Budget 2010 - Highlights FII

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K P M G I N I N D I A

Budget 2010 HighlightsForeign Institutional Investors26 February 2010

TA X


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Foreword

The Tax and Regulatory team in India is pleased to release the KPMGs Budget

2010 Highlights relating to Foreign Institutional Investors (FIIs) highlighting some

of the key tax amendments and regulatory developments.

India allowed foreign portfolio investment in Indian securities 1993 when the then

Finance Minister and current Prime Minister of India, sought to amend the foreign

investment regulations by permitting recognized FIIs to invest in securities listedon the Indian stock exchanges. Since then, the FIIs have continued to believe in

and contribute to the India growth story. The economy has attracted increasing FII

investments. Though there have been no major changes introduced in the budget,

the Finance Minister has expressed his confidence that the government will be

able to implement the Direct Tax Code from 1 April 2011.

The issue covers the key tax highlights, policy proposals laid during the budget,

regulatory and tax developments during the period beginning 1 April 2009 till date

We hope the highlights will prove to be valuable to you.

Abizer DiwanjiExecutive DirectorKPMG in India

Naresh MakhijaniTax

KPMG in India


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Table of Contents

Income-tax rate card of Foreign Institutional Investors (FIIs) 02

Securities Transaction Tax (STT) rate card 03

New Double Taxation Avoidance Agreements (DTAAs) whichcame into force since 1 April 2009 04

Tax Provisions relating to incomes of FIIs (including proposed changes) 05

Policy proposals outlined in the last Budget and its implementation 12

Policy proposals listed in the current Budget relating to thefinancial sector 13

Key regulatory amendments from March 2009 14

Key income tax related developments 24

Glossary 34


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2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International, a Swiss cooperative. All rights reserved.. 2

Income tax rate card of Foreign Institutional Investors (FIIs)

Rate card for tax on income for FIIs/sub-account

Financial year 1 April 2010 to 31 M arch 2011(all numbers are in percentages)

Corporate Non-Corporate

Total Income (INR) Total Income (INR)Nature of Income

< 10 million > 10 million In all cases

Dividends / income from units* NIL NIL NIL

Interest on securities 20.6 21.115 20.6

Sale of shares and units of equityoriented funds chargeable to STT

Short-term capital gains 15.45 15.836 15.45

Long-term capital gains NIL NIL NIL

Sale of securiti es (other thanshares and units of equity orientedfunds chargeable to STT)

Short-term capital gains 30.9 31.673 30.9

Long-term capital gains 10.3 10.558 10.3

Business Income 41.2 42.23 30.9

* Investors are exempt, provided the Indian Company declaring dividend pays dividend

distribution tax at the rate of 16.609 percent on dividends declared.

The above mentioned rates are as per the domestic tax law in India. FIIs and sub-accounts

which are tax resident of countries with which India has signed DTAA are eligible to claim

lower rate of tax or a complete exemption from tax under the DTAA.

No change in the FII tax

rates for taxing the income

received in respect of

securities and on sale of the

securities.


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Securities Transaction Tax (STT) rate card

STT is levied on the value of taxable securities transactions as under:

Sr. No. Transaction RatesIn percent On value Paid by

1 Purchase or sale of equity shares,

units of equity oriented mutual

fund (delivery based)

0.125 Settlement price Purchaser and

Seller

2 Sale of equity shares, units of

equity oriented mutual fund(non-

delivery based) 0.025

Settlement price

Seller

3 Sale of derivatives - Futures 0.017 Price at which

future is traded

Seller

4 Sale of Option in securities 0.017 On option premium Seller

5 Sale of Option in securities,

where option is exercised

0.125 Settlement price Purchaser

6 Sale of unit of an equity oriented

fund to mutual fund

0.25 Settlement price Seller

STT rates remain unchanged


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New DTAAs which came into force since 1 April 2009

Sr.No. DTAA/Protocol Details of taxing rights

Date of Effect

Capital gains from alienation of shares are taxable in India1 India-Syrian Arab Republic

(1 April 2009)Capital gains from alienation of securities (other than shares) are not

taxable in India

Capital gains from alienation of shares are taxable in India2 India-Botswana


taxable in India

Capital gains from alienation of shares are taxable in India3 India- Council of Ministers

of Serbia and Montenegro

(1 April 2009) Capital gains from alienation of securities (other than shares) are nottaxable in India

Capital gains from alienation of shares are taxable in India4 India-Myanmar


taxable in India

Capital gains from alienation of shares are taxable in India5 India-Tajikistan

(1 April 2010)

Capital gains from alienation of securities (other than shares) are not

taxable in India

Capital gains from alienation of shares are taxable in India6 India-Grand Duchy of

Luxembourg

(1 April 2010) Capital gains from alienation of securities (other than shares) are not

taxable in India

New DTAAs awaiting entry into force

Sr.No. DTAA/Protocol Proposals

Date of Effect

Capital gains from alienation of shares are taxable in India1 India-Mexico

(To be notified)Capital gains from alienation of securities (other than shares) are not

taxable in India

Generally, the trend emerging

with regard to DTAAs being

signed by India is that capital

gains on alienation of shares of

Indian Companies are chargeable

to tax in India


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Tax provisions relating to incomes of FIIs (includingproposed changes)

The Honorable Finance Minister of India Shri Pranab Mukherjee presented the Union Budget

2010-2011 in the Indian Parliament today. There has been no major change proposed in the

Budget impacting taxation of Foreign Institutional Investors (FIIs). The tax provisions relating to

incomes of FIIs (including proposed changes) are listed below:

Tax on capital gains

Where STT is not levied:

Short-term1 capital gains on sale of securities

Long-term2 capital gains on sale of securities

Where STT is levied:

Short-term capital gains on sale of taxable

securities (other than derivatives)

Long-term capital gains on sale of taxable

securities (other than derivatives)

303 percent (plus surcharge 4 and cess 5 thereon)

106 percent (plus surcharge and cess thereon).

15 percent7 (plus surcharge and cess thereon)

NIL8.

Surcharge on income tax

Corporate

Total taxable income is more than INR 10 million

Total taxable income is upto INR 10 million

Non-Corporate

2.5 percent on income-tax

NIL

NIL

1 Short-term capital gains arise on transfer of short term capital asset which includes shares in an Indian company or any other security listed on a recognised stock exchange in

India and held for not more than 12 months. In case of other assets, short-term capital asset means assets held for not more than 36 months.

2 Long-term capital gains are gains arising on sale of assets other than short-term capital assets.

3 Section 115AD of the Act

4 Surcharge at the rate of 2.5 percent is applicable to a foreign corporate, if taxable income exceeds INR 10 million;

5 Cess is an additional levy of 3 percent on tax plus surcharge.

6

Section 115AD of the Act7 Section 111A of the Act

8 Section 10(38) of the Act


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9

10 Section 10(34) read with Section 115O of the Act.

11 Section 10(35) read with Section 115R of the Act.

12 Base tax at the rate of 15 percent as per Section 115R of the Act plus surcharge at the rate of 7.5 percent and cess at the rate of 3 percent thereon

13 Base tax at the rate of 25 percent as per Section 115R of the Act plus surcharge at the rate of 7.5 percent and cess at the rate of 3 percent thereon14 Base tax at the rate of 12.5 percent as per Section 115R of the Act plus surcharge at the rate of 7.5 percent and cess at the rate of 3 percent thereon

15 Base tax at the rate of 20 percent as per Section 115R of the Act plus surcharge at the rate of 7.5 percent and cess at the rate of 3 percent thereon

Cess on income-tax

3 percent on income-tax plus surcharge, if applicable.

