Photo of S.R. Patnaik

Head and Partner in the Tax Practice at the Delhi office of Cyril Amarchand Mangaldas. Mr. Patnaik specialises in various aspects of direct tax, such as international tax, transfer pricing, corporate tax etc. He can be reached at sr.patnaik@cyrilshroff.com

The Income Tax Act, 1961 (IT Act) contains several special beneficial provisions that allow for deductions in order to promote certain activities. One such provision is Section 10A of the IT Act, which seeks to promote and boost new business undertakings situated in free trade zones by providing suitable deductions. It provides for a 100 percent deduction of profits and gains derived by undertakings engaged in export of articles or computer software. The deduction is available for ten assessment years from the year in which the entity commences operations. These profits are to be determined based on the ratio of export turnover to the total turnover of the undertaking.

Over the years, there have been several disputes over the manner in which this ratio is to be determined. This is largely because while the term ‘export turnover’ has been defined under Section 10A of the IT Act, “total turnover” has not. In other words, there is no explicit provision that allows the taxpayer to exclude amounts from total turnover in case such amounts have already been excluded from export turnover.

In the recent case of CIT v HCL Technologies Limited[1], the Supreme Court of India dealt with this issue and provided much needed clarity on the subject.

Continue Reading Expenses Excluded from Export Turnover, also to be Excluded from Total Turnover

Stock Appreciation Rights (SARs) are recognised globally as one of the most popular instruments of stock-based compensation. SARs are alternatives adopted for implementing equity-based compensation plans like an employee stock option or employee stock purchase. SARs can be structured as either ‘equity settled’ or ‘cash settled’. As a concept, SARs contemplate passing on of appreciation in the value of a certain number of equity shares to employees.

The Income Tax Act, 1961 (IT Act) did not have any specific provision to tax such income; specific provisions were introduced in 1999 to provide for taxation of benefits provided by an employer to its employees under share benefit rewards. From 1999 onwards, Section 17(2) of the IT Act specifies the payments that come within the ambit of ‘salary’ and ‘perquisites’, and covers benefits available to employees therefrom.

For the period prior to 1999, the issue of taxability of amounts received from various employee benefit programmes, including amounts received from the redemption of SARs, was always under dispute. The special bench of the Mumbai Income Tax Appellate Tribunal (ITAT) in the case of Sumit Bhattacharya[1] held that the amount received on redemption of SARs should be taxable as salary because it was an employment related benefit, in the nature of deferred wages, bonuses or incentives received as a fruit of employment. However, the issue remained inconclusive and litigious. The Supreme Court (SC) appears to have settled this issue in the case of Bharat V. Patel[2], wherein it has been held that the amount received on account of SARs redemption prior to amendment to section 17(2) would not be taxed as salaries.

Continue Reading SC Holds that Income from SARs is Taxed as Capital Gains Only

Taxation of international digital transactions has been a perplexing issue. As per the international tax rules, where an enterprise is a resident in one state with income originating in another state (source country), international tax rules provide that the source country will have the taxing rights over such income only if it is established that the enterprise has a permanent establishment (PE) in the source country. Thus, for the source country to be able to tax profits arising from the digital economy, some physical presence of the non-resident enterprise is required in the source state.

However, today a non-resident can carry out a large amount of internet transactions in the source state without having any significant physical presence there. A website can be launched from anywhere and made available to users anywhere in the world. There is no central point, or physical location, for such a transaction and thus, it may not fall within any country’s jurisdiction for taxation purposes.

This opens up two possibilities: double taxation or non-taxation. The concerned people could be even further creative, and actually set up an online business at a place where none of the founders / promoters are present, thereby making it even more difficult to tax them.

Continue Reading Taxing the Digital Economy: The Rule of ‘Significant Economic Presence’

Published here is Part II, the concluding section, of our blog piece on the key amendments proposed under Budget 2018 to the Income Tax Act. You can view Part I here. We hope you enjoy reading this as much as we have enjoyed putting this together.


