Shri Paresh Parekh, Chartered Accountants, Partner, Ernst & Young Pvt. Ltd

Issues related to TDS under section 195Seminar on TDS-Recent Developments

Paresh Parekh

20 February 2014

Issues related to TDS u/s 195

Contents

Salient Features of Section 195

Tax Residency Certificate (TRC)

Payment in Kind

Interplay of S. 195(2) r.w.s. 163

WHT Obligations on account of Retrospective Amendments

Applicability of S. 206AA

WHT & Deemed Dividend

Software Payments

GOI Blacklists Cyprus


Salient Features of Section 195

All payments covered (excluding salaries). E.g. payment to foreign architect for residential house construction

No threshold limit

Unlike other provisions in Chapter XVII (TDS provisions), section 195 uses a special phrase “any sum chargeable under the provisions of this Act”

All payers covered irrespective of legal character (including Individual, HUF etc.)

No prescribed rate of TDS – Tax to be deducted at the rates in force

Multi-dimensional as involves understanding of DTAA/Treaty


Section 195(1) – Covers Any Sum Chargeable to Tax Any sum chargeable to tax – Taxability determined under section 5 read with

section 9

Nature of payment to be determined from payee’s point of view

Subject to beneficial provisions of the Double Taxation Avoidance Agreement (DTAA) with respective countries

Pre-requisite to obtain tax residency certificate

Sum which are not at all chargeable to tax in India (under the Act or the Treaty) shall continue to remain outside the ambit of section 195 {GE India Technology Centre (P) Ltd. vs CIT [2010] 327 ITR 456 (SC)}

Section 195(1) – Technical Issues


Scope and Applicability

► At the time of credit/ payment - No tax withholding required on mere accrual of income unless it is credited or paid.

► Tax withholding on ‘payments in kind’?

► Yes {Kanchanganga Sea Foods vs CIT [2004] 265 ITR 644 (AP)}; {BIOCON Biopharmaceuticals Private Ltd. v. ITO [2013] TS-347-ITAT-2013-Bang (Bang)}

► Tax withholding on ‘inter-adjustment of dues’?

► Yes {J.B.Boda vs CBDT [1996] 223 ITR 271) (SC)}

► Tax withholding on year-end provisions?

► In cases where it is possible to suggest that the right to receive amount has not crystallized in favour of an identified person, there is no obligation to deduct tax at source. The obligation will need to be discharged as soon as the right is crystallized.


Scope and Applicability

► Interest/ Royalty/ FTS taxable under DTAA on payment basis - Time of withholding u/s 195(1)?

► View 1: Since royalty/ FTS becomes taxable under DTAA on payment basis, tax to be withheld at the time of payment

National Organic Chemicals Industries Ltd vs DCIT [2004] 96 TTJ 765 (Mumbai ITAT)

DCIT vs Uhde Gmbh [1996] 54 TTJ 355 (Mumbai ITAT)

► View 2: Tax to be withheld at the time of payment or credit whichever is earlier

Automated Switch Company [2004] Chennai ITAT

Flakt India Ltd [2004] 267 ITR 727 (AAR)

► Tax withholding on payments to agents (u/s163) of non-residents?

► Yes u/s 195 {Grind lays Bank ltd 200 ITR 441 (Cal)}; {Narsee Nagsee & Co.[1959] 35 ITR 134 (BOM.)}


Rates in Force

► ‘Rates in force’ [Sec. 2(37A)(iii)]

► Rates specified in this behalf in the Finance Act of the relevant year; or

► Rates specified in a DTAA entered with respective country, whichever is more beneficial

► Exchange Rate Applicable (Rule 26 - SBI TT Buying Rate)

► Applicability under presumptive taxation regime (Sec. 44B, 44BB, 44BBB)?

► Payer may withhold tax at lower rates if he is absolutely sure that the provisions of presumptive taxation would be applicable to the payee {Frontier Offshore Exploration (India) Limited v. DCIT [2009] (Chennai ITAT)} ITA No. 200/Mds/2009

► Applicability of surcharge and cess?

► For determining applicability under the Income Tax Act - Quantum of payment to be checked as against quantum of income.

► Rates prescribed by DTAA generally inclusive of surcharge and education cess {CIT vs. Arthusa Offshore Co. [2008] 169 Taxman 484 (Uttarakhand HC)}

► Rates in force during the period Finance Bill is pending approval?