Tax on dividends and unit income

Dividends declared, distributed and paid by Indian Companies are exempt10 in the hands of the shareholders

Unit income received by unit holders from a mutual fund is exempt11 in the hands of the unit holders

Tax on distribution of dividend income or unit income (DDT)

Nature of Distribution Rate of DDT

Dividend distributed by domestic Indian company

Distribution by an equity oriented mutual fund

Distribution by a money market or a liquid mutual

fund

Income distributed by any other mutual fund to:

- Individuals and Hindu Undivided Families- Trusts, Corporate, etc

16.60912 percent in all cases

Exempt from payment of DDT

27.68113 percent in all cases

13.84114 percent

22.14515 percent

Tax on interest income

Interest income received in respect of securities 20 percent (plus surcharge, if any, and cess thereon).

Rate of surcharge reduced

from 10 percent to 7.5 percent

in case of domestic companies

T - This impacts the effective

tax rate of DDT and tax on unit

income.


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16 Section 94(7) of the Act17 Section 94(7) of the Act


Dividend stripping adjustment16

When a person buys or acquires a security (other than units) within the three months prior to the record

date,

sells or transfers them within three months of the record date, and

dividend /income received or receivable from such securities is tax exempt,

then the loss if any, arising from such sale should be ignored to the extent that such a loss does not

exceed the amount of exempt dividend / income on such securities

Unit income stripping17 adjustment

When a person buys or acquires a units within the three months prior to the record date,

sells or transfers them within nine months of the record date, and

income received or receivable from such units is tax exempt,

then the loss arising from such sale should be ignored to the extent that such a loss does not exceed the

amount of tax exempt income on such units

Bonus stripping adjustment 18

When a person buys or acquires units (original units) within the three months prior to the record date,

is allotted additional bonus units on the basis of original units held;

sells or transfers all or any the original units within nine months of the record date for a loss, and

continues to hold all or any bonus units on such date,

then the loss on the sale of all or any original units shall be ignored, and such ignored loss shall be

deemed to be the cost of bonus units held on the date of sale of transfer of original units


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Set-off of capital l osses19

In the year of occurrence,

Long term capital loss

Short term capital loss

During subsequent 8 assessment years of carry

forward,

unabsorbed long-term capital loss

unabsorbed short-term capital loss

can be set-off only against long term capital

gain

can be set-off against short term capital gainand long term capital gain

can be set-off only against long term capital

gain

can be set-off against short term capital gain

and long term capital gain

Tax on income from exchange traded derivative transactions

An exchange traded derivative transaction20 is not to be termed as speculative in nature.

Profit from exchange traded derivative transaction, if classified as business income, should be taxable at 30

percent / 40 percent21, plus applicable surcharge and education cess

Profit from exchange traded derivative transactions, if classified as capital gains, should be taxable at 30

percent22 plus applicable surcharge and education cess

Transfer of notified zero coupon bond23

Maturity or redemption of a prescribed zero coupon bond is a transfer24of a capital asset

Long-term capital gains - 10 percentplus surcharge and cess thereon

Short-term capital gains - 30 percentplus surcharge and cess thereon

No tax is to be withheld on discount payable on maturity or redemption of such zero coupon bonds held by a

FII or a sub-account

Investing in Global Depository Receipts (GDR) / Foreign Currency Convertible Bonds (FCCB)

Transfer of GDR or FCCB outside India between two non-residents is not taxable25 in India

Conversion of GDR / FCCB into shares should not be taxable in India

Sale of shares converted from FCCB / GDR are taxable in India.

The rate of tax on capital gains is same as applicable when sold on the stock exchanges as provided

above.

The rate of tax on capital gains arising on sale of shares not on the stock exchange is

19 Section 70 and 74 of the Act


21 30 percent in the case of foreign non -company and 40 percent in the case of a foreign company

22 As per section 115AD of the Act

23 As per Section 2(48) of the Act "zero coupon bond" means a bond-

(a) issued by any infrastructure capital company or infrastructure capital fund or public sector company on or after the 1st day ofJune, 2005;

(b) in respect of which no payment and benefit is received or receivable before maturity or redemption from infrastructure capital company or infrastructure capital fund or public

sector company; and(c) which the Central Government may, by notification in the Official Gazette, specify in this behalf.



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STCG 30 percent for non-corporate and 40 percent for corporate (plus surcharge and education

cess)

LTCG 10 percent (plus surcharge and education cess)

The cost of acquisition of shares underlying a GDR is the price prevailing on the stock exchange on the date

on which the Overseas Depository Bank advises the Domestic Custodian Bank for redemption26

The cost of acquisition of shares underlying a FCCB should be the price prevailing on the stock exchange on

the date of conversion of FCCB into shares27

Foreign Currency Exchangeable Bond (FCEB)

Conversion of FCEB into shares should not be taxable in India

Income arising on sale of shares converted from FCEBs is taxable in India as per tax provisions applicable on

sale of shares.

The cost of acquisition of the shares converted is the proportionate cost of acquisition of the FCEB

Short Selling, lending and borrowing of shares

CBDT clarified in February 2008 that lending and borrowing of securities under the SLB scheme notified in

December 2007 should not be a taxable transfer under the Income-tax, Act 1961. So the income earned

from lending should not be taxable as capital gains.

Such lending and borrowing shall not be liable to Securities Transaction Tax (STT).

Tax Implications

Lender:

Income from lending should be business income / income from other sources taxable in India.

Borrower:

Short-sale should not be speculative and capital gains/loss should be computed on identified sale and

purchase of shares distinct from borrowing and return of shares.

Borrowing of securities is not transfer.

Payment of borrowing charges should be allowable while computing capital gain/loss.

25 Section 47(viia ) of the Act 26 Clause 7(3) of the Issue of foreign currency convertible bonds scheme, 1993

27 Clause 7(4) of the Issue of foreign currency convertible bonds scheme, 1993


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Wi thholding taxes28 on sums payable to a non resident

In case of a FII or a sub account,

no tax is to be withheld from income by way of capital gains arising on transfer of securities (FII / sub-

account required to pay advance tax during the year),

tax is to be withheld by the person responsible for paying the income in respect of securities at 20

percent (plus applicable surcharge and cess)

In case of payments made to non-resident (other than investment through the FII portfolio investment route),

the person responsible for paying to the non-resident is required to withhold tax at source on any sums

chargeable to tax at the time of credit or payment thereof, whichever is earlier

the person responsible for making the payment is required to furnish information in Form 15CA in

electronic form on the basis of the certificate of a chartered accountant in Form 15CB

the Form 15CA is required to be electronically uploaded on the NSDL website and an acknowledgement

number is generated

The hard copy of Form 15CA is required to be signed by the person responsible for making the

remittance who is also required to submit it along with Form 15CB to the authorised dealer

The authorised dealer makes the remittance and furnishes copies of Form 15CA and Form 15CB to the

Income tax Authority.

No tax is required to be withheld by an Indian company on interest payable to a resident investor on security

in dematerialised form and listed on the recognised stock exchange29. However, tax is required to be withheld

on interest payable to non-resident.

28 Section 195 of the Act

29 Section 193(ix) of the Act


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Indian minimum tax compliance obligations

Non-corporate assessee

Is required to file an annual Indian tax Return of Income for the previous year on or before 31 July.

Is required to pay advance tax, if any, in three instalments ending on 15 September, 15 December and 15

March of the previous year.

Corporate assessee

Is required to file an annual Indian tax Return of Income for the previous year on or before 30 September.

Is required to pay advance tax, if any, in four instalments ending on 15 June, 15 September, 15 December and

15 March of the previous year

Other proposed tax amendments in the current Budget impacting FIIs

The wide-ranging discussions with stakeholders have been concluded Government will be in a position toimplement the Direct Tax Code with effect from 1 April 2011.

Limits for turnover over which accounts need to be audited enhanced from 4 million to INR 6 million for

businesses as per section 44AB of the Act from AY 2011-12 onwards

Interest charged on tax deducted by the payee but not deposited by the specified date to be increased to 18

per cent from 12 per cent per annum as per section 201(1A) of the Act from 1 July 2010 onwards.

Rate of Minimum Alternate Tax (MAT) increased from the current rate of to 18 per cent from 15 per cent of

book profits from AY 2011-12 onwards

Where any fees are payable by a non-resident (deductor) in respect of services utilized in a business or

profession carried on by such non-resident (deductor) in India or for the purpose of making or earning any

income from any source in India, such fee shall be deemed to accrue or arise in India and shall be included in

the income of the non-resident (deductor).

