IFA Seminar

“International Tax & Transfer Pricing Proposals in the Finance Bill 2016”

1 29-04-2016

Impact of POEM on tax in India

2

Multilayer Holding Structure

Indian Co

SPV1 (Singapore)

SPV2 (Singapore)

Operating Co (UK)

In India

Outside India

Div

ide

nd

Operating Co (US)

Passive Entity

Passive Entity

Div

ide

nd

Facts:

Indian Co is Parent company of SPVs in Singapore where

one of them holding Operating Cos in UK & US

SPVs in Singapore are passive entities

Dividend received by Indian Co is taxable u/s 115BBD

Dividend received in Singapore is taxable in India in case

PoEM in India

Withholding Tax is deducted on payment of dividend by

Operating Cos to Singapore

Double taxation of income and non-availment

corresponding foreign tax credit?

Analysis:

The guidelines on PoEM should clearly provide a

mechanism for claiming FTC in case a foreign company

creates a PoEM in India

A mechanism should be provided to avoid double taxation

of the same income in the hands of different companies

creating PoEM in India in a multi-layer structure 3

Stake sale by SPV company in a particular year

Indian Co

Foreign Co 1

Foreign Co 2

Third Party buyer

In India

Outside India

100%

Decision in respect of sale of Foreign Co 2 by Foreign Co 1 is ratified by Indian Co

Facts:

I Co has an overseas subsidiary F Co1 which in turn has a

subsidiary F Co2

F Co 1 transfers shares in F Co2 and makes capital gain

which is greater than 50% of the total income earned

during the year.

Decision to sell F Co2 was taken by Board of Directors

(BoD) of F Co1.

I Co as a parent ratifies the decision taken by BoD of F Co1

F Co1 & F Co2 do not have active business in India

Issue:

Whether F Co1 has PoEM in India and whether income

arising on transfer of shares, would be taxable in India?

Analysis:

In this case, the tax authorities may take a view that I Co has taken key managerial and commercial

decisions with regards sale of shares F Co2, holding F Co1 to be resident in India.

On F Co1 becoming Indian tax resident, capital gains arising from the transfer of shares of F Co2 may

become taxable in India

An analysis needs to be done as to whether the decisions taken by I Co are in nature of “Stewardship

Activity” or “Key Management Decision” triggering PoEM in India 4

Active Company

Foreign Tax Credit (FTC)– Scenario 1

Facts:

I Co has an overseas subsidiary in Singapore (F Co).

F Co is receiving interest from third party co which is

taxable @ 20% in Singapore.

F Co is also earning revenue from its other operations

in Singapore.

As per India – Singapore DTAA, Singapore has right to

levy tax on interest @ 15%

Scenario:

Indian Revenue Authority and Foreign Country (in

which assessee is incorporated) agree with a view that

PoEM of assessee is in India

Analysis:

The state of residence (India) will allow tax credit to the extent of 15%, since the rate is in

accordance with DTAA resulting a juridical double taxation to the extent of 5%

F Co’s actual operation outside India will be considered as PE under treaty and profit attributable

as per Article 7 to PE will be taxed by Singapore and India will give credit for the said tax.

Allocation of profit between India & PE and consequent availability of FTC in India will be a

contentious issue. 5

Indian Co

Foreign Co (Singapore)

Third Party (Singapore)

In India

Outside India

100%

Payment of Interest

Foreign Tax Credit (FTC) – Scenario 2

Facts:

I Co has an overseas subsidiary in Singapore (F Co).

F Co is earning profit from third party company in

Singapore.

F Co is also earning revenue from a company of UK.

Scenario: Indian Revenue Authority and Foreign Country (in

which assessee is incorporated) do not agree with a view that PoEM of assessee is in India and Foreign Country (Singapore) holds assessee as its resident

Analysis:

The income by F Co from its operations in Singapore will be subject to Singapore Corporate Tax.

India will allow credit only for taxes proportionate to income attributable to PE in Singapore

while taxing the entire income in India resulting in double taxation to the extent the assessee

is unable to get FTC in India.

