tax, high net worth individuals should take solace in the fact that inheritance tax provisions have not been introduced, as yet!

The author is partner and leader, Tax & Regulatory, PwC India