Tax Not Deducted On A Payment To A Non-Resident In India: What The Payer Owes, And What The Recipient Can Do

An Indian company pays a foreign supplier, parent or consultant, and deducts nothing. The invoice is settled, the money has left India, and a notice arrives two years later. From 1 April 2026 this sits in the Income-tax Act, 2025, where the withholding obligation on payments to non-residents is in Section 393(2) and the consequences of failure are in Section 398. The liability falls first on the Indian payer, but the recipient is rarely left untouched, because the payer usually looks to the contract to recover what it has paid. This note takes both sides in turn. The firm sets out the framework on its page on withholding tax on payments to non-residents.

When must an Indian payer deduct on a payment to a non-resident?

Under Section 393(2) of the Income-tax Act, 2025, tax is deducted on income or sums of the kinds listed in the table to that sub-section when they are credited or paid to a non-resident. The entry that carries most cross-border payments is serial number 17: any interest other than the interest covered by earlier entries, or any other sum chargeable under the Act, other than salary. The counterpart in the Income-tax Act, 1961 was Section 195.

Two points decide most disputes. The obligation attaches to a sum chargeable under the Act, so the character of the payment, and the treaty position, have to be settled before the money moves, not after. And the obligation arises on credit or payment, whichever is earlier, so a year-end provision in favour of a foreign group company can trigger it even though nothing has been remitted.

What happens if the payer does not deduct, or deducts and does not pay?

Section 398(1) treats a person who does not deduct, or deducts and does not pay, as an assessee in default for the tax. Five consequences can follow. They stack rather than substitute for one another, though the penalty is discretionary.

The order has an outer limit. Under Section 398(5) it cannot be passed after six years from the end of the tax year in which the tax was deductible, or two years from the end of the tax year in which a correction statement is delivered, whichever is later. An order under Section 398 is appealable: Section 356(1)(d) lists it among the orders that may be taken to the Joint Commissioner (Appeals) where the order is passed by an Assessing Officer below the rank of Joint Commissioner.

The lost deduction is often the largest number of the five. Section 35 disallows interest, royalty, fees for technical services or any other sum chargeable that is payable outside India, or in India to a non-resident or foreign company, where the tax was not deducted or was deducted and not paid by the due date. The same provision allows the sum as a deduction in the tax year in which the tax is eventually paid, so the cost is one of timing and cash, on top of the tax, the interest and the penalty.

A payer that deducts and then does not pay is in the graver position. It is an assessee in default under Section 398(1) for the tax it has withheld, interest runs at 1.5% a month from deduction to payment, and the unpaid tax and interest are a charge on its assets under Section 398(4). Section 476 also makes the failure an offence, unless the tax reaches the credit of the Central Government by the time prescribed for filing the statement under Section 397(3)(b).

Does it help that the non-resident has paid tax on the same income?

It can, but the relief is conditional. Section 398(2) provides that the payer is not deemed to be an assessee in default where the payee has furnished its return of income, has taken the amount into account in computing that income, and has paid the tax due on it, and where the payer furnishes a certificate to that effect from an accountant. That certificate is Form No. 149, the successor to Form 26A. Where the defence holds, Section 35(b)(ii) also treats the tax as deducted and paid on the date the payee filed its return, for the purposes of the disallowance.

In the author’s view, this defence is harder to use on a payment to a non-resident than on a domestic payment, because it depends on the payee having filed an Indian return and paid Indian tax on that sum. A foreign recipient that takes the position that the payment is not taxable in India, or that a treaty protects it, will usually have filed nothing, and there is then no return for the accountant to certify. The defence is available in the case that most needs it only if the non-resident is willing to come on to the Indian record.

The certificate does not remove interest. Section 398(3)(c) provides that where the payer is not deemed to be an assessee in default under Section 398(2), interest at 1% a month still runs from the date the tax was deductible to the date on which the payee furnished its return.

What can the payer do before it pays?

Section 395(2) lets the person responsible for paying a non-resident apply to the Assessing Officer to determine the appropriate proportion of the sum that is chargeable to tax, so that tax is deducted only on that proportion. It is the right tool for a composite contract in which only part of the consideration is Indian income, such as a supply with an installation element, and it protects the payer even where the recipient will not engage.