This provision applies whether or not

The non resident has a residence or place of business or business connection in India;

The non-resident has rendered services in India

This amendment in section 9(1)(vii) of the Act is proposed to take retrospective effect from AY 1977-78 and

subsequent years

It has been proposed that the deductor of taxes shall continue to furnish the TDS certificates to the deductee

even after 1 April 2010 by way of amendment to section 203(3) of the Act.

It has been proposed that aDocument Identification Numberbe required to be issued as per section 282B

of the Act before issuing every notice, order, letter or any correspondence to any other income tax authority or

assessee or other person on or after 1 July 2011 (instead of 1 October 2010)

Proposals

The Centralized Processing Centre at Bengaluru is now fully functional and is processing around 20,000

returns daily. This initiative will be taken forward by setting up two more centers during the year

The Income Tax department has introduced Sevottam, a pilot project at Pune, Kochi and Chandigarh through

Aayakar Seva Kendras, which provide a single window system for registration of all applications including

those for redressal of grievances as well as paper returns. The scheme will be extended to four more cities in

the year.

Direct tax Code scheduled to

be implemented from 1 April

2011

Interest on tax withheld by

deductor but not deposited to

be charged at 18 percent per

annum


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Policy proposals outlined in the last Budget and itsimplementation

Policy Implementation

IIFCL would, in consultation with banks, evolve a

takeout financing scheme which could facilitate

incremental lending to the infrastructure sector.

Takeout financing is an accepted international

practice of releasing long term funds for financing

infrastructure projects.

IIFCLs disbursements are expected to touch Rs

9,000 crore by end March 2010 and reach

around Rs 20,000 crore by March 2011.

IIFCL has refinanced bank lending to

infrastructure projects of INR 3,000 crore during

the current year and is expected to more than

double that amount in 2010-11.

Banks and insurance companies to remain outside

the disinvestment program._____

The threshold for non-promoter public shareholding

for all listed companies to be raised in a phased

manner._____

Governments approach to the banking and financial

sector has been to ensure robust oversight andregulation while expanding financial access and

deepening markets.

_____

The Government has established Competition

Commission of India, an autonomous regulatory

body. An appellate body headed by a retired judge of

the Supreme Court has also been constituted.

_____

To enrol atleast 50 per cent of all rural women in

India as members of Self Help Groups over the next

five years and link these to banks._____


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Policy Proposals listed in the current Budget relating to thefinancial sector

The Government proposes to set up a Financial Sector Legislative Reforms Commission

to rewrite and clean up the financial sector laws to bring them in line with the

requirements of the sector.

Government intends to make the Foreign Direct Investment (FDI) policy user-friendly by

consolidating all prior regulations and guidelines into one comprehensive document. This

would enhance clarity and predictability of our FDI policy to foreign investors.

An apex level Financial Stability and Development Council to be set up with a view to

strengthen and institutionalise the mechanism for maintaining financial stability.

This Council would monitor macro prudential supervision of the economy, including the

functioning of large financial conglomerates, and address inter-regulatory coordination

issues. It will also focus on financial literacy and financial inclusion.

RBI is considering giving some additional banking licenses to private sector players. Non

Banking Financial Companies could also be considered, if they meet the RBIs eligibility

criteria.

For the year 2010-11, a sum of INR 165,000 million provided to Public Sector Banks to

ensure that they are able to attain a minimum 8 per cent Tier-I capital by 31 March 2011.

Government to provide further capital to strengthen the Regional Rural Banks (RRBs) so

that they have adequate capital base to support increased lending to the rural economy.

The take-out financing scheme announced in the last Budget is expected to initially

provide finance for about INR 250,000 million in the next three years.

After careful assessment of the recommendations of a High Level Committee on the

Lead Bank Scheme and in further consultation with the RBI, it has been decided to

provide appropriate Banking facilities to habitations having population in excess of 2000 by

March, 2012.

It is also proposed to extend insurance and other services to the targeted beneficiaries.

These services will be provided using the Business Correspondent and other models with

appropriate technology back up. By this arrangement, it is proposed to cover 60,000

habitations.

The programme for linking Self Help Groups (SHGs) with the banking system has

emerged as the major micro-finance initiative in the country. It was re-designated as the

'Micro-Finance Development and Equity Fund' in 2005-06 with a corpus of INR 2,000

million. The fund corpus is being doubled to INR 4,000 million in 2010-11.


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Key regulatory amendments from March 2009

Investment Limits Allocation Methodology of Debt Investment Limits to FIIs

Standardized lot size for derivative contracts on individual securities

Review of Securities Lending and Borrowing (SLB) Framework

Market Access through Authorised Persons

Revision of transaction charges by the stock Exchanges

Interest rate futures (IRF)

Delivery Period for Interest Rate Futures

Trading Hours on Stock Exchanges

Abolition of no-delivery period for all types of corporate actions

Expiry Date for Equity Derivative Contract

Comprehensive Risk Management Framework for the cash market

Clearing and Settlement of trades in Corporate Bonds through Clearing

Corporations

Issue of Indian Depository Receipts (IDR) operationalised by the Reserve Bank

of India (RBI) under foreign exchange regulations

Initiatives in products and

processes

Dealings between a client and a stock broker (trading members included)

Draft Direct Taxes Code 2009 changes impacting taxation of Foreign Institutional

Investors

CBDT notifies Dispute Resolution Panel Rules, 2009

Clarification regarding filing of Objections before Dispute Resolution Panel (DRP)

Mandatory Requirement of Permanent Account Number (PAN)

Important decisions

Key Income tax related

developments

Revision of the India-Finland treaty


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Investment Limits

Allocation Methodology of Debt Investment Limits to FIIs

The overall FII investment limit in Corporate Debt presently stands at USD 15 billion as

against USD 3 billion in mid 2008, reflecting an increase of USD 12 billion. Of this increase,

it was decided in 2009 that USD 8 billion will be be allocated in an open bidding platform of

the Stock Exchanges whereby a limit upto INR 10,000 crore ( 30 approx USD 2 billion) was

to be allocated per registered entity. Such limit was to be utilised within 45 days. The

remaining limit of USD 4 billion is to be allocated to FIIs on a first come first served basis

upto INR 249 crore (approx USD 0.05 billion) per registered entity and the same is to be

utilised within 11 working days.

The present overall FII investment limit of Government Debt (G-sec) stands at USD 5

billion as against USD 3.2 billion in mid 2008. A total G-Sec limit of INR 10,000 crore(approx USD 2 billion) was allocated in an open bidding platform in May 2009 whereby a

maxium limit upto INR 1,000 crore (USD 0.2 billion) was sought to be allocated to each

entity. Such limit was to be utilised within 45 days.

The remaining limit of G-Sec was sought to be allocated on a first come first served

basis upto INR 249 crore (approx USD .05 billion) per registered entity. This was to be

utilised within 11 working days from the date of allocation.

SEBI decided to revise the maximum allocation in open bidding platform to each entity

upto INR 800 crore (approx USD 0.16 billion) in the bidding of September 2009 on NSE and

INR 300 crore (approx USD 0.06 billion) in the bidding of December 2009 on BSE. The

minimum bid amount was freezed at 50 crore (approx USD 0.01 billion).

It was decided that the remaining unutilised limit of G-Sec to be allocated on first come

first serve basis to the extent INR 350 crore (approx USD 0.7 billion) subject to a ceiling of

INR 50 crore (approx USD 0.01 billion) per registered entity in December 2009 against INR

249 crore (approx USD 0.05 billion) earlier.

