India: Union Budget 2017-18

Last Updated: 6 February 2017
Article by Khaitan & Co

DIRECT TAX


TAX RATES

Corporates

The Finance Bill, 2017 (Bill) proposes to reduce the corporate tax rate from 30% to 25% for small and medium-sized enterprises having a turnover of up to INR 500 million in financial year, i.e. from 1 April to 31 March (FY) 2015-16. In other cases, the basic tax rates remain the same. Further, there is no change in surcharge and cess for companies.

This amendment is proposed to be effective from FY 2017-18 onwards.

Non-corporates

For individuals, Hindu undivided families (HUFs), associations of persons (AOPs) and bodies of individuals (BOIs), there is no change in the income-slabs. The tax rate applied for the first taxable slab (income between INR 250,000 / 300,000 to INR 500,000) is proposed to be reduced from 10% to 5%.

Currently, a surcharge at the rate of 15% is levied on individuals, HUFs, AOPs and BOIs having income exceeding INR 10 million.

The Bill proposes to levy surcharge at the rate of 10% on individuals, HUFs, AOPs and BOIs having a total income between INR 5 million and INR 10 million.

This amendment is proposed to be effective from FY 2017-18 onwards.

CROSS-BORDER AND M&A SPACE

Investors in Foreign Portfolio Investments (FPIs) exempt from Indirect Transfer Tax

Currently, an offshore transfer of shares or interest in a foreign company or entity triggers capital gains tax in India (subject to certain exemptions) where the share or interest derives 'substantial value' from India. The Central Board of Direct Taxes (CBDT) vide Circular No 41 of 2016 (Circular) had recently issued certain clarifications on the application of these provisions to FPIs. Given that, no blanket exemption was provided to FPIs, stakeholders industry-wide had made representations to the Government explaining the issue of double taxation. This arose in cases where there were multiple layer structures through which investors invested in an FPI. Once the FPI had partially sold the shares of Indian company and up streamed the proceeds to its immediate investor, if the same had to be up-streamed to ultimate investor, there would be tax at each stage since each entity which redeemed the shares derived substantial value from Indian assets. Heeding to the representations made, the CBDT issued a subsequent clarification keeping the Circular in abeyance.

The Bill proposes to introduce a clarification that lays to rest the concerns of FPIs on the applicability of the indirect transfer tax provision. The Bill has clarified that the scope of the indirect transfer tax provision shall not cover within its ambit, direct or indirect investments held by non-resident (NR) taxpayers in FPIs that are registered as Category-I or Category-II with the Securities and Exchange Board of India (Foreign Portfolio Investors) Regulations, 2014. FPIs registered as Category-I and Category-II include sovereign funds, Governmental agencies, international or multilateral organisations and broad based funds such as mutual funds, university funds, pension funds respectively.

This proposed clarification provides the much-needed respite to FPIs, putting to rest the adverse impact caused by the Circular. While this legislative clarification is laudable and provides reprieve to the funds sector, the conspicuous exclusion of Category-III (residuary category that typically covers individuals, trusts, family offices, endowment funds, charitable trusts, foundations, corporate bodies etc.) registered as FPIs is a slight dampener.

This amendment is proposed to be effective retrospectively from FY 2011-12 onwards.

Masala Bonds spiced up

In September 2015, the Reserve Bank of India permitted Indian companies to issue rupee denominated bonds (Masala Bonds) overseas as a measure to enable them to raise funds from outside India.

In line with the announcement made by the Government vide a Press Release dated 29 October 2015, the Bill proposes to extend the concessional withholding tax rate of 5%, as currently applicable to foreign currency bonds, external commercial borrowings and rupee bonds issued to FPIs, to interest on Masala Bonds issued before 1 July 2020. This amendment is proposed to be retrospectively effective from FY 2015-16 onwards.

Further, the Bill proposes that an offshore transfer of Masala Bonds, issued overseas, from one NR to another NR would not be regarded as a taxable transfer and thus, would not attract tax in India. This amendment is proposed to be effective from FY 2017-18 onwards.