  • Amendments in Relation to Income Computation Disclosure Standards (ICDS): Recently, the Delhi High Court had held that some provisions of the ICDS are unconstitutional for want of legislative backing and their variance from applicable judicial precedents. In order to provide a requisite legislative framework for ICDS, the Budget now proposes to make various amendments in the provisions of the IT Act, pertaining to the deduction of marked to market losses computed in accordance with ICDS, for treating the gains or losses, computed in accordance with ICDS, as income or loss and to provide for a method of valuations in cases of inventory, goods, services and securities, etc.
  • Facilitating Measures for Companies under Insolvency Proceedings:
    • Relief from MAT: The Budget proposes to provide MAT relief for companies whose application for a corporate insolvency resolution process under the Insolvency and Bankruptcy Code, 2016 (IBC) has been admitted by the Adjudicating Authority. Accordingly, the aggregate amount of unabsorbed depreciation and loss brought forward shall be allowed to be reduced from the book profit to determine MAT.
    • Benefit of carry forward and set off of losses: The provisions of section 79 of the IT Act relating to carry forward and set off losses would not apply to companies whose resolution plan has been approved under the IBC.

Continue Reading First Impressions of the Budget 2018: Income Tax Act – Part II

This is the first post in the our new blog series on the Budget 2018. This is a two-part piece on the amendments proposed under this Budget to the Income Tax Act; published here is Part I. We hope you enjoy reading this as much as we have enjoyed putting this together.


On 1st February, 2018, the Finance Minister Mr. Arun Jaitley presented the last full-year Union Budget before the 2019 Lok Sabha elections. It was delivered against a backdrop of economic slowdown caused by demonetisation in November, 2016 and the implementation of Goods and Services Tax (GST) legislations. The Budget focuses on strengthening agriculture and the rural economy, providing social security benefits and infrastructure creation.

The Finance Minister stated that the Indian economy is reviving and predicted that its Gross Domestic Product will rise to 7-7.5% in 2018-19, and that India is expected to become one of the world’s fastest and largest economies.

In the paragraphs below, we present a snapshot of some of the proposed amendments to the Income Tax Act, 1961 (IT Act) presented in this Budget:

Continue Reading First Impressions of the Budget 2018: Income Tax Act – Part I

In the case of Wiki Kids Limited[1], the NCLAT upheld the order of the NCLT rejecting a scheme of amalgamation, as it resulted in undue advantage to the promoters of the amalgamating company.

Facts

Background

In the instant case, a non-listed company Wiki Kids Limited (Transferor Company), wished to amalgamate with Avantel Limited, a listed company (Transferee Company). For the aforesaid purpose, these entities (collectively referred to as Appellants) had proposed a scheme of amalgamation (Scheme) and approached the Andhra Pradesh High Court, seeking directions with respect to the meetings of the shareholders, and secured and unsecured creditors in the Scheme.

Pursuant to the directions of the High Court, the Scheme was approved by the shareholders of the Transferee Company. In the meantime, in view of a notification of the Ministry of Corporate Affairs dated December 7, 2016, the case was transferred to the National Company Law Tribunal (NCLT). The Appellants, accordingly, filed a second motion before the Hyderabad Bench of the NCLT. The NCLT, on perusal of various documents including the share exchange ratio and the valuation report, rejected the Scheme on the ground that it was beneficial to the common promoters of the Appellants and no public interest was being served.

Continue Reading NCLT Can Reject a Scheme of Arrangement if it is not in Public Interest

Multinational enterprises often outsource back-office support operations to their captive subsidiaries in India. Additionally, foreign parent companies second their employees to provide guidance to the Indian subsidiary in the provision of back-office functions. A contentious question has for some time arisen, however. Should such arrangements constitute a fixed place Permanent Establishment (PE), a service PE or a Dependant Agent PE (DAPE) for the foreign company in India?