Source: SEBI Cir No. IMD/FII & C/41/2009 dated 15 December 2009, SEBI Cir No. IMD/FII & C/40/2009 dated 4 September

2009, PR No. 161/2009 dated 15 May 2009, SEBI Circular No IMD/FII & C/ /2009 dated 12 May 2009, SEBI Circular No IMD/FII

& C/ 37/2009 and IMD/FII & C/38/2009 dated 6 February 2009 and 13 March 2009, Circular No. IMD/FII & C/ 33 /2007 dated 16

October 2008, Circula r No IMD/FII & C/ 30/2008 dated 4 July 2008.

30 * the conversion from INR to USD has been done at 1 USD= INR 50


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Initiatives in products and processes

Standardized lot size for derivative contracts on individual securitiesSEBI decided to standardize the lot size for derivative contracts on individual securities by

superseding its earlier circular dated 23 February 2004 regarding minimum contract size forexchange traded derivative contracts.

The basis of arriving at lot sizes is as follows:

Stock Exchanges to review the lot sizes once in every 6 months based on average of

closing price of the underlying security for the last one month; Wherever warranted, the lot

size to be revised after giving an advance notice of two weeks to the market;

The revised lot size, if higher than the existing one, to be effective for only new contracts.

In case of corporate actions, the revision in lot size of existing contracts shall continue to be

carried out such that the value of the position of the market participants on cum and ex-date

of corporate action shall continue to remain the same as far as possible.

The Stock Exchanges to ensure that the lot size is same for an underlying security traded

across all exchanges.

Source: SEBI/DNPD/Cir-50 /2010 dated 8 January 2010, ,SEBI/DNPD/Cir-20/2004/02/23 February 23, 2004 and SMRDP/DC/CIR-

15/02 December 18, 2002.

Contract SizePrice Band INR

Lot Size

(No. of units underlying)

Value (INR Lakh)

>1601 125 > 2

801-1600 250

401-800 500

201-400 1,000101-200 2,000

51-100 4,000

25-50 8,000

2 < 4


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Review of Securities Lending and Borrowing (SLB)Framework SEBI reviewed and modified the Securities Lending and Borrowing (SLB) frameworkoperationalised on 21 April 2008 and revised on 31 October 2008.

Pursuant to feedback from market participants and proposals for revision of SLB received fromNational Stock Exchange (NSE) and Bombay Stock Exchange (BSE), SEBI further reviewedand modified the framework of SLB introduced earlier.

The salient points are as under:

The tenure of SLB may be increased from the 30 days to a maximum period of 12months;

The Approved Intermediary (AI) shall have the flexibility to decide the tenure, subject toa maximum period of 12 months;

The facility of early recall of shares to be provided to the lender and the facility of earlyrepayment to be provided to the borrower;

In case of early recall by the lender or early repayment of securities by the borrower, thelending fee for the balance period shall be at a market determined rate;

Points relevant to the lender

In case lender recalls the securities anytime before completion of the contract, the AI ona best effort basis to try to borrow the security for the balance period and pass it onwardto the lender. The AI to collect the lending fee from the lender who has sought earlyrecall;

In case of early recall by the lender, the original contract between the lender and the AIwill exist till the contract with the new lender for the balance period is executed and thesecurities returned to the original lender.

Points relevant to the borrower

In case the borrower fails to meet the margin obligations, the AI shall obtain securitiesand square off the position of such defaulting borrower, failing which there shall be afinancial close-out;

In case of early repayment of securities by the borrower, the margins shall be releasedimmediately;

The AI shall on a best effort basis, try to onward lend the securities and the incomearising out of the same shall be passed on to the borrower making the early repayment ofsecurities;

In case AI is unable to find a new borrower for the balance period, the original borrowerwill have to forego lending fee for the balance period.

Source: SEBI/MRD/DoP/SE/Dep/Cir- 01 /2010 January 06, 2010, MRD/DoP/SE/Dep/Cir-14/2007 December 20,2007 &

MRD/DoP/SE/Cir-31/2008 October 31, 2008.


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Market Access through Authorised PersonsSEBI allowed registered Stock brokers of Stock Exchanges to provide access to clients through

authorized persons in order to expand the reach of the markets for exchange traded products.

An Authorised Person can be an individual, partnership firm, an LLP or a body

corporate.

The appointment should be through a written agreement and all acts of omission andcommission shall be the responsibility of the stock broker.

A person shall not be appointed as authorized person by more than one stock broker onthe same Stock Exchange.

If any trading terminal is provided by the stock broker to an Authorised Person, the placewhere such trading terminal is located shall be treated as branch office of the stockbroker.

Source: MIRSD/ DR-1/ Cir- 16 /09 dated 6 November 2009

Revision of transaction charges by stock exchangesRecently the stock exchanges reduced / waived transaction charges levied by them on the trades

executed on their trading platform,

SEBI, on having noticed the change, advised stock exchanges to ensure the following while revising

such transaction charges:

The stock exchange system is capable of handling additional load.

It does not affect the existing risk management system.

It does not favor selective trades or selective category of investor.

It does not encourage generation of artificial demand.

It does not result in any market irregularities.

It is uniformly applied to trades of similar nature.

It is imposed in fair and transparent manner.

Source: MRD/DoP/SE/Cir-14/2009 dated 14 October 2009.

Interest rate futures (IRF) RBI and SEBI Standing Technical Committee unveiled the norms on exchange-traded interest

rate futures. Interest rate futures are derivative contracts having an interest bearing security as

the underlying instrument.

Foreign portfolio investors and banks have been allowed to trade in IRFs, however limits have

been put in place to keep their influence under check. The new IRFs are based on the yield-to-

maturity (YTM) curve. Initially futures contracts will be based on the 10-year government bond,

with a semi-annual coupon of 7 percent. There would be quarterly contracts and each contract to

be worth INR 2 lacs. Limits have been placed on gross-open positions of clients across all

contracts at 6 percent of the total open interest or INR 300 crore, whichever is higher.


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In case of FIIs total gross long position in the debt market and IRF not to exceed the maximum

permissible debt market limit prescribed from time to time. Short position in IRF not to exceed

long position in the debt market and in IRF.

Source: RBI Notification dated 28 August 2009

Delivery Period for Interest Rate Futures Based on feedback received from Stock Exchanges, it was decided by SEBI to allow Exchanges to

set any period of time during the delivery month as the delivery period for the deliverable grade

securities.

Source: SEBI/DNPD/Cir-49/2009 dated 22 December 2009

Trading Hours on Stock Exchanges In consultation with the Stock Exchanges and other market participants, SEBI decided to permit

the Stock Exchanges to set their trading hours (in the cash and derivatives segments) subject to

the condition that;

The trading hours are between 9 AM and 5 PM, and

The Exchange has in place risk management system and infrastructure commensurate to the

trading hours.

Source: SEBI/DNPD/Cir-47/2009 dated 23 October 2009

Abolition of no-delivery period for all types of corporateactions SEBI decided to reduce the timelines for notice period in respect of all corporate actions like

dividend, bonus etc. for all scrips whether demat or physical, whether in F & O segment or not.

The notice period for record date to be reduced to 7 working days and for board meeting reduced

to 2 working days.

Based on the recommendations made by the Secondary Market Advisory

Committee (SMAC) SEBI decided to do away with no-delivery period for all types of corporate

actions in respect of the scrips which are traded in the compulsory dematerialised mode.

Accordingly, short deliveries, if any, of the shares traded on cum-basis may be directly closed

with the mark up price of 10 percent.

Earlier, SEBI vide its earlier circular dated 16 April 2002, had instructed stock exchanges that no

delivery period on account of book- closure/record date for corporate action such as issue of

dividend and bonus share in respect of the scrips which are traded in the compulsory

dematerialised mode to be abolished and short deliveries of the shares traded on cum-basis may

be directly closed out to the extent of the short delivery if shares cannot be acquired in auction

on cum basis and the mark-up price to be 10 percent.

It had been decided that the reference price for the close out to be the latest available closing

price at the exchange.

Source: MRD/DoP/SE/Cir-7/2009 dated 21 July 2009, SEBI/CFD/DIL/LA/1/2009/24/04 April 24, 2009 and SMD/Policy/Cir-08/2002

April 16, 2002, SMD/Policy/cir-03/2002 dated 30 January 2002.