► Rates in force for the preceding year or the rates proposed for current year in the Finance Bill, whichever is more favorable to the assessee [Sec. 294]

Section 195(2) - Application by the ‘Payer’ for Lower or Nil Withholding


Section 195(2) – Issues

► Is it obligatory to approach AO for non-withholding of taxes?

► Once sum is ascertained to be even partially chargeable to tax in India, tax is required to be withheld at full rates on grounds of conservatism, unless an order u/s 195(2) or a certificate u/s 197 is obtained .

► Appeal against order u/s 195(2)?

► In case tax borne by the payee – Taxpayer may, after payment of the taxes, file an appeal before CIT Appeals (Section 248)

► Revision of order u/s 263/ 264?

► Yes - {Board of Control for Cricket in India vs DIT [2005] 278 ITR 83 (Mum ITAT)}

Practically, application u/s 195(2) is filed for both nil as well as lower withholding tax rate order.

Section 195(3),(4),(5) - Application by the ‘Payee’ for Lower or Nil withholding


Section 195(3),(4),(5) - Application by the payee► Payee can make an application in prescribed form (Form 15C and 15D) to

the AO for non withholding of tax at source

► Subject to stringent conditions prescribed under Rule 29B:

► Assessee has been regularly assessed to tax and has filed all returns of income due as on the date of filing of application;

► Not in default in respect of any tax interest, penalty, fine, or any other sum;

► Not subjected to penalty u/s 271(1)(iii);

► Carrying on business in India continuously for at least five years and the value of the fixed assets in India exceeds Rs 50 lakhs

► Period of validity of Certificate?

► As mentioned in the certificate (unless cancelled by the AO)

► Filing of subsequent application?

► After the expiry of the period of validity of the earlier certificate, or within three months before the expiry thereof

Sections 195(2), 195(3) & 197 – Comparison

Particulars 195(2) 195(3) 197

Application by PayerPayee

(subject to Rule 29B)Payee

Purpose To determine appropriate

withholding rate for a specified payment

For claiming ‘Nil’ withholding rate for a

specified receipt

For claiming ‘Nil’/lower rate of withholding for

all receipts

Applicability Applicable to specified payments

Applicable to specified receipts

Applicable to all receipts

Whether appealable?Appeal u/s 248 denying

liability to deduct tax after payment of tax

No appeal No appeal

Whether revisable u/s 263 or 264 Yes Yes Yes

In all the above cases, unlike CA Certificate issued in Form 15CB, no interest or penalty is leviable in case the Assessing Officer takes a contrary view at the time of assessment proceedings.



Section 90A(4) provides that treaty benefit will not be available to any NR unless he furnishes TRC from Government of other country including therein particulars as may be prescribed

Rule 21AB notified on 17 September 2012 w.e.f. 1 April 2013

Amendment vide Finance Act 2013 dispenses with the requirement of TRC to contain prescribed particulars. Now, TRC in any format will be valid

Explanatory Memorandum of Finance Act 2012 had stated that submission of TRC is ‘necessary but not a sufficient condition’ for claiming benefits under DTAA. Finance Bill 2013 proposed to introduce this in S.90(5) of the Act

Amendment vide Finance Act 2013 deleted above proposal

However, Taxpayer is required to submit additional documents and information (Form No 10F) in addition to TRC

Shift from attestation by State R Government to self-attestation

Amendment to apply retroactively from A.Y 2013-14



Can treaty benefit be denied even if Taxpayer obtains TRC ?

Is it a proof of Beneficial Ownership ?

Will Circular 789 stand on different footing ?

Who should sign Form 10F on behalf of NR ?

What will be the implications if prescribed particulars are not provided?

What is the time limit of providing prescribed particulars ?

Impact on payer who is required to deduct tax

Obtaining TRC

Obtaining self attestation from NR

Maintaining documents to support information in attestation

Approach to be adopted in case of net of tax contract and risk of being assessed as Representative Assessee


Payment in Kind


Case Study 1 – Payment in Kind

I Co

F Co

Right to use know-how and brand name

Facts

I Co enters into an agreement with F Co for use of know-how and brand name

As a consideration for use of aforesaid IPR, I Co issues its shares to F Co

Issues

Is I Co required to withhold tax on issue of shares to F Co?

If so, on what amount shall the tax be withheld?

• Issue price of shares;• Fair value of shares; or• Value of services received.

What would be the appropriate mechanism to discharge WHT liability in India?

