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  • Union Budget 2017-18 Key proposed substantive amendments to Income Tax Act, 1961

  • CORPORATE TAXATION

    1. Rate of Taxation In the case of domestic companies, the rate of income tax

    has been reduced to 25% (twenty five percent) of the total

    taxable income, if the total turnover or gross receipts of the

    previous year 2015-16 does not exceed fifty crore rupees.

    However, rate of taxation for other companies having

    turnover or gross receipts in excess of fifty crore rupees

    remains unchanged and any income of such companies shall

    be taxable at the rate of 30% (thirty percent).

    2. Tax Neutral Conversion of Preference Shares to Equity Shares In terms of the provisions of the Income Tax Act, 1961 (Act)

    conversion of Preference Shares to Equity Shares is not a tax

    neutral transaction and is liable for capital gains taxes. Vide

    Finance Bill, 2017 it is proposed to introduce Sub Section

    (xb) to Section 47 of the Act to not to consider the

    conversion of Preference Shares into Equity Shares as

    transfer, hence the charging provisions of Section 45 of the

    Act pertaining to Capital Gains shall not be applicable.

    Relevant amendments are also proposed to be made in

    Section 2(42A) of the Act for the purposes of including in the

    period of holding of equity shares the period of holding of

    preference shares prior to conversion. Thus, in other words

    for the purpose of adjudging the nature of the equity shares,

    being short term capital asset or long term capital asset, the

    India Mauritius Tax Treaty

    Now, since amendments

    are being proposed to

    make conversion of

    Preference Shares into

    Equity Shares as Tax

    Neutral and to include in

    the period of holding of

    Equity Shares the period

    of holding of the

    preference shares, it is

    worthwhile to analyze

    whether the

    grandfathering provided

    under the India

    Mauritius Protocol shall

    be available to

    Preference Shares issued

    prior to April 1, 2017 but

    converted to Equity

    shares post April 1, 2017

    and then subsequently

    transferred.

  • period of holding of preference shares prior to conversion into equity shares shall also be

    considered.

    Also, amendments are proposed in Section 49 of the Act, to take the cost at which the

    preference shares were acquired as the cost of acquisition of the converted equity shares.

    Thus, no capital gains tax shall be levied at the time of conversion of preference shares into

    equity shares and at the time of transfer of equity shares, cost of acquisition and the time of

    acquisition of preference share to be considered.

    3. Capital Gains Tax Exemption to Rupee Denominated Bonds Vide Finance Act, 2016, inter alia amendments were made in Section 48 of the Act so as to

    provide that the gains arising on account of appreciation of rupee against a foreign currency

    at the time of redemption of rupee denominated bond of an Indian company (Masala Bonds)

    subscribed by the Non-Resident, shall be ignored for the purposes of computation of full

    value of consideration.

    The benefit of Section 48 as introduced vide Finance Act, 2016 are proposed to be extended

    to the subsequent non-resident holders of the bond vide the instant Finance Bill.

    It is further proposed to exempt the capital gains arising on transfer of such bonds by a Non-

    Resident to a Non-Resident. Amendments are proposed in Section 47 of the Act so as to

    provide that any transfer of such bonds by a Non-Resident to another Non-Resident shall not

    be regarded as transfer.

    4. Lower Withholding Tax Rate on Interest payment in case of borrowings in foreign currency Section 194LC of the Act provides for a lower withholding tax rate of 5% on interest payable

    to a non-resident by a specified company on borrowing made by it in foreign currency from

    sources outside India under a loan agreement or by way of issued of long term bonds.

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  • However, the period prescribed for availment of such lower withholding tax rate is on the

    payment of interest arising on any such loans availed or bonds issued on or after July 1, 2012

    but before July 1, 2017.

    In view of the representations received to extend the concessional rate of withholding tax, it

    is proposed vide the instant Finance Bill, to extend the benefit of lower withholding taxes on

    interest payments arising on borrowing made before July 1, 2020.