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Expiry Date for Equity Derivative Contract

SEBI decided to allow flexibility to Stock Exchanges to set the expiry date /day for equityderivative contracts.

However, Stock Exchanges to ensure that:

there is no change in the contract specifications or the risk management framework; and

the integrity of the market is not affected in any manner.

Source: SEBI/DNPD/Cir-48/2009 dated 13 November 2009

Comprehensive Risk Management Framework for the cash market -

w.e.f. 17 August 2009

Based on the recommendations by the Secondary Market Advisory Committee (SMAC), SEBI

decided to implement the following:

In case of a buy transaction in the cash market,

VaR margins, Extreme loss margins and mark to market losses together not to exceed the

purchase value of the transaction.

In case of a sale transaction in the cash market, the existing practice to be continued. viz,

VaR margins and Extreme loss margins together not to exceed the sale value of the

transaction and mark to market losses to be levied.

Source: MRD/DoP/SE/Cir-8/2009 dated 27 July 2009, MRD/DoP/SE/Cir-07/2005 February 23, 2005

Clearing and Settlement of trades in Corporate Bonds through Clearing

Corporations

SEBI decided that all trades in corporate bonds between specified entities, namely, mutual

funds, foreign institutional investors/ sub-accounts, venture capital funds, foreign venture capital

investors, portfolio mangers, and RBI regulated entities as specified by RBI to be necessarily

cleared and settled through the National Securities Clearing Corporation Limited (NSCCL) or the

Indian Clearing Corporation Limited (ICCL).

The provisions of this circular to be applicable to all corporate bonds traded Over The Counter

(OTC) or on the debt segment of Stock Exchanges on or after December 01, 2009.

However, the provisions of this circular not to apply to trades in corporate bonds that are traded

on the Capital Market segment/ Equity segment of the Stock Exchanges and required to be

settled through clearing corporations/ clearing houses of Stock Exchanges.

All transactions cleared and settled in terms of this circular will be subject to such norms as

may be specified by NSCCL and ICCL.

Source: MRD/DoF-1/BOND/Cir-4/2009 dated 16 October 2009


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Issue of Indian Depository Receipts (IDR) operationalised by the Reserve

Bank of India (RBI) under foreign exchange regulations

The RBI through its A.P. (DIR Series) Circular No. 05 dated 22 July 2009 operationalised the IDR

Rules / Scheme under the Foreign Exchange Management Act 1999 (FEMA) and its Rules / Regulations.

The IDR Rules / Scheme facilitates eligible foreign companies to issue IDRs through a Domestic

Depository and permit persons (resident in India / outside India) to purchase, possess, transfer and

redeem IDRs

Framework for issue of IDRs

Pursuant to the RBI Circular:

Eligible companies resident outside India can issue IDRs through a Domestic Depositorysubject to compliance with the Companies (Issue of Depository Receipts) Rules 2004 andSEBI (Disclosure and Investor Protection) Guidelines 2000.

Financial or banking companies having presence in India either through a Branch orSubsidiary required to obtain prior approval of the sectoral regulator(s) for raising fundsthrough issuance of IDRs

Investment by Persons resident in India / FIIs / NRIs in IDRs

Pursuant to the RBI Circular:

Foreign Exchange Regulations would not apply to persons resident in India investing in IDRsand their subsequent transfer arising out of a transaction on a Recognized Stock Exchangein India.

Foreign Institutional Investors (FIIs) / their approved sub-accounts can invest / divest inIDRs within the permissible ceilings /compliance framework i.e. FEMA Inbound Regulation(Notification No. 20/ 2000-RB dated 3 May 2000)

NRIs can invest in IDRs within the permissible ceiling / compliance framework under FEMA(Notification No. 20/ 2000-RB dated 3 May 2000) including out of funds held in their NRE / FCNR(B) bank accounts.

Other salient features

Automatic fungibility of IDRs is not permitted.

IDRs cannot be redeemed into underlying equity shares before the expiry of one year fromthe date of issue.

For Listed Indian Companies and Indian Mutual Funds, Redemption/ conversion of IDRs intounderlying shares and its holding will need to fall in line with the FEMA OutboundRegulations (Notification No. 120/ 2000-RB dated 7 July 2004).

For other residents / entities (excluding FIIs / their approved sub-accounts), holding ofshares on conversion of IDRs allowed only for 30 days for the purpose of sale.

IDRs to be denominated in Indian Rupees and its proceeds are to be immediatelyrepatriated outside India.

Source: RBI Circular No. 05 dated 22 July 2009


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Dealings between a client and a stock broker (trading members included)With a view to instill greater transparency and discipline in the dealings between the

clients and the stock brokers, SEBI in consultation with Investor Associations,

Secondary Market Advisory Committee of SEBI (SMAC), market participants and major

stock exchanges decided that the stock brokers to comply with the main requirementsas mentioned below:

Client Registration Procedure

The stock broker to register a client by entering into an agreement and making a folder /book

containing all the documents required for registration of a client. Once the agreement is

signed, a copy of the same to be made available to the client.

Mandatory Documents

The mandatory documents to be executed in the format as prescribed by SEBI:

a. Member Client Agreement (MCA)/Tripartite Agreement in case sub broker is

associated,

b. Know Your Client (KYC) Form

c. Risk Disclosure Document (RDD)

Non- Mandatory Documents

Any term or condition other than those stated in the mandatory part shall form part of non-

mandatory documents.

Any authorization sought in non-mandatory part shall be a separate

document and shall have specific consent of the client.

Running Account AuthorizationUnless otherwise specifically agreed to by a Client, the settlement of funds/ securities shall be

done within 24 hours of the payout. However, a client may specifically authorize the stock broker

to maintain a running account subject to the following conditions:

a. The authorization to be renewed at least once a year.

b. The authorization to be signed by the client only and not by any authorised person on his

behalf or any holder of the Power of Attorney.

c. The authorization to contain a clause that the Client may revoke the authorization at any

time.

d. For the clients having outstanding obligations on the settlement date, the stock broker may

retain the requisite securities/funds towards such obligations and may also retain the funds

expected to be required to meet margin obligations for next 5 trading days, calculated in the

manner specified by the exchanges.

e. The actual settlement of funds and securities shall be done by the broker, at least once in a

calendar quarter or month, depending on the preference of the client.

f. The client to bring any dispute arising from the statement of account or settlement so made

to the notice of the broker preferably within 7 working days from the date of receipt of

funds/securities or statement, as the case may be.

g. Such periodic settlement of running account may not be necessary:

i. for clients availing margin trading facility as per SEBI circular


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ii. for funds received from the clients towards collaterals/margin in the form of bank

guarantee (BG)/Fixed Deposit receipts (FDR).

h. The stock broker to transfer the funds / securities lying in the credit of the client within one

working day of the request if the same are lying with him and within three working days

from the request if the same are lying with the Clearing Member/Clearing Corporation.

i. There shall be no inter-client adjustments for the purpose of settlement of the running

account.

j. These conditions shall not apply to institutional clients settling trades

through custodians. The existing practice may continue for them.

Authorization for Electronic Contract Notes

The stock broker may issue electronic contract notes (ECN) if specifically authorized by the client

subject to the following conditions:

a. The authorization to be in writing and be signed by the client only and not by any authorised

person on his behalf or holder of the Power of Attorney.

b. The email id shall not be created by the broker. The client desirous of receiving ECN shall

create/provide his own email id to the stock broker.

c. The authorization shall have a clause to the effect that that any change in the email-id shall

be communicated by the client through a physical letter to the broker. In respect of internet

clients, the request for change of email id may be made through the secured access by way

of client specific user id and password.

General

No term of the agreement, other than those prescribed by SEBI, shall be changed without the

consent of the client. Such change needs to be preceeded by a notice of 15 days.