In the 2007 case of Morgan Stanley[i], the Supreme Court (SC), while dealing with the issue of PE, held that back office functions performed by the Indian subsidiary were preparatory and auxiliary in nature and, therefore, did not constitute a fixed place PE. The SC also held that if the foreign company had deputed its employees to the Indian company to render stewardship services, then no service PE would be constituted in India.

In contrast, however, in the case of Centrica Offshore[ii] in 2014, the Delhi High Court (Del HC), held that if the terms of employment of the employees seconded to India continued to be controlled by the foreign company, it would be regarded as having constituted a service PE in India.

In the ensuing paragraphs, we discuss the recent decision of the SC in the instant case of e-Funds Corporation and its implications for resolving this long-standing issue.

Continue Reading Outsourcing of Back Office Support Functions Does Not Create a Permanent Establishment

The Income Tax Act, 1961 (IT Act) contains several provisions to prevent tax evasion. One such provision seeks to tax loans and advances made to shareholders by a closely held company as deemed dividends in the hands of the shareholders. This is intended to prevent tax evasion in situations where closely held companies distribute accumulated profit as loans or advances which are not chargeable to tax under the IT Act, instead of distributing it as dividends which is chargeable to tax under the IT Act. However, the said provision of deemed dividend is attracted subject to the satisfaction of the following conditions:

Continue Reading Supreme Court Rules: Deemed Dividends Are Taxable Only in the Hands of Shareholders

Permanent Establishment (PE) is a significant feature of bilateral tax treaties and is a key threshold adopted by source countries to tax profits earned by non-resident entities from the business activities carried out by the non-resident in the source country.

A ‘Fixed Place PE’ relates to a non-resident entity having a fixed place of business in the source country. But certain tax treaties also provide for a ‘Service PE’. A Service PE is established if: (i) the non-resident delivers services for longer than the prescribed threshold; and (ii) the said services are furnished in the source country through the employees or other personnel of the non-resident.

Traditionally, a Service PE required the physical presence of employees of the non-resident in the source country. However, in the present digital economy, this understanding is being challenged as more and more jurisdictions are doing away with this requirement.

The governments of Saudi Arabia and Israel, for example, have passed internal guidelines that suggest a non-resident would have a Service PE if it furnished services, including consultancy services, through employees or other personnel who are offshore and not physically present in the Source State. This would only be the case, however, if the activities continue (for the same or connected projects) within the Source State for more than 183 days in any 12-month period.

Continue Reading Service PE Does Not Require Physical Presence of Employees

The real estate industry has experienced unprecedented growth in the past couple of decades. This has led both landowners and developers to enter into several innovative business models to optimise their resources and maximise returns. The landowners try to ensure that they participate in the future substantial value accretion of the project being developed while developers try to avoid shelling out the entire consideration for the land before commencing any work, to avoid depletion of their resources.

Thus, entering into a joint development agreement (JDA) has become particularly common. This is where the landowner and developer collaborate on the basis that the landowner contributes his land to the project while the developer brings in his expertise in construction to develop the project and both parties share the income earned from the developed project in a pre-determined ratio. Of course, depending on the facts and circumstances of the case, multiple variations of this structure can be seen in the marketplace, with the broad contours of the arrangement remaining the same.

For a long time, litigation has arisen over the taxability of income accruing or arising from a JDA. Primarily, Indian tax authorities contend that the landowner should be liable to pay tax at the time of entering into the JDA, whereas taxpayers have been contending that the tax should be payable only at the time of registration of the JDA.

This contentious issue has hopefully been resolved with the Hon’ble Supreme Court (SC) delivering its verdict in the case of Balbir Singh Maini [CIT v. Balbir Singh Maini, Civil Appeal No. 15619 of 2017]. In the said case, the SC upheld the contentions of the taxpayers, by confirming the decision of the Hon’ble Punjab & Haryana High Court (HC).

Continue Reading Landowners to Breathe Easy – No Tax on JDA until its Registration