Issue of shares


Interplay of S. 195(2) r.w.s. 163


Case Study 2 – Interplay of S. 195(2) r.w.s. 163

Facts

Buyer Co proposed to buy shares of I Co from Mau Co

Buyer Co obtains Nil withholding certificate u/s 195(2)

Tax Department treats Buyer Co as Representative Assessee u/s 163 on the ground that Mau Co is not real owner

Issues

Is action of Tax Department tenable?

Was AO justified in issuing order u/s 195(2) to Buyer Co?

Could this transaction be done in a better manner?I Co

Mau Co

Buyer Co

Outside India

India

US Co

Purchase of Shares of I Co from Mau Co


WHT Obligations on account of Retrospective Amendments


Case Study 3 – WHT Obligations on account of Retrospective Amendments

Law prior to Finance Act 2012 was that transfer of copyrighted software and satellite transmission charges do not give rise to royalty

Law amended with retrospective effect from 1 April 1976 to treat aforesaid as royalty

Whether a payer should be regarded as an assessee-in-default (AID) on account of having defaulted in respect of past payments which are made liable to tax withholding by virtue of retroactive amendment?

Royalty/ FTS

I Co

F Co


View 1Payer can be regarded as an AID

► As retroactive amendments are merely

clarificatory in nature, the payer was always

liable to withhold tax

► Once law is amended, withholding was

mandatory as per law as it always existed

► Retrospective amendment leads to mistake

apparent in the record*

View 2Payer can not be regarded as an AID

► Payer cannot be expected to perform the

impossibility of taking cognizance of the

retrospective amendment while withholding the

tax

► Judicial precedents that retrospective

amendment cannot cast an obligation on the

payer to withhold tax^

► Law prevailing on the date of trigger of

withholding obligation alone is relevant.

► Penal provisions cannot be implemented with

retrospective effect.#

^ {CIT v Hindustan Electro Graphites Ltd. [2000] 243 ITR 48 (SC)}, B4U International Holdings Ltd. (2012) (I.T.A.No. 3326/Mum/2006)

# {Canara Bank v. ITO [2009] 121 ITD 1 (Nagpur)}

* {MK Venkatachalan vs. Bombay Dyeing & Manufacturing Co. Ltd [1958] 34 ITR 143 (SC)}




Situation 1

Where amendment is purely clarificatory in nature – ‘small repair’ amendment.

Payer presupposed to be diligent in discharging his TDS obligations.

Tax and interest leviable. Penalty not leviable.

Situation 2Where amendment is of substantive nature resulting in fresh levy or charge (though, at

times, referred to as ‘clarificatory’.)

Payer not liable for TDS.

No tax, interest, penalty.

Whether case falls in Situation 1 or 2 is fact specific and amendment specific.

For e.g. Amendments by Finance Act 2012 in section 9(1) are substantive


Applicability of S. 206AA


Case study 4 – Applicability of S. 206AA

Tax to be withheld at higher of the following rates:

Rate specified under the relevant provision of the Act [E.g. 2 % u/s 194C, 10% under S.194H/J]

Rates in force [as defined in S.2(37A). E.g. the rates specified in the Schedule to the Finance Act or the beneficial tax treaty rate]

20%

Section 195 does not specify any withholding tax rate, instead it refers to the ‘rates in force’ as defined u/s 2(37A)(iii)

Applicable rate of withholding in case F Co does not hold a PAN in India?

I Co

F Co

Royalty/ FTS


Case study 4 – Applicability of S. 206AA

WHT rate on payment of royalty/ FTS to a non-resident under various scenarios

PAN Treaty resident

Does treaty provide for a lower rate?

Applicable WHT rate

Treaty rate

× NA 25%

× 20%

× × × 25%

Whether withholding tax rate u/s 206AA is required to be increased by surcharge and cess?No


WHT & Deemed Dividend


Case Study 5 – WHT & Deemed Dividend

I Co 1 gives loan to I Co 2 S. 2(22)(e) triggered in the hands of H

Co* I Co 1 is not responsible for making

payment to non-resident (H Co) There is neither payment nor credit to

H Co in books of I Co 1 Income is incapable of being credited

to the account of non-resident

*Hotel Hilltop [2009] 313 ITR 116 (Raj. HC)

Ankitech (P.) Ltd. [2012] 340 ITR 14 (Del HC)

Outside India

I Co 1

H Co

India

I Co 2

Loan

100% 100%

Is S1 Co liable for withholding tax u/s 195 while on payments to S2 Co?