As on 31 March of eyery year, a statement of balance of funds and securities in hard form and

signed by the broker shall be sent to all the clients. Source: MIRDS/SE/Cir19/2009 dated 3 December 2009,


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Key income tax related developments

Draft Direct Taxes Code 2009 changes impacting taxation of ForeignInstitutional Investors

BackgroundThe Government released the Direct tax Code, 2009 (the Code) contained in the Draft Direct

Taxes Code Bill 2009 for public comments on 12 August 2009 and the Code, if enacted, is

expected to come in force on 1 April 2011 .

The thrust of the Code is to improve the efficiency and equity of our tax system by eliminating

distortions in the tax structure, introducing moderate levels of taxation and expanding the tax

base.

Under the Code, residence based taxation is applied for residents and source-based taxation is

applied for non-residents. The concept of previous year and assessment year will be replaced by a

unified concept of financial year.

Under the Code, income has been proposed to be classified into two broad groups: income from

ordinary sources and income from special sources.

Income from ordinary sources refers to:

Income from employment;

Income from house property;

Income from business;

Capital gains and

Income from residuary sources.

Income arising from a special source shall include winning from lotteries, horse-races, etc. in case

of all taxpayers and certain income of non-residents such as capital gains, royalties and fees fortechnical services.

The key changes impacting the taxation of the Foreign Institutional Investors (FIIs) are:

No specific provision for FIIs

Unlike section 115AD of the Income-tax Act, 1961 (the Act), there is no specific provision in the

Code which deal with the tax treatment of income of FIIs.

The income of a non-resident (including a FII or a sub-account) arising on sale of an asset held as

an investment asset is termed as income from special source and any capital gain arising on sale

thereof is subject to tax at 30 percent. The interest income and any other investment income

accruing to the FII is also income from special source and is subject to tax at 20 percent.

No distinction between short-term and long-term gains

The existing distinction between a short-term investment asset and long term investment asset

on the basis of length of holding of the asset is proposed to be done away with. While the tax rate

applicable to capital gains arising on transfer of both short-term and long-term investment asset is

same, the long-term asset shall be eligible for indexation .

Computation of income

Income from a special source is to be computed in accordance with the provisions of the Ninth

Schedule. The schedule specifies the method of computation in respect of income arising from

transfer of equity shares and equity oriented mutual funds. However, it is not clear how the


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income arising from transfer of securities other than equity shares and mutual fund units shall be

computed.

Further, the Schedule specifies that while computing income as mentioned above, it shall be

presumed that every loss, allowance, or deduction has been given effect to, under the Code.

Thus, it is not clear whether brought forward losses shall be allowed to be set-off against the

capital gain computed as above, although the Code separately provides for setting-off the brought

forward losses of earlier years

Capital gain shall be equal to the full value of the consideration minus the cost of acquisition

(COA), cost of improvement (COI) and transfer related expenses. However, COA and COI shall

be adjusted on the basis of cost inflation index to reduce the inflationary gains in the case of an

investment asset transferred anytime after one year from the end of the financial year in which

the asset is acquired by the assessee.

The base date for computing the cost inflation adjustment will be 1 April 2000 and the fair market

value as on that date can be substituted for costs for assets acquired before that date.

The method of computing the capital gains in respect of assets acquired in foreign exchange as

contained in the Act has been done away with. While determining the COA of the shares

converted from Global Depository Receipts (GDRs) and Foreign Currency Convertible Bonds

(FCCBs), the cost of the share shall be determined with reference to the cost of the deposit

certificate or the bond in relation to which the asset was acquired. Under the Act, the Issue of

Foreign Currency Convertible Bonds and Ordinary Shares (Through Depository Receipt

Mechanism) Scheme, 1993 (the Scheme) was relevant in determining the cost.

With no mention reference the Scheme, it is not clear whether the method prescribed in the

Scheme can be taken as the base. If the method prescribed in the Scheme cannot be taken as the

base, it would, in a majority of the cases, result in a larger capital gain as the cost of shares is

shifted to the date of acquisition as compared to the date of redemption/ conversion of GDRs and

FCCBs. In the Code, any business income arising to Non-residents is termed as income from an

ordinary source. Under the Code, FII could possibly lay a claim that its income is business income

which is not an income from special source and liable to be computed as per normal tax

provisions of the Code relating to business income. One would need to be guided by the various

Rulings and judicial precedents in this respect.

The general tax rate in respect of income from ordinary sources applicable to unincorporated body

is 30 percent and the rate applicable to a foreign company is 25 percent.

Abolition of Securities Transaction Tax (STT)

STT shall be abolished. Consequently, there is no exemption in the Code similar to the exemptionunder section 10(38) of the Act in respect of long-term capital gain (LTCG) on sale of shares or

equity oriented mutual fund units. Thus, LTCG is taxable, as mentioned above.

Withholding of taxes at source

There is no specific section in the Code similar to section 196D of the Act providing for specific

relief from tax withholding in respect of income by way of capital gains arising from the transfer of

securities to a FII. By implication, tax shall be required to be withheld at source by the person

responsible for making the payments to FIIs.

It is not clear as to how the mechanism of tax withholding shall be applied in respect of sale of

shares and securities on stock exchanges by FIIs, where the payer does not know the identity of

the payee.


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However, it needs to be seen if the broker/ clearing corporation shall be required to withhold taxes

while making payment to the FII.

Claiming relief under Tax Treaty

Under the Code, power has been granted to the Central Government to enter into an agreement

(the treaty) with the Government of any country to provide relief from double taxation, forexchange of information, etc.

In order to claim relief under the provisions of the treaty, a certificate of tax residency has to be

obtained in the prescribed form. It has been provided in the Code that neither the treaty nor the

Code shall have a preferential status and the provision which is later in time shall prevail.

It is important to limit and provide the exceptional situations under which the Code can override

the treaty.

General anti avoidance rule

In the Code, detailed anti-abuse provisions have been introduced under the head General Anti

Avoidance Rule (GAAR) in order to curb the increasing use of sophisticated tax avoidancemechanisms and mis-utilisation of tax avoidance agreements.

The trigger points for GAAR, inter-alia, include lack of commercial substance, misuse or abuse of

beneficial provisions, lack of bonafide business intent while entering into arrangement.

The manner to arrive at the trigger points have been elaborated with distinct illustrations and citing

various incidents. Definitions of key terms and concepts also provided to help in

analysis/interpretation/application of GAAR. Finally, the GAAR is to override treaty provisions on

the pretext of corrective action against tax evasions. It would be prudent to look at how other

countries interpret GAAR and how and when they apply the same. The provision as it stands now

will give unfettered powers to the Commissioner and could lead to significant litigation.

Minimum Alternate Tax (MAT)

The Code provides that the liability to pay income tax in case of a company shall be higher of the

liability computed at the rate specified in the first schedule or the amount calculated at the rate

specified in Paragraph A of the second schedule. Paragraph A provides that a banking company

shall pay MAT at 0.25 percent on the value of gross assets, as on the close of the financial year. In

case of any other company, the rate to be applied is 2 percent. MAT shall not be allowed to be

carried forward for claiming tax credit in subsequent years

Based on the language, it appears that MAT applies to FIIs / sub-accounts which are incorporated

as foreign companies. However, this cannot be the intention, which should be clarified.

Other provisions

Resident Indian companies shall continue to be liable to withhold Dividend Distribution tax at 15

percent on the amount declared by them by way of dividends. Such dividend shall be exempt in

the hands of the recipient and are specified in the list of exempt incomes.

The Code provides that the due date for filing the Return of Income (ROI) by a non-corporate

non-business taxpayer shall be 30 June of the financial year and 31 August for all other tax payers.

This means that the present due dates for filing returns shall be advanced by one month in all

cases.

In addition, the time to file a revised return or a voluntary belated ROI will be limited to 21 months

from the end of the relevant financial year. The code provides that it shall be obligatory to file aROI by a company, a firm, and a person who derives income from special sources and is liable to


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pay income tax thereon and who intends to carry forward the loss or any part thereof in

accordance with provisions of this Code.