These proposals were long awaited and shall provide the necessary fillip to investments in Masala Bonds as a mode of raising capital. With the concessional withholding tax rate being extended, Masala Bonds would be placed on the same footing as other modes of foreign currency fund raising whether rupee denominated or foreign currency denominated.

Sunset for Concessional Withholding Tax on Interest extended

Currently, a concessional withholding tax rate of 5% applies, subject to prescribed conditions, to interest on (a) foreign currency loans and long-term bonds under Section 194LC of the (Indian) Income-tax Act, 1961 (IT Act), and (b) rupee denominated bonds and Government securities issued to FPIs under Section 194LD of the IT Act.

The concessional withholding tax rate under Section 194LC applies where the borrowing is raised before 1 July 2017, and under Section 194LD in relation to interest payable before 1 July 2017.

The Bill proposes to extend the sunset dates for these provisions from 1 July 2017 to 1 July 2020.

This amendment is proposed to be effective from FY 2017-18 onwards.

Relaxation to Offshore Funds with Onshore Management

Generally, if a manager of an offshore fund were to be located in India, this would result in business connection or economic nexus in India, leading to an Indian tax incidence on the income of the offshore fund. In an attempt to boost onshore fund management activity, currently, the IT Act provides for the benefit of allowing onshore fund management activities without leading to the offshore eligible fund being regarded as an Indian tax resident or establishing an Indian 'business connection'. The availability of this benefit however, is subject to satisfying the onerous investment and investor linked pre-requisites specified in the IT Act. One such pre-condition is a minimum corpus requirement of the fund having a monthly average of not less than INR 1 billion except in cases where the fund has been established or incorporated in the relevant year.

To address the genuine concerns of funds which are in the process of winding up, the Bill proposes to exclude them from the abovementioned monthly corpus requirement.

This is a welcome change and addresses the practical concerns raised by stakeholders. However, the status quo vis-à-vis the stringent investor and investment linked conditions for availing the benefit envisaged by this provision make it under-inclusive.

This amendment is proposed to be effective retrospectively from FY 2015-16 onwards.

Introduction of Secondary Adjustments

Currently, the Indian transfer pricing provisions, do not require secondary adjustments to be carried out in case of a transfer pricing adjustment.

The Bill proposes to introduce a provision mandating secondary adjustments, with the objective of removing the imbalance between cash account and actual profit of the taxpayer and to align the Indian transfer pricing norms with the guidelines prescribed by the Organisation for Economic Cooperation and Development (OECD).

As per this provision, a taxpayer will be required to carry out secondary adjustment where the transfer pricing adjustment i.e. the primary adjustment has been made suo moto by the taxpayer in his return of income; or made by an assessing officer and accepted by the taxpayer; or is determined by an advance pricing agreement; or is made as per the safe harbour rules; or is arising as a result of resolution of an assessment by way of mutual agreement procedure.

Further, if as a result of a transfer pricing adjustment, there is an increase in the total income or reduction in the loss of a taxpayer, the excess money, being the difference in the arm's length price determined by the tax authorities and the price at which the transaction is undertaken, available with the associated enterprise is to be repatriated into India within the prescribed time limit. If such excess money is not repatriated within the prescribed time limit it shall be deemed to be an advance made by the taxpayer to such associated enterprise and interest on such advance is to be computed in the prescribed manner.

However, secondary adjustment shall not be carried out if the amount of transfer pricing adjustment in a FY does not exceed INR 10 million and the transfer pricing adjustment is made in respect of a FY commencing on or before 1 April 2015.

This amendment is proposed to be effective for FY 2017-18 onwards.

Treaty Definitions to Override

Currently, there is rampant litigation on conflicting interpretations of terms that are defined both under the treaties / agreements entered into with foreign jurisdictions, as well as under the IT Act. This is because tax authorities seek to invoke the definition of a term in the IT Act if such a definition is wider than the definition provided in the relevant treaty.