    Furthermore, the benefit of 5% withholding tax is also provided on interest payments made

    on rupee denominated bonds issued outside India before July 1, 2020.

    5. Thin Capitalization Rules A company is said to be thinly capitalized when a greater proportion of its capital-structure

    is made up of debt than of equity. The interest payments generated on debt capital is

    treated as a finance charge, and is allowable as a deduction in the taxable corporate income,

    thereby reducing the corporate tax burden. Hence, higher proportion of debt results in tax

    avoidance.

    Honble Bombay High Court in the case of Director of Income-tax, International Taxation-II,

    Mumbai v. Besix Kier Dabhol SA [ITA No. 776 of 2011] held in favour of the assesse and held

    that since no thin capitalization rules are in force in India, interest expenditure on debt even

    in abnormal debt equity ratio of 248:1 could not be disallowed.

    To prevent such abuse, it is proposed to introduce a new Section 94B of the Act in line with

    the recommendation provided by Organisation for Economic Co-Operation and Development

    in BEPS Action Plan 4.

    The provisions of the proposed Section 94B of the Act shall be applicable to an Indian

    company or a permanent establishment of a foreign company, who being the borrower pay

  • interest to the non-resident in respect of debt issued by such non-resident, being an

    associated enterprise. Furthermore, debt shall be deemed to be issued by the associated

    enterprise if the associated enterprise instead of directly issuing the debt, indirectly provides

    an implicit or explicit guarantee to any other lender or deposits corresponding and matching

    amount of funds with such lender so as to issue debt to the Indian company.

    Interest expenses claimed by the Indian company or permanent establishment of a foreign

    company in lieu of the aforesaid debt received from an associated enterprise directly or

    indirectly shall be restricted to 30% (thirty percent) of its earnings before interest, taxes,

    depreciation and amortization (EBIDTA) or interest actually paid or payable to associated

    enterprise whichever is less.

    However, if the interest expenses claimed are higher than 30% of EBIDTA, a carry forward of

    the disallowed (excess) interest expense shall be allowed to eight assessment years

    immediately succeeding the assessment year for which the disallowance was first made. The

    carried forward expense shall be eligible for deduction as expense from profits and gains from

    business and profession, subject to the cap of interest expense being 30% of EBIDTA.

    The amendment is proposed to be effective from April 1, 2018 ie. Assessment Year 2018-19

    and shall only be applicable in a scenario where interest payments are more than Rs. 1 Crore.

    If the interest expense is below Rs. 1 Crore, no disallowance would be made under the said

    Section.

    6. Secondary Adjustments in Transfer Pricing Finance Bill, 2017 proposes amendments to the Transfer Pricing Rules to provide for

    secondary adjustments. While various countries are already following the concept of

    secondary adjustments, the Indian government has taken a leap to align itself with the

    recognized guidelines across the world and a step to raise more voluntary adjustments.

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  • Secondary adjustment means an adjustment in the books of accounts of the assesse and

    its associated enterprise to reflect that the actual allocation of profits between the assesse

    and its associated enterprise are consistent with the transfer price determined as a result of

    primary adjustment, thereby removing the imbalance between the books of accounts and

    actual profit of the assesse.

    A new section 92CE is proposed to be inserted, with effect from April 1, 2018, ie. Assessment

    Year 2018-19, wherein, the assessee shall be required to carry out secondary adjustments

    when the primary adjustment to transaction price (to compute arms length price), has been

    made:

    1. suo motu by the assessee; or

    2. by the Assessing Officer; or

    3. is determined by an advance pricing agreement; or

    4. is made as per the safe harbour rules; or

    5. is arising as a result of resolution of an assessment by way of the mutual agreement

    procedure;

    And where as a result of primary adjustment to the transaction price the excess money which

    is available with its associated enterprise, if not repatriated to India within the time as may

    be prescribed shall be deemed to be an advance made by the assesse to such associated

    enterprise and the interest on such advance, shall be computed as the income of the

    assessee, in the manner as may be prescribed.

    The provisions of the proposed Section shall not be applicable in a scenario wh