Background

Earlier under Section 6(3) of the Income Tax Act, 1961, (“the Act”), a foreign company was regarded as a tax resident of India only if it was ‘wholly controlled and managed’ in India. Under the new regulations, a company shall be considered resident in India if it’s ‘Place of Effective Management (POEM)’ lies in India. Finance Act, 2016 had proposed a deferral of POEM regulations by one year, thus making it effective from the financial year beginning April 1, 2017. Thus, the new tests of residency is applicable for all corporate taxpayers with effect from April 1, 2017.

Section 115JH of the Act which provides the special provisions applicable to foreign company said to be resident in India, required the government to provide the conditions for computation of total income of such foreign company considered as resident in accordance with POEM. On 15 June 2017, Central Board of Direct Taxes (“CBDT”) issued a draft notification for implementing the provisions of the section115JH of the Act. CBDT has now issued the final notification under section 115JH of the Act on June 22, 2018, specifying tax consequences in respect of foreign company treated as resident in India on account of its POEM being in India

The final notification lays down the conditions and guidance to foreign companies in computation of income if it is considered as a resident. These are the conditions subject to which the provisions of Act shall apply to a Foreign Company qualifying as resident in India owing to the applicability of the provisions of POEM. These conditions provide the manner of computation of depreciation, carry forward and set off of losses. The final conditions in brief are as under:

  1. Opening Written Down Value (WDV)

  • If the foreign company is assessed to tax in the foreign jurisdiction:

  1. WDV as per the tax record in the foreign country as on the 1st day of the previous year shall be taken as the opening WDV for the said previous year

  2. In case depreciation is not required to be computed in the foreign jurisdiction, the WDV shall be computed as per the provisions of the laws of foreign jurisdiction as on the 1st day of the previous year and the same shall be adopted to be the opening WDV for the said previous year.

  • If the foreign company is not assessed to tax in the foreign jurisdiction:

  1. WDV appearing in the books of accounts as on 1st day of the previous year computed as per the law of foreign jurisdiction shall be adopted.

  1. Brought forward loss and unabsorbed depreciation

  • If the foreign company is assessed to tax in the foreign jurisdiction:

Brought forward loss and unabsorbed depreciation as per the tax record shall be determined year wise on the 1st day of the previous year.

  • If the foreign company is not assessed to tax in the foreign jurisdiction:

Brought forward loss and unabsorbed depreciation as per the books of account prepared in accordance with the laws of that country shall be determined year wise on the 1st day of the said previous year

  • The brought forward losses and unabsorbed depreciation of the foreign company shall be deemed to be incurred in the year in which they occurred for the first time taking that year as the first year

  • Set off of losses and unabsorbed depreciation shall be allowed only against such income which has become chargeable to tax upon foreign company attaining the status of resident in India.

  • If the losses and unabsorbed depreciation are revised subsequently in the foreign jurisdiction, then the figures adopted in India will also be revised.

  1. Accounting year does not end on 31st March

The notification has dealt the cases where accounting year followed by the foreign company is different than that followed in India i.e. 1 April to 31st March

  • The foreign company shall be required to prepare its balance sheet and profit and loss account for the period beginning from the date when accounting year followed by the foreign company begins till 31st March of the year immediately preceding the period beginning with 1 April and ending on 31 March during which company has become resident.

Further, balance sheet and profit and loss account shall be prepared for the period of 12 months beginning from 1 April till 31st March till the period foreign company remains resident on account of POEM in India.

  • For the purpose of carry forward of losses and unabsorbed depreciation, if the period beginning from the date when accounting year followed by the foreign company begins till 31st March of the year is

    1. less than 6 months, then, such a period shall be included in the period beginning from 1 April and ending on 31st March during which it becomes resident.

    2. equals to or more than 6 months, such a period, shall be considered as a separate year.

The losses and unabsorbed depreciation in above cases shall be allocated on proportionate basis.

  1. Compliance to provisions of TDS (Chapter XVII-B of the Act)

  • If the provisions become applicable as a resident and as a foreign company also, then, the provisions applicable to a foreign company will apply alone.

  • Compliance to the TDS provisions as a foreign company prior to becoming Indian resident shall be considered as a sufficient compliance.

  1. Other Important points

  • The foreign company shall be entitled to claim credit of foreign taxes paid as per section 90 or section 91 of the Act and Rule 128 of the Income-tax Rules, 1962.

  • The provisions contained in this notification shall not apply to the income which would have been charged to tax in India even if the foreign company has not become resident on account of POEM being in India.

  • The exceptions, modifications, adaptions in this notification shall apply only if WDV, brought forward losses and unabsorbed depreciation on the first day of the previous year in which the foreign company has become resident is computed in accordance with the provisions of this notification

  • Subject to the provisions of this notification, both the provisions applicable to a foreign company and a resident shall apply to the foreign company upon becoming resident in India. In case of any conflict between the provisions, the provisions applicable to the foreign company shall prevail. Therefore, the rate of tax applicable to the foreign company @ 40% shall continue to apply on the foreign company.

Nangia’s take

The notification has provided clarity to the foreign companies which shall be considered as a resident in India owing to its POEM being in India. It provides guidance in case any conflict arises in the application of provisions of the Act to such foreign company qualifying as a resident company vis-à-vis a domestic resident company. Guidelines have been laid for providing clarity on treatment of the items which are not year specific and relate to previous years such as depreciation, set off losses. These provisions will ease the understanding and lead to smooth implementation of the provisions in the cases where the foreign company is considered as resident for the first time in India.

The notification further clarifies that the foreign company qualifying as a resident owing to POEM being in India, shall be taxable at the rate applicable to a foreign company and not the rate applicable to a resident company. Hence it clarifies that the intention of the law is clear that the provisions which are more beneficial to the resident companies shall not apply to foreign companies becoming a resident owing to its POEM.