The Bill proposes to clarify that if a term is defined in a treaty, then the definition under the IT Act will not be relevant. If a term is not defined in the treaty, only then it will have the meaning assigned to it under the IT Act.

This amendment is proposed to be effective from FY 2017-18 onwards.

Conversion of Preference Shares into Equity Shares tax neutral

Finally putting to rest the long-standing debate in this regard, the Bill clarifies that conversion of preference shares would be exempt from the rigours of capital gains tax, thus bringing it in line with the treatment of conversion of debentures into equity shares. It is proposed that the cost of the equity shares will be same as the cost of the preference shares. Further, for ascertaining the period of holding of equity shares, the period for which preference shares were held before their conversion will also be included.

The amendment is proposed to be effective from FY 2017-18 onwards.

More clarity regarding Sale of Shares of Private Companies

The Finance Act, 2012 provided for applicability of a concessional tax rate of 10% to NRs transferring unlisted securities, held as long-term capital assets.

There was uncertainty regarding applicability of the concessional rate to shares of a private limited company as it was doubtful if the same could be treated as 'securities'.

To address this uncertainty, the Finance Act, 2016 clarified that the above provision will apply to shares of a company in which the public is not substantially interested (say, a closely held company). However, this clarification was made effective from FY 2016-17. The availability of this concessional rate between FY 2012-13 to FY 2016-17 remained uncertain.

The Bill proposes to clarify that the amendment introduced by the Finance Act, 2016 will apply retrospectively from FY 2012-13.

BOOST TO REAL ESTATE SECTOR

Incentives for Real Estate Developers

Currently, Section 80-IBA of the IT Act allows taxpayers engaged in the business of developing and building housing projects, a 100% deduction of profits, subject to the fulfilment of certain conditions.

This incentive was introduced in furtherance of promoting the 'Affordable Housing Scheme'.

In order to provide a further impetus to this scheme, the Bill proposes to relax the following conditions under Section 80-IBA:

  • The reference of unit to determine the area of a residential unit comprised in the housing project will be carpet area as against the present reference of built-up area;
  • The condition that the size of residential units should not exceed 30 square meters will not apply if the project is located within 25 kms from the municipal limits of metro cities; and
  • The time period for completion of the housing project will be extended from 3 years to 5 years from the date of its approval.

This amendment is proposed to be effective from FY 2017-18 onwards.

Joint Development Agreements (JDAs) – Taxation clarified

In the context of JDAs between the owner of an immovable property (Property) and the developer, the liability to pay tax for the owner arises in the year in which the possession of the Property is handed over to the developer for the development of a project.

Generally, the land-owner receives consideration, partly in cash and partly in kind, which is deferred until the completion of the project. Thus, taxing the entire consideration in the year of transfer itself (irrespective of completion or termination of the project) creates a cash crunch in the hands of the owner.

To avoid this hardship, the Bill proposes the following amendments to the IT Act:

  • If an individual or an HUF (Specified Transferor) transfers the Property under a JDA, capital gains tax will be chargeable only in the year in which the 'certificate of completion' (CoC) has been issued, provided that they do not transfer their share in the project prior to the receipt of CoC; and
  • For the purposes of computation of capital gains tax, the stamp duty value on the date of issue of CoC and any consideration received in cash by the Specified Transferor will collectively be considered as the consideration arising out of transfer of the Property.

This amendment is proposed to be effective from FY 2017-18 onwards.

The Bill further proposes to introduce a new section, whereby any monetary consideration paid to a Specified Transferor under a JDA will be subject to withholding tax at the rate of 10%.

While this proposal is a positive step, land owners other than individuals and HUFs (say firms, companies) have not been provided any relief in this regard.

Reliefs for Real Estate Developers holding House Property as Stock in Trade

Currently, the IT Act, subject to certain exemptions, levies tax on a taxpayer if it owns immovable properties (which are not occupied for business or profession purposes) on a notional basis, irrespective of the fact that such immovable property has been let out.