Software Payments


Amendment vide Finance Act 2012 - Explanation 4 to section 9(1)(vi)

(effective 1.4.76)

“For the removal of doubts, it is hereby clarified that the transfer of all or any rights in

respect of any right, property or information includes and has always included transfer

of all or any right for use or right to use a computer software (including granting of a

licence) irrespective of the medium through which such right is transferred”

Computer software as defined in Explanation 3

“For the purposes of this clause, “computer software” means any computer programme

recorded on any disc, tape, perforated media or other information storage device and

includes any such programme or any customized electronic data”

ITA provisions


Illustrative Rights of Copyright Holder

Literary work protected under the Indian Copyright Act [ICA].

Literary work includes computer programme [Section 2(o)of ICA].

Exclusive rights of “copyright” holder [section 14 of ICA] :

To reproduce work.

To issue copies to the public.

To make translation.

To make adaptation.

To sell or offer for sale

Specific provisions permitting copying for intended use,

archival purpose


Scenario 1: “Shrink Wrapped” license

Key features

Foreign Company (FCo) owns the copyright in the

computer program (Program S)

Program S is loaded on disks and sold in boxes

End user permitted to operate Program S, but

cannot exploit the copyright in Program S

End user enters into an end user license

agreement (EULA) with FCo (copyright owner)

Analysis

No copyright right (to commercially exploit

software) transferred

Payment likely to be for copyright article under

OECD approach, even if end user allowed to make

back-up/ archival copy

Mode of delivery, nature of software not

determinative

Payment for a single copy

Delivery of a single copy of shrink wrapped software

Overseas

India

Delivery of software

Payment of software

Foreign Co

End user


Scenario 2: Supply to distributor

Key features

FCo has arrangement with distributor for distribution of

Program S

Distributor buy multiple copies as required from time-

to-time for onward sale to retailers

Disks containing the program are shipped in boxes

containing a EULA

EULA between end user and F Co

Characterization of payment by distributor to FCo?

Analysis

Distributor has not obtained a commercially exploitable

right in copyright

Payment likely to be treated as for purchase of

copyrighted article under OECD approach

Delivery of shrink wrapped software

Overseas

India

Foreign Co

Distributor

Retailer

End user

Delivery of software

Payment of software

Flow of payment for a copy of the software

What if distributor is given a right to make copies of software program?


GOI Blacklists Cyprus- Notification No. 86 of 2013 dated 1 Nov 2013


Genesis of Notification

S.94A introduced by the Finance Act, 2011 effective from 1 June 2011 empowering the

Government to designate any non-cooperative country or territory as a Notified

Jurisdictional Area (‘NJA’) having regard to the lack of effective exchange of information

with that country or territory

As per the Explanatory Memorandum to Finance Bill, 2011:

Section 94A introduced as “tool box of counter measures in respect of transactions with

persons located in a non-cooperative jurisdiction”

To discourage resident taxpayers to transact with persons located in a NJA

Ministry of Finance, vide Press Release (‘PR’) dated 1 November 2013 notified1 Cyprus

as a NJA under section 94A of the ITA

The PR states that:

“….Cyprus has not been providing the information requested by the Indian tax

authorities under the exchange of information provisions of the agreement……”


Certain Developments post the Notification

Ministry of Finance of Cyprus has issued a press release on 7 November, 2013

clarifying that the DTAA between India and Cyprus is not terminated and continues to

be in effect

Subsequently, on 3 December 2013, Ministry of Finance of Cyprus issued a press

release stating that consultations were held between Governments of Cyprus and India

and aimed at addressing the issues of effective exchange of information (EoI) between

Cyprus and India and renegotiation of the India – Cyprus Double Tax Agreement

(DTAA) which is in force from 21 December 1994

It was also stated that on renegotiation of the DTAA, the notification of Cyprus as NJA

will be rescinded with retrospective effect from 1 November 2013

No announcement has been made by the Indian Authorities on the issue as on date,

pending which, Cyprus continues to be notified as NJA


Impact of notification under s.94A of the ITA

Section 94A

Notification of Cyprus as a NJA

Deemed TP Applicability

[s.94A(2)]

Information Authorization

for FI expenses and Documentation for other expenses

[s.94A(3)]

Source of Source[s.94A(4)]

Stiff Withholding[s.94A(5)]


Section 94A(5) – Stiff Withholding

S.94A(5) provides WHT in respect of any sum or income or amount on which

tax is deductible under Chapter XVII-B, at higher of the following rates:

the rate or rates in force;

the rate specified in the relevant provisions of the Act; or

30% (as against 20% for S.206AA)

Issue:

Transitional issues

Whether applies to income exempt under treaty (Capital Gain article under

India-Cyprus treaty) ?