Income earned by F Co from UK may be liable for tax in both India and Singapore. This may result

in double taxation on account of incremental tax paid in Singapore not been considered for FTC in

India 6

Indian Co

Foreign Co (Singapore)

Third Party (Singapore)

In India

Outside India

100%

Income

Third Party (UK)

Income

If Foreign Company has its PoEM in India …Potential Implications

7

ISSUE Comments

Tax Rate Tax rate 30% or 40%? More likely to be 40% (plus applicable surcharge and cess)

Dividend Distribution Tax May not apply - foreign company may not qualify as a ‘domestic company’

Minimum Alternate Tax Separate guidance on MAT applicability for foreign companies becoming residents under PoEM directive is required

Applicable tax rate in case dividend received from foreign companies u/s 115BBD

Special rate of 15% may not be applicable – as it may not qualify as “Indian Company”

TDS Compliances TDS obligations may arise in case of income deemed to accrue and arise in India. Potential conflict with Sec 195

Transfer Pricing Compliances Foreign Company’s Transaction Cross border transactions with Foreign AEs may need to

reported as “International Transaction” Transactions with Indian related entities may get reported as

“Specified Domestic Transactions”

Tax Return, Tax Audit Report and other compliances

Likely complex compliance requirements All provisions applicable to a resident company would be

applicable

Foreign Tax Credit Grey area Tie Breaker Rule OR Mutual Agreement Procedure (MAP) will

have to be enforced

International Precedents / Jurisprudence

8

Calcutta Jute Mills Co v Nicholsan (1 TC 83) 1876

UK

§ CJM incorporated in UK § CJM did not own any office / operation in UK

§ 5 - UK directors and 1 director in India

§ Board meetings, and AGM held in London in an office lent by a

director

India

Calcutta Jute Mill Co. (‘CJM’)

UK company carried

on the trade of jute

spinners and manufacturers in

Calcutta, India.

► UK Court held absence of office premises in UK was an irrelevant factor in deciding the corporate

tax residence. ► Company undoubtedly resides at the office or place where the directors meet- meetings of the whole

company are held and where they transact their business and exercise the powers conferred upon

them by the law and AoA.

Slide 1

POEM Discussion

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Cesena Sulphur Company v Nicholsan (1 TC 88) 1876

United Kingdom

Italy County of Incorporation

Country of registration No sale

Mining and sale of Sulphur Meeting of BOD and shareholders

Majority

shareholders

Italian residents

Declaration of dividend and determining the MD lived in Italy

future of business

Findings of UK Court Company for tax purpose is Resident: ► Where every act connected with the administrative part of business was done;

► The place from where all the orders came, all the directions flowed;

► Where the appointments of the various officers were made and revoked,

► Where agents were nominated and recalled,

► Where the money was received and dividends were declared and were payable.

We find all these acts performed in London… thus resident of UK

Page 2

POEM Discussion

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De Beers Consolidated Mines Ltd v Howe (5 TC 198) 1905

Particulars

London

Kimberley Country of Incorporation - owned mines and mining

-

√ property

Ordinary directors

9

7 Life Governors

2

1 Meetings held weekly

√

√

Powers of BOD in London

· Negotiation of the contracts with the Diamond Syndicates

· Advise directors in Kimberley on matters of exceptional importance

· Policy in respect of disposal of diamonds and other assets

· Policy in respect of working and development of mines and output of

diamonds · Policy in respect of application of profits and appointment of directors

· Appointment of directors

· BOD meetings to arrive at absolute majority for decision-making

purposes

Powers of BOD in

Kimberley

· Determine the course of

business in

respect of mining

diamonds

Page 3

POEM Discussion

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De Beers Consolidated Mines Ltd v Howe (5 TC 198) 1905

Place where board of directors meetings are held

Place where chief seat of management is located Central management and

Control test laid down which

became rule of law

Place where actual decision making

Place where head and brain of the by majority of directors take place

company is located

“A company cannot eat or sleep, but it can keep house and do business. We ought,

therefore, to see where it really keeps house and does business.’

“The decision of Kelly C.B. and Huddleston B. in the Calcutta Jute Mills v.

Nicholson and the Cesena Sulphur Co. v. Nicholson, now thirty years ago, involved

the principle that a company resides for purposes of income tax where its real

business is carried on. I regard that as the true rule, and the real business is

carried on where the central management and control actually abides”

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POEM Discussion

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Thank You

13

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• CM&C differed from POEM, in part due to the fact that the former was a ‘one residence test ‘, while the letter would be applies as a ‘dual residence test’.