The Bill proposes a relaxation from charge of notional rent for 1 year from the date of completion of construction of property.

This amendment is proposed to be effective from FY 2017-18 onwards.

Reduction of Holding Period of Immovable Property

Currently, in order for an immovable property viz., land and building, to qualify as a long-term capital asset, the same has to be held for a period of more than 36 months.

The Bill proposes to reduce the abovementioned holding period to 24 months. This will indeed propel the real estate market by increasing mobility of assets.

This amendment is proposed to be effective from FY 2017-18 onwards.

A MIXED BAG FOR START-UPS

Longer Gestation Period recognised

Under Section 80IAC of the IT Act, a 100% tax holiday is available to eligible start-ups for any 3 consecutive years out of a 5-year period, beginning from the year in which such start-up was incorporated.

The Bill proposes to extend this period from 5 years to 7 years as most start-ups do not generate profits in their initial years.

While this is a welcome proposal, a rationalisation of the definition of an "eligible start up" and an exemption from applicability of Minimum Alternate Tax (MAT) would have further bolstered the Indian start-up landscape.

This amendment is proposed to be effective from FY 2017-18 onwards.

Carry Forward and Set-Off of Loss for Start-Ups

Currently, the IT Act provides that in case of substantial change in shareholding of a company (beyond 49%) in which the public are not substantially interested, tax losses incurred in any prior year shall not be available for carry forward and set off against the income.

The Bill proposes to provide that losses incurred by eligible start-ups can be carried forward and set-off against the income of a year provided all the shareholders of such eligible start-up who held shares in the start-up when losses were incurred, continue to hold the shares on the last day of the year in which losses are claimed for set off, and such losses were incurred during the period of 7 years from the date of incorporation.

This amendment is proposed to be effective from FY 2017-18 onwards.

PLUGGING THE CHARITY LOOPHOLES

Inter-Charity Corpus Donations no longer regarded as valid application of Income

Currently, a charitable organisation is permitted to make donations to other charitable organisations only out of its current year income in order for such donation to be treated as a valid application of its income for charitable or religious purposes.

The Bill proposes to further restrict the scope of inter-charity donations by specifically providing that donations by a charitable entity towards the corpus of another charitable entity will not be regarded as an application of its income for charitable or religious purposes. Therefore, the income used to make such donations will not be tax exempt.

This will have the effect of plugging the practice of rotating funds within sister concerns of charitable entities and accumulating them for indefinite periods. The intention seems to be to increase the use of funds collected by charitable organisations for the very purpose for which they are formed.

This amendment is proposed to be effective from FY 2017-18 onwards.

Change of Charitable Objects to require Fresh Registration

The Bill also proposes that if a charitable entity registered in terms of Sections 12A and 12AA of the IT Act subsequently adopts new objects or undertakes modifications of its original objects which do not conform to the conditions of its registration, it shall be required to obtain fresh registration from the tax authorities.

This is expected to have the effect of clamping down on charitable entities that often modify their objects to undertake activities in the nature of trade, commerce or business, thereby abusing their tax exempt status, which was originally granted only for certain charitable purposes.

This amendment is proposed to be effective from FY 2017-18 onwards.

Cost of acquisition of Assets transferred on Winding Up of Charitable Operations clarified

The Finance Act, 2016 imposed an additional income-tax in the nature of an 'exit tax' on the accreted income of a charitable entity if it converted into or merged with a non-charitable entity, or failed to transfer all its assets to another charitable entity upon its dissolution. 'Accreted income' for this purpose referred to the amount by which the aggregate fair market value (FMV) of the total assets of the charitable entity, as on the specified date, exceeded its total liabilities computed in accordance with the method of valuation as prescribed.

The Bill clarifies that where tax has been paid on the capital gains arising from the transfer of an asset held by a charitable entity in respect of which accreted income has been computed, the cost of acquisition of such asset to the transferee entity shall be deemed to be the FMV of the asset taken into account for computation of the accreted income.