Section 393(10) matters commercially. Where the contract puts the tax on the payer, the income is grossed up for deduction purposes, so a clause promising the supplier a net amount enlarges the Indian tax base rather than removing it. A contract that is silent on who bears Indian withholding tax is a contract that has decided nothing.

The remittance filings are Form No. 145 and Form No. 146, the successors to Forms 15CA and 15CB, and they are prescribed under the Income-tax Rules, 2026. A lower or nil deduction certificate under Section 395(1) is the other route, and the firm deals with it separately on its withholding tax page.

What remedies does the non-resident recipient have?

The recipient is not a spectator. Its exposure is real, because the payer will normally recover the tax under the contract, and because the character of the payment will be tested in the recipient’s own Indian assessment.

Apply for a certificate under Section 395(1). The payee may apply to the Assessing Officer for deduction at a lower rate or for no deduction. That fixes the rate prospectively and takes the argument out of the payer’s hands.

Put the treaty entitlement on the record under Section 159(8). A non-resident is entitled to treaty relief only if it obtains a certificate of residence and provides the other prescribed documents and information, which are furnished in Form No. 41, the successor to Form 10F.

Claim the excess back under Section 431. Where more tax has been deducted than the non-resident is properly chargeable with, the route is an Indian return and a refund claim, with the treaty position taken on the record. This is also the forum in which the character of the payment, such as royalty against business profits, is decided.

Use the Mutual Agreement Procedure where the treaty is the real issue. The CBDT’s MAP Guidance provides access to a non-resident anticipating taxation not in accordance with the treaty, states that the MAP discussion is taken up only after an assessment order is passed in the non-resident’s own case, because the order against the payer is purely under domestic law, and allows tax paid, excluding interest, on the demand raised against the Indian payer to be adjusted against the non-resident’s liability if MAP resolves the dispute.

In the author’s view, the commercial answer usually lies in the contract rather than in the Act. A withholding clause should say who bears Indian tax, whether the amount is grossed up, who applies for a certificate and by when, and what the recipient must supply, including the residence certificate and the information in Form No. 41. Those four sentences decide who carries the loss.

Old and new references at a glance

What should be settled before the first payment?

Four things, in order. Decide whether the sum is chargeable in India and on what basis. Fix the treaty position and collect the residence certificate and the Form No. 41 information before the invoice, not after the notice. Decide whether to apply under Section 395(1) or Section 395(2), and allow time for it. Write the withholding clause so that the answer to who bears the tax is on paper. In the author’s view, a payer that does these four things rarely meets Section 398 at all, and a payer that does none of them meets it with a weak hand and no deduction for the year.

Related Services

Withholding Tax on Payments to Non-Residents: rate determination, treaty documentation, certificates and default proceedings.

International Taxation and Cross-Border Tax Planning: treaty analysis, characterisation of cross-border payments and international tax disputes.

Key Sources

Income-tax Act, 2025, Section 393 (deduction of tax at source, including payments to non-residents)

Income-tax Act, 2025, Section 395 (certificates and determination of the taxable proportion)

Income-tax Act, 2025, Section 398 (person deemed to be an assessee in default, interest, charge and time limit)

Income-tax Act, 2025, Section 448 (penalty for failure to deduct tax at source)

Income-tax Act, 2025, Section 412 (penalty payable when tax in default)

Income-tax Act, 2025, Section 476 (failure to pay tax deducted at source to the credit of the Central Government)

Income-tax Act, 2025, Section 35 (amounts not deductible in certain circumstances)

Income-tax Act, 2025, Section 431 (refunds)

Income-tax Act, 2025, Section 356 (appealable orders, including an order under Section 398)

Income-tax Act, 2025, Section 159 (treaty relief, and the residence certificate requirement)

Income Tax Department, forms under the Income-tax Rules, 2026 (Forms No. 41, 128, 145, 146 and 149)

CBDT, Mutual Agreement Procedure (MAP) Guidance 2022, F. No. 500/09/2016-APA-I

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.