• “Effective” in POEM should be understood in the sense of French

effective which connotes real [French is another official version of OECD model]

• First in time in Wensleydale's Settlement Trustees ‘ case in which

Special Commissioner David Shirley said of POEM to mean:

Smallwood v Revenue & Customs (SpcC 669) (2008)

Smallwood v Revenue & Customs (SpcC 669) (2008)

• "I emphasise the adjective 'effective'. In my opinion it is not sufficient that some sort of management was carried on in the Republic of Ireland such as operating a bank account in the name of the trustees. 'Effective‘ implies realistic, positive management. The place of effective management is where the shots are called, to adopt a vivid transatlantic colloquialism.“

• Also warned about adopting alternative paraphrases such as "calling the shots" because in a way shareholders called the shots but this was not a relevant type of control. However, we adopt his reference to "realistic, positive management."

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Bullock v Unit Construction

Company (38 TC 738)

• While certain operational decisions have been made at a subsidiary level, the directors of the UK parent company had always made key decisions in respect of the three subsidiaries.

• It was thus held that the subsidiaries were UK residents.

Egyptian Delta Land &

Investment co. ltd v Todd (14 TC

119)

• If a company has no place of trade in the UK and does nothing at its head office except for minimum and occasional formalities, it cannot be a resident there. The company therefore held to be resident in Egypt. Court emphasised that the place of incorporation alone would be inadequate to conclude on the residency of a taxpayer.

American Thread company v Joyce (6

TC 1/163)

• Control of the management of the affairs of the American Company vested in UK given that strategic decisions were made at a UK level and that the American Company’s board was constantly dominated by the English Company.

Key principles emerging from other decisions – relevant for subsidiaries.

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Hoge raad der netherlands

(Netherlands SC)

• The term “effective management” is related to taking core decisions, directing, and taking initiatives, rather than carrying out, or preparing or determining, policy, or determining the company's activities.

• As daily management seems in opposition to key management, it is unlikely that it could ever make up part of any core decisions.

Case 2C 1086/2012,2C

1087/2012

(Switzerland SC)

• POEM must be distinguished from both top-level management activities and purely administrative activities.

• POEM defines as the economic and effective center of a company.

• The decisive factor is the management of daily business activities within the company's purpose.

Yanko weis Holdings Ltd v.

Holon income tax Assessor

(Israel district court)

• POEM should be determined on the basis of a factual assessment of where the decisions as to the company's business policies, strategy and daily decisions were taken

• Place where the management decisions were actually taken instead of execution the same.

POEM – International judicial precedents

Page 6

Held Case

POEM - FIT 17

UK HMRC Position- INTM120210

• It may be exceptional for the directors of a company to stand aside completely. It is, however, not unusual for directors to act in accordance with the wishes of the parent. We took advice about the matter and the advice was that the test should properly be whether the local directors apply their minds to `suggestions' from the parent and form an independent judgment before implementing their parent's wishes or whether, on the other hand, they merely `rubber stamp' and carry out without serious question the higher policy wishes of the parent company.

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Residency Rules - interpretation of POEM

Australia

A company becomes a resident of Australia if it is incorporated in Australia or if it carries on business in Australia, and has either its central management and control in Australia or its voting

power is controlled by shareholders who are residents of Australia

Belgium

Belgian tax law defines POEM as the place where the actual key decisions controlling the company are taken, disregarding the location where the BOD formally approve decisions taken elsewhere

France

France has interpreted the OECD commentary for the determination of POEM as place where the person or the group of persons exercising the most senior functions makes its decision

Greece

POEM is the place where the day-to-day management of the company takes place, where the strategic business decisions are made, where the key meetings take place, where the accounting

books are kept or if the BOD comprises of Greek residents. The tax administration may also

examine additional factors

Hungary

POEM is the place where the key management and commercial decisions are made, where the top executives are located and where the senior executives carry on day to day management of the

enterprise

Italy Italian tax laws determine POEM as the place where the main and substantial activity of the entity is carried on. However, the courts consider POEM as the place where key decisions are actually

taken, irrespective of the place where they are formally made

Page 7 POEM Discussion

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Residency Rules - interpretation of POEM

Netherlands

Domestic tax law considers POM where the place of ultimate managerial responsibilities over the place where day-to-day management is effected

Russia A foreign company is deemed to be a resident in Russia if a relative majority of board meetings are held in Russia, if executive body regularly conducts company related activities from Russia

or if the Chief executives perform their managerial duties from Russia. Tax administrations may

consider other criteria such as place of maintenance of accounting records, place from which HR

functions are undertaken, etc

USA US follows the OECD commentary for the determination of POEM. However, it reserves the right to use a place of incorporation test for the determination of tax residency of a corporation

Each contracting state adopts different criteria for determining the POEM

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POEM Discussion

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