This amendment is proposed to be effective retrospectively from 1 June 2016.

NO RESPITE FROM MAT YET BUT PROVISIONS RATIONALISED

Credit Period extended

Currently, as per Section 115JB of the IT Act, a company is required to pay MAT in case the tax payable by a company otherwise is less than 18.5% of its adjusted book profits. While MAT continues to apply, the Bill proposes to extend the period for which credit of MAT can be claimed from 10 to 15 years.

A similar benefit has been extended to non-corporate taxpayers in respect of Alternate Minimum Tax credit. Further, the Bill also proposes the manner in which foreign tax credit would need to be adjusted while determining MAT credit.

This amendment is proposed to be effective from FY 2017-18 onwards.

Alignment of MAT provisions with Ind AS

Presently, MAT liability is computed based on the financial statements prepared in accordance with the Indian Generally Accepted Accounting Principles (GAAP).

Given that a new set of Indian Accounting Standards (Ind AS) has replaced the existing Indian GAAP for certain companies, there was a need for alignment of MAT provisions with the new Ind AS. Ind AS, in essence, is based on the principle of 'fair value concept of assets and liabilities'.

The Bill proposes to provide clarity by introducing a specific regime for computation of MAT liability for Ind AS compliant companies in the year of adoption and thereafter, and provides for certain adjustments such as changes in revaluation surplus, consequences of demerger, etc.

This amendment is proposed to be effective from FY 2016-17 onwards.

MEASURES TO CURB TAX-AVOIDANCE

Avoiding Misuse of Exemption from Long-term Capital Gains Tax

Currently, the IT Act provides that long-term capital gains arising on transfer of listed equity shares of a company or a unit of equity oriented fund (collectively, Securities) are exempt from tax provided Securities Transaction Tax (STT) is paid on such transfers.

In order to prevent the misuse of this provision, the Bill proposes that the benefit of this provision will be available only where STT has been paid even at the time of acquisition of the Securities sought to be transferred. However, the proposed amendment will be subject to exceptions as may be notified in order to protect genuine cases.

This amendment is effective from FY 2017-18 onwards.

Fair Value basis Taxation on Transferor of Unquoted Shares

In order to ensure that the transfer of shares of an unlisted company is undertaken at fair value and there is no understatement of the sales consideration, the Bill proposes to introduce a new section 50CA in the IT Act.

Section 50CA provides that if a taxpayer transfers shares of an unlisted company for a consideration which is less than the FMV determined as per a method to be prescribed, then the FMV will be deemed to be the consideration for the purpose of computation of capital gains tax.

This amendment is proposed to be effective from FY 2017-18 onwards.

Fair Value basis Taxation on Recipient of any Property

Currently, Section 56(2) of the IT Act provides that:

  • If an individual or HUF receives (i) any property without or for inadequate consideration, and if the FMV of such property exceeds INR 50,000; (ii) cash in excess of INR 50,000, then the difference between the FMV and the price paid for the property or the cash in excess of INR 50,000 is considered as income in the hands of the recipient individual or HUF.

    Property is widely defined as jewellery, immovable property, shares, drawings, paintings, sculptures, bullion, art work, shares and securities and archaeological collections (Property).
  • If a closely held company or a firm receives shares of another closely held company free of cost or for inadequate consideration, the difference between the FMV of such shares and payment made by the recipient firm or company is considered as income in its hands.

It was noted that taxpayers other than individuals, HUFs, closely held companies and firms were not covered under Section 56(2). Additionally, its applicability to closely held companies and firms was limited to transactions with respect to shares of a closely held company.

The Bill proposes to widen the ambit of Section 56(2) to apply to all persons (such as listed companies, AOPs, BOIs, etc.) when they receive any Property for a consideration below the prescribed FMV or cash in excess of INR 50,000.

This amendment is proposed to be effective from FY 2017-18 onwards.

