India Increases Withholding Tax Rate: What You Need to Know!

The withholding Tax rate increased from 10% to 20% for the Royalty / Fees for Technical Services received from India

The Indian Finance Bill 2023 has received assent from the President on 31 March 2023. This makes the amendments in the Finance Bill effective from 1 April 2023. 

One of the major impacts of such an amendment is an increase in the withholding tax rate under the Indian Income Tax Act, 1961 (‘the IT Act’) on royalties and fees for technical services (FTS) paid to non-resident entities from 10% to 20%.

Withholding Tax: 

As per the IT Act, payment made to non-residents towards Royalty / Fees for technical services by an Indian resident is subject to withholding tax at a rate specified under section 115A of the IT Act.

Impact: 

The Finance Bill 2023, has amended the withholding tax rate on Royalty / Fees for technical services (‘FTS’) payable to non-residents by an Indian resident to increase the same from 10% to 20% effective from 1 April 2023.

• Section 115A of the Act: As per the changes in the Finance Bill 2023, this rate has been increased to 20% (from 10%). The cost for the Indian resident would increase if they gross up the withholding tax with the amount of Royalty / Fees for technical services (‘FTS’) payable.
• Section 90(2) of the Act: A non-resident can opt for a lower tax rate as prescribed in the respective Tax Treaties. If rates as per the Tax treaties are opted by the non-residents, it would entail increased compliance for them, such as obtaining PAN, filing of income tax return, obtaining a tax residency certificate to obtain treaty benefits,s, etc. 

 Summarized Impact:

 *Generally, the 10% withholding tax rate under the Act was lower than the tax treaty rate hence, the same was beneficial for non-resident payees including the exemption from filing any tax return in India.

Further, it is observed that generally, the Indian subsidiaries remit sums as royalty or FTS to their overseas parent or affiliate entity for use of global brand or under licensing agreements for technical know-how adhere to grossing up provisions, especially while making remittances to tax-free jurisdiction. This is absorbed as the cost in the books of the payer. The amended provisions shall lead to higher costs in case of such grossing-up arrangements. An illustration of grossing up cost is hereunder:

Illustration – Grossing up:
 

 **In case of availing treaty benefit, additional documents such as PAN, Tax Residency certificate, etc. will have to be provided by the non-resident payees.

Impact vis a vis UAE India’s Tax treaty:

As per Article 12 (Royalty) of the UAE – India Tax Treaty allows claiming lower withholding the tax (10%) of the gross amount of royalties paid. However, to avail of the same, the payee shall be required to comply with the compliance requirements as mentioned above. 

However, there is no Article on “FTS” in UAE -India Tax Treaty, in which scenario generally a stand is taken that the same constitutes Business Income and if the payee does not have a Permanent Establishment in India, no taxes should be withheld. Going forward when such a stand is taken, the payee would be required to fulfill all the compliance requirements and it may also attract the attention of the Tax Authorities, which may ask for justification/explanation of such a position.

Way Forward:

• Businesses (non-resident) receiving Royalty / FTS from residents in India will be required to review their positions and compliances in India.
• Payers who made payments to non-residents by grossing up the withholding tax will need to review their tax costs.
• Entities may want to evaluate the benefit of lower withholding vis-à-vis the cost of compliance in India.
• Entities may evaluate, to obtain lower tax deduction certificates from the Tax authorities in India to mitigate risk.

For International Tax Support:

Purvi Mehta
Manager – Direct Tax
M: +971 52 2800480   E: purvi@emiratesca.com