There is a concept of stop-filers who have not filed a ROI for the relevant financial year and non-

filer who has not filed ROI for three consecutive financial years (including the financial year in

question). Notices can be issued to a non-filer and a stop-filer calling for a return within 21 months

from the end of the relevant financial year.

Assessments for cases selected for scrutiny have to be completed within 21 months from the

end of the financial year in which the return is filed.

Rectification applications can be made within 2 years from the end of the financial year in which

the order sought to be rectified, was made. Such application shall be disposed off within 6 months

from the end of the month in which the application was received by the authority. If no order is

passed, it shall be deemed to have been rejected and the tax payer shall be entitled to file an

appeal against such deemed rejection.

The tax department shall allot a computer generated document identification number in respect of

every notice, order, letter or any correspondence issued or received by it in order for these to be

treated as valid.

The taxability taking into account the provisions of the DTC is as follows:

Type of security Present tax rates (in

percentage)

Proposed change in tax rates

(in percentage)

Long-term capital gains Nil 30

Short-term capital gains 15 30

Long-term capital gains 10 30

Short-term capital gains 30 30

Income from derivatives

If treated as business income 30/ 40 * 30/ 25*

If treated as capital gains 30 (as all should be short-term) 30

Dividends subject to DDT Exempt Exempt

Interest on investment 20 20

* non-corporate / corporate

Presently surcharge and education cess is applicable on income-tax which is proposed to bedeleted.

Debt FIIs

The Direct Tax code has similar provisions of interest stripping, and avoidance of tax by sale and

buy back of security as also buy and sale back of security.

Income accruing from a debt instrument, transferred by a person at any time during the financial

year, shall not be less than the amount of broken-period income from the instrument. The

reference is to income and not interest.

Presently the profit or loss on sale of debt security is considered as capital gains and where the

Double Taxation Avoidance Agreement (DTAA) provides relief such capital gains are not taxed in


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India. The proposed change may affect the capital gains computation and also the taxation of the

broken period income.

Securities lending and borrowing

Income from transfer of any securities effected under a scheme for lending of any securities

where the scheme is framed in accordance with the guidelines issued by the Securities andExchange Board of India, or the Reserve Bank of India should not be treated as capital gains

Dividend and bonus unit stripping provisions

The proposed direct tax code does not have the specific provisions for dividend and bonus unit

stripping. However there are general provisions for anti-avoidance of tax on income by sale and

buy back of security as also buy and sale back of security.

Residence status

A foreign company will be resident in India if its place of control and management at any time

during the year is situated wholly or partly in India. Presently, place of control and management

wholly situated in India could make a foreign company a resident in India.

Every other Person shall be resident in India in any financial year, if the place of control and

management of its affairs, at any time in the year, is situated wholly, or partly, in India.

The tie-breaker clause under the Double Taxation Avoidance Agreements should now be relevant

to determine residence.

Accrual of Income

Income from the transfer directly or indirectly of a capital asset situated in India shall be deemed

to accrue in India.

Our observations

In the Code, the separate concessional regime for taxing FIIs (like section 115AD of the Act)

should be provided. Further, the provisions whereby capital gains earned by FIIs were not subject

to withholding tax [section 196D(2) of the Act] should also be reinstated. Also, it should be

clarified that the existing tax treaties and the future tax treaties will provide the benefits to the

taxpayers and will not be overridden by the Code, except in certain exceptional situations.

CBDT notifies Dispute Resolution Panel Rules, 2009

Background

The Finance Act, 2009 introduced Alternative Dispute Resolution Mechanism (ADR) which came

into effect from 1 October 2009 .

As per the ADR, the Dispute Resolution Panel (DRP) should be constituted by Central Board of

Direct Taxes (CBDT) comprising of collegiums of three Commissioners of Income-tax.

Some of the important features of the ADR are-

The order passed by the Assessing Officer (AO) is a draft assessment order and not the final

order and therefore, the tax demand arising from the draft order is not required to be

deposited.

The order passed by the DRP under section 144C of the Act is binding on the tax department

and not on the taxpayer.


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As per section 144C(12) of the Act, the DRP has to pass an order within nine months from

the end of the month in which the draft order was forwarded by the AO. Accordingly, the

appeal of the taxpayer will be addressed in a shorter time span by the DRP.

As per section 144C of the Act eligible taxpayer means,

any person in whose case the variation arises as a consequence of the order of the Transfer

Pricing Officer passed under sub-section (3) of section 92CA; and

any foreign company.

The CBDT has notified the Income-tax (Dispute Resolution Panel) Rules, 2009 (the Rules) on 20

November to regulate the procedure of the DRP. They will come into force on the date of their

publication in the Official Gazette.

Dispute Resolution Panel Rules, 2009

Constitution of DRP

The CBDT will be responsible for constituting the DRP.

The CBDT will assign the name of three Commissioners of Income tax (CIT) to each

jurisdiction as Members for carrying out functions of DRP.

Each DRP shall have a secretariat for receiving objections, correspondence and other

documents to be filed by the eligible taxpayer and it will also be responsible for issuing

notices, correspondence and direction on behalf of the DRP.

Procedure for filing objections

Following are the requirements for filing objections to the draft order:

The objections may be filed by the eligible taxpayer or through the agent of such taxpayer in

Form No.35A.

The objections must be filed in paper book format along with

- Copies of the draft order duly authenticated by the eligible taxpayer or his authorised

representative.

- The evidence on which the eligible taxpayer intends to rely upon.

Additional Evidence

If the eligible taxpayer intends to rely upon any additional evidence, the same must be filed by

way of separate application stating the reasons for filing such additional evidence.

Hearing of objections The DRP may hold its sittings at its headquarters or at such other place or places as it may

deem proper.

The taxpayer with the permission of the DRP may also urge for the additional grounds which

do not form part of the objections filed by it.

The DRP may consider the application for filing additional affidavit and may either allow or

reject such application.


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Power to call for or permit additional evidence

The DRP may call upon or permit the eligible assessee to produce any document or examine

any witness or file any affidavit to enable it to issue proper directions after recording its

reasons for such permission.

Issue of directions On the date fixed for hearing, or on any other date to which the hearing may be adjourned,

the DRP shall issue such directions as it deems proper upon hearing the objections within the

specified time.

While hearing the objections, the DRP shall not be confined to the grounds set forth in the

objections but shall have power to consider any matter or grounds arising out of the

proceedings.

Passing of Assessment Order

The AO shall pass the assessment order from the end of the month in which the direction of

DRP is received.

Rectification of mistake or error

Any mistake or error apparent in the direction issued under the Rules, may be rectified by the

DRP on its own or on the basis of application made by the taxpayer or AO and accordingly

instruct AO for modifying the order.

Appeal against Assessment Order

Any appeal against the assessment order passed in pursuance of the directions of the DRP

shall be filed before the Income-tax Appellate Tribunal in Form No. 36B and not before

Commissioner of Income-tax (Appeals).

Our comments

Though there are various issues arising out of the newly introduced provisions of section 144C of

the Act, it is a welcome development to have the Rules in place.

It is also pertinent to note that as per section 162(9) of the newly introduced Direct Tax Code (the

Code) the scope of the mechanism has been extended to all the taxpayers if the adjustments

made by the AO exceed INR 2.5 million. All other related provisions are on similar lines as

provided in the Act. The provisions of the proposed Code come into effect from 1 April 2011

where all the taxpayers can avail this mechanism.

Clarification regarding filing of Objections before Dispute Resolution

Panel (DRP)

It is clarified that it is the choice of the assessee whether to file an objection before the Dispute

Resolution Panel against the draft assessment order or not to exercise this option and file an

appeal later before CIT (Appeals) against the assessment order passed by the Assessing Officer.

CBDT Notification F.No/142/22/2009-TPL-(Pt.II) dated 20 January 2010

Mandatory Requirement of Permanent Account Number (PAN)In July 2007, PAN was made the sole identification number for participants in the securities

market.


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In case of securities market transactions and off-market/ private transactions involving transfer of

shares of listed Companies in physical form, copy of PAN card is required to be furnished by

transferees to Companies / Registered Transfer Agents.