Thin Capitalisation Norms introduced

India is at the forefront of implementing the OECD's Base Erosion and Profit Shifting (BEPS) Project. To this end, the Bill proposes to implement Action Plan 4 of the BEPS Project, which provides for restriction on claiming of interest expenditure on loan / debts taken from an associated enterprise (AE) by introduction of a new Section 94B in the IT Act.

Proposed Section 94B provides that if an Indian company or a permanent establishment of a foreign company in India (collectively, Borrower) has borrowed money from its NR AE towards which it pays interest exceeding INR 10 million, then the 'excess interest' cost will not be eligible for deduction from the profits of the Borrower. Loans which have been extended to the Borrower by a third-party lender on the implicit or explicit guarantee of its NR AE will also be covered under this provision.

'Excess interest' is defined to mean an amount of total interest paid or payable which exceeds 30% of earnings before interest, taxes, depreciation and amortisation of the Borrower, or interest actually paid or payable to the NR AE, whichever is lesser.

This section will not be applicable to the Borrower engaged in the business of banking or insurance.

However, if the interest is not eligible for deduction in a particular year, the same can be carried forward for 8 FYs from the FY in which the interest cost was not eligible for deduction and the same shall be allowed to the extent of maximum allowable interest expenditure for the relevant year.

The amendment is proposed to be effective from FY 2017-18 onwards.

CASH TRANSACTIONS DISCOURAGED, DIGITAL PAYMENTS ENCOURAGED

Disallowance of Capital Expenditure incurred In Cash

Currently, the IT Act provides that except in certain circumstances, revenue expenditure incurred in cash exceeding the prescribed monetary threshold is not allowed as a deduction. However, there is no similar provision disallowing any capital expenditure incurred in cash.

The Bill proposes that payments exceeding INR 10,000 for the acquisition of any asset or part thereof otherwise than by an account payee cheque drawn on a bank, account payee bank draft or the use of an electronic clearing system through a bank account shall be ignored while computing the 'actual cost' of an asset which is eligible for depreciation.

A similar amendment is proposed in relation to any capital expenditure under Section 35AD of the IT Act, which provides for investment-linked deduction for certain capital expenditure and revenue incurred by specified businesses.

This amendment is in line with the Government's objective of discouraging cash transactions for capital expenditure. With this amendment, any capital expenditure incurred in cash will not be eligible for tax breaks such as depreciation and will not be included in the computation of capital gains.

This amendment is proposed to be effective from FY 2017-18 onwards.

Introduction of Penalty on Cash Receipts

Currently, if a person receives INR 20,000 or more on account of a loan taken or deposit or in relation to transfer of immovable property otherwise than by an account payee cheque, an account payee bank draft or use of an electronic clearing system through a bank account, such person may be liable to pay a penalty equivalent to the sum received.

The Bill proposes to introduce a similar penalty on any person who receives INR 300,000 or more (a) in aggregate from a person in a day; (b) in respect of a single transaction; or (c) in respect of transactions relating to one event or occasion from a person, otherwise than by an account payee, cheque, an account payee bank draft or use of an electronic clearing system through a bank account. The penalty shall be equivalent to the amount received. However, no penalty shall be leviable if the recipient shows good and sufficient cause for such contravention.

This proposal may have a significant impact and could go a long way in achieving a cashless economy.

This amendment is expected to be effective from FY 2016-17 onwards.

Lower Tax Rate for Cashless Turnover under Presumptive Taxation Scheme

Currently, a presumptive taxation scheme is available for certain eligible taxpayers, according to which 8% of their total turnover or gross receipts is deemed to be their total income, subject to tax.

The Bill proposes to reduce the aforesaid percentage of deemed total income from 8% to 6% if the turnover or gross receipts are received by account payee cheque or account payee bank draft or use of an electronic clearing system through a bank account. The existing rate of 8% shall continue to apply for those businesses which generate receipts of turnover through any other mode.

This is a welcome move that is in line with the Government's stated objective of promoting digital transactions and encouraging small unorganised businesses to accept digital payments.

This amendment is proposed to be effective from FY 2016-17 onwards.

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From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.