Impact on Nil or lower WHT obligations obtained in past

Is it a treaty override ?


Concluding Thoughts

Non compliance with withholding provisions entails harsh

consequences

Increasing complexity coupled with divergent interpretation

by judiciary requires close monitoring on withholding

payments

Utmost advisable to adopt a discretion is better than valour

approach when it comes to withholding

Modern instruments like tax indemnity, tax insurance may be

explored depending upon the quantum and risk appetite

Thank You


Annexure – Provisions of S. 195

Section 195 - Other sums.

(1) Any person responsible for paying to a non-resident, not being a company, or to a foreign company, any interest (not being interest referred to in section 194LB or section 194LC) or any other sum chargeable under the provisions of this Act (not being income chargeable under the head "Salaries") shall, at the time of credit of such income to the account of the payee or at the time of payment thereof in cash or by the issue of a cheque or draft or by any other mode, whichever is earlier, deduct income-tax thereon at the rates in force.

Provided that in the case of interest payable by the Government or a public sector bank within the meaning of clause (23D) of section 10 or a public financial institution within the meaning of that clause, deduction of tax shall be made only at the time of payment thereof in cash or by the issue of a cheque or draft or by any other mode.

Provided further that no such deduction shall be made in respect of any dividends referred to in section 115-O.



Explanation 1—For the purposes of this section, where any interest or other sum as aforesaid is credited to any account, whether called "Interest payable account" or "Suspense account" or by any other name, in the books of account of the person liable to pay such income, such crediting shall be deemed to be credit of such income to the account of the payee and the provisions of this section shall apply accordingly.

Explanation 2.—For the removal of doubts, it is hereby clarified that the obligation to comply with sub-section (1) and to make deduction thereunder applies and shall be deemed to have always applied and extends and shall be deemed to have always extended to all persons, resident or non-resident, whether or not the non-resident person has—

(i) a residence or place of business or business connection in India; or

(ii) any other presence in any manner whatsoever in India.



(2) Where the person responsible for paying any such sum chargeable under this Act (other than salary) to a non-resident considers that the whole of such sum would not be income chargeable in the case of the recipient, he may make an application to the [Assessing] Officer to determine, by general or special order, the appropriate proportion of such sum so chargeable, and upon such determination, tax shall be deducted under sub-section (1) only on that proportion of the sum which is so chargeable.

(3) Subject to rules made under sub-section (5), any person entitled to receive any interest or other sum on which income-tax has to be deducted under sub-section (1) may make an application in the prescribed form to the Assessing Officer for the grant of a certificate authorising him to receive such interest or other sum without deduction of tax under that sub-section, and where any such certificate is granted, every person responsible for paying such interest or other sum to the person to whom such certificate is granted shall, so long as the certificate is in force, make payment of such interest or other sum without deducting tax thereon under sub-section (1).



(4) A certificate granted under sub-section (3) shall remain in force till the expiry of the period specified therein or, if it is cancelled by the Assessing Officer before the expiry of such period, till such cancellation.

(5) The Board may, having regard to the convenience of assessees and the interests of revenue, by notification in the Official Gazette, make rules specifying the cases in which, and the circumstances under which, an application may be made for the grant of a certificate under sub-section (3) and the conditions subject to which such certificate may be granted and providing for all other matters connected therewith.

(6) The person referred to in sub-section (1) shall furnish the information relating to payment of any sum in such form and manner as may be prescribed by the Board.



(7) Notwithstanding anything contained in sub-section (1) and sub-section (2), the Board may, by notification in the Official Gazette, specify a class of persons or cases, where the person responsible for paying to a non-resident, not being a company, or to a foreign company, any sum, whether or not chargeable under the provisions of this Act, shall make an application to the Assessing Officer to determine, by general or special order, the appropriate proportion of sum chargeable, and upon such determination, tax shall be deducted under sub-section (1) on that proportion of the sum which is so chargeable.

Shri Paresh Parekh, Chartered Accountants, Partner, Ernst & Young Pvt. Ltd

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