Further, PAN may not be insisted by intermediaries in case of Central Government, State

Government and Officials appointed by the Courts subject to verifying the veracity of their claim

by collecting sufficient documentary evidence. This is in view of Rule 114C (1)(c) of the Income

tax rules.

Source: SEBI/MRD/DoP/Cir-05 /2009 dated 20 May 2009 and SEBI/MRD/DoP/ Cir-20 /2008 dated 30 June 2008

Important decisions

A Permanent Establishment of a Mauritian company in India cannot be

considered as a domestic company and accordingly, it will have to pay

a higher rate of tax prescribed under the Act

The Mumbai Tribunal in the case of State Bank of Mauritius Ltd. held that a foreign company

having Permanent Establishment in India cannot be taxed at the rate applicable to domestic

company in view of insertion of Explanation 1 to section 90 of the Act by Finance Act 2001 with

retrospective effect from 1 April 1962. Accordingly, it will have to pay tax at the rate prescribed in

the Finance Act (i.e. at higher rate) even if a taxpayer is covered by the provisions of the India-

Mauritius tax treaty. Source: JCIT v. State Bank of Mauritius Ltd. (2009-TIOL-712-ITAT-MUM)

Short term capital losses which are subject to STT can be set off against

Short term capital gains which are not subject to STT

Background

The Finance Act, 2004 had introduced section 111A in the Income-tax Act, 1961 (the Act)

prescribing a tax rate of 10 percent on Short Term Capital Gains (STCG) arising from sale of shares

on or after 1 October 2004 on a Stock Exchange which are subject to Securities Transaction Tax

(STT). Before this amendment the STCG arising to non-residents (up to 30 September 2004) was

taxable at the rate of 30 percent under the provision of section 115AD of the Act.

Decision

The Mumbai bench of the Tribunal in the case of First State Investments (Hong Kong) Ltd. (A/C

First State Asia Innovation & Technology Fund) dealt with the issue of set off of Short Term

Capital Loss (STCL) incurred from sale of shares on or after 1 October 2004 against STCG arose

up to 30 September 2004.

The Tribunal held that STCL (if gains then they are subject STT and to be taxed @ 10 percent)

incurred on or after 1 October 2004 can be set off against the STCG (not subject to STT and to be

taxed @ 30 percent) arose up to 30 September 2004.

It has been further held that there is a difference between computation section and the rate of

tax. The Tribunal observed that it is simple and plain that the matter of computation of income is a

subject which comes anterior to the application of the rate of tax.

Only when the income is computed as per the provisions of the Act, that the question of the

applicability of the correct rate of income tax comes into being. There being no prohibition in


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section 70 in the matter of set off of short term capital loss before and after the cut off period of 1

October 2004, the Fund was allowed set off as above.

Source: First State Investments (Hongkong) Ltd. [A/C First State Asia Innovation & Technology Fund] v. ADIT (2009-TIOL-547-ITAT-

MUM)

No capital gains tax in a business reorganization (transfer of shareswithin group) if consideration cannot be determined. Transfer pricinglaws do not apply in the absence of any income being earnedIn case of Dana Corporation, the Authority for Advance Rulings (AAR), while ruling in favor of the

taxpayer, has held that capital gains provisions are not attracted in business reorganization if

consideration for transfer of shares held is not determinable.

While ruling on the applicability of the Transfer Pricing (TP) provisions to the aforesaid transfer of

shares by the taxpayer to its overseas affiliates, the AAR confirmed that TP laws are not charging

provisions and apply only in case income has arisen under other substantive charging provisions of

the Act.

Accordingly, the AAR ruled that in the absence of any income chargeable to tax under the capital

gains provisions, the TP provisions will not be applicable.

Source: Dana Corporation [2009-TIOL-29-ARA-IT]

A technical defect in the return of income filed within due date can becorrected by revision and the revised return of income filed is treated asvalid and filed within the due dateThe taxpayer was a company incorporated in Mauritius under the Protected Cells Companies Act,

having the four cells or sub-divisions.

The returns of income of four cells for the assessment year 2001-02 were filed within the time

prescribed under section 139(1) of the Income Tax Act (the Act) on 30th October 2001.

Subsequently, the taxpayer realized that a consolidated return for all the four cells was required to

be filed. Therefore, a revised return dated 29th October 2002 was filed incorporating income / loss

of all the four cells / sub-divisions. The revised return consolidated the same information and

particulars which were earlier given in four separate returns and there was no deviation in any of

the particulars of income.

The Tax Officer was of the view that the return filed on 29th October 2002 was to be considered

as original return and four return filed separately by four cells on 30th October 2001 were invalid.

The said return was belated and therefore question of carry forward of losses suffered by the

taxpayer did not arise. Loss claimed was not allowed.

The Mumbai Tribunal after considering the relevant provisions of the Act, held that the benefit of

carry forward of loss cannot be denied to the taxpayer as it filed returns of loss before the due

date within the time allowed under section 139(1) of the income Tax Act. The Tribunal noted four

returns of loss were bonafidely filed and on discovery of the mistake, the taxpayer filed a

consolidated return, in which figures of four different returns were consolidated and the figure of

total loss was shown. In such a situation, it is not correct to hold that returns filed earlier were

invalid, ineffective and of no legal consequences.

This revised return would in such circumstances relate back to the date of filing of original return.

The said return has to be taken along and considered with the original four returns, which


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contained complete information for making assessment. The technical mistake in the four returns

stood removed on filing of the consolidated return. When total information needed by the

Revenue in the return was fully furnished; the returns in substance and in effect confirmed to the

requirement of the provisions of the Act.

Source: Nicholas Applegate South East Asia Fund Ltd and others V. ADIT reported in 309 ITR 325 (ITAT Mumbai Third Member)

2009.

Karnataka High Court rules that any payment in the nature of income to

a non-resident would require withholding of tax and for lower or nil

withholding statutory dispensation from AO is requiredThe Karnataka High Court in its landmark judgment while dismissing various appeals filed by

various software companies on the issue of liability to withhold tax on payments made to non-

resident suppliers for readymade shrink wrapped software packages observed that the section

195(1) is neither a charging section nor it is a provision for assessing the tax liability of a non-

resident. Further, it is not a provision to decide whether any income chargeable to tax accrued or

arose to the foreign suppliers by operation of section 9 of the Act. Further, the payer can be

relieved from the obligation to withhold tax wholly or partly, can only be determined by going

through the procedure envisaged under section 195(2) of the Act upon making an application to

the AO. If the resident payer is able to demonstrate before the AO that the entire payment does

not bear the character of income and only a part of it is so, it can seek permission to deduct tax

only on such proportionate sum.

Accordingly, the High Court held that has held that any payments in the nature of income per se

to non-resident taxpayers would require withholding of tax under section 195(1) of the Act.

Further, for no withholding of tax or withholding at lower rate, a taxpayer will have to obtain a prior

approval of AO under section 195(2) of the Act.

Source: CIT v. Samsung Electronics Co. Ltd. and various other software companies [2009-TIOL-629-HC-KAR-IT]

India Finland tax treaty revised The India - Finland tax treaty has been revised by the Governments of both the countries on 15

January 2010. The salient features of the revised tax treaty are given below:

Withholding tax rates have been reduced on dividends from 15 percent to 10 percent and on

royalties and fees for technical services from 15 or 10 percent to a uniform rate of 10 percent in

order to promote greater investments, flow of technology and technical services between the two

countries.

It expands the ambit of Article concerning Exchange of Information to provide effective exchange

of information in line with current international standards. As per the Article a Contracting State

shall not deny furnishing of the requested information solely on the ground that it does not have

any domestic interest in that information or such information is held by a bank etc.

An Article for Limitation of Benefits to the residents of the contracting countries has also been

included to prevent misuse of the tax treaty.

The revised tax treaty will enter into force after completion of internal processes in both the

countries.


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Budget 2010 - Highlights FII

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