What happens...when a foreign vendor says I will not bear the tax withholding cost in India:
Ours a small beautiful world today! Foreign suppliers, vendors, service providers, business partners are very commonly found in our increasingly interdependent world. Thus, here are several Indian entities buying goods, services, technologies from overseas (and generally better) suppliers and making payments for the same. Even paying dividends, interest, lease, return on capital etc. to foreign investors and lessors is not that uncommon.
Often, the business discussions between foreign and indigenous parties start on a very positive note and while the parties head towards successful closure, they start discussing 'commercials'. And Often, such discussions overlook a very critical component 'TAXES' while deciding 'commercials'. Lucky are those, who identify the implications of TAXES well within time and take suitable decisions.
What can be the implications of TAXES? The commonest of those remain withholding taxes or tax deducted at source or TDS as commonly said. Under the Indian Tax Laws, the Indian payer is required to withhold taxes on taxable income arising to the foreign entity by virtue of the payments made by the Indian payer. Apart from payments made by an Indian party for pure purchase of goods from foreign supplier, rest all type of payments (whether for revenue or capital purpose(s)) has the exposure of withholding taxes. The implications of withholding taxes are many, not only does it have financial impact, but also certain procedures.
Withholding taxes means, before making the payment to foreign vendor, the Indian party has to deduct a certain % therefrom (could be 10%, 15%, 20 or 25% or even 40%), depending upon the situation. The Indian party thereafter deposit such withheld (tax) amount to the Indian Government and issues a certificate to the foreign vendor, which entitles the foreign vendor claim credit of such taxes (withheld in India) in its respective country.
For example, while making a payment of USD 100 to an American vendor, if the Indian payer withhold 10% tax, then it will pay USD 90 to the vendor and deposit USD 10 with the Indian Government and issue a tax withholding certificate to the American Co. Thus, the American Co. receive USD 90 immediately in consideration of its services worth USD 100 and it receive certificate of USD 10 which it can claim from the USA Government by way of reduction in its taxes (may be at at the time of filing it's annual return).
The % at which taxes are withheld is governed by the tax deduction rates provided in Indian domestic tax laws on a particular type of payment and also by the rates provided in double tax avoidance treaty between India and the country of that vendor. Taxes are withheld at the rate which is lower out of rates provided in domestic law or treaty and which is beneficial to the taxpayer. In our example, if the Indian payer is paying Dividends and rate of tax withholding provided for dividends under Indian domestic law is 20%, and rate of tax withholding under India-USA tax treaty is 10%, then Indian payer can withhold taxes at 10% (at lower of the two rates). Similar analysis will have to be done if Indian payer makes payment of royalties or interest or anything else (it differs with type/nature of payment made). Further, in order to apply the lower rate of tax, the US Co. will have to provide certain documents such as Indian Permanent Account Number ('PAN' obtained from Indian tax authorities), Tax residency Certificate ('TRC' provided by US or any other country's Tax Authorities). As said before, to claim credit of taxes withheld in India or for reduction in its tax liability, the US Co. will have to apply before the US tax authorities as per their laws and get such benefit.
Now, here comes the difficulty. The financial and procedural aspects of tax withholding would seem to be putting foreign party in some dis-advantage and make the whole a long drawn process. Even getting prescribed documents would sound troblesome. However, without tax withholding, Indian payer cannot make the payment. Else, there could be serious penalties imposed on Indian payer.
So what would happen when foreign party refuse to have any tax withholding on its payments from India. In other words, the foreign company is asking Indian Co. to bear the cost of tax withholding and make payments net of taxes to foreign vendor. This means for a USD 100 payment, Indian payer will have to bear additional cost of USD 11.11 to comply with tax withholding requirement of 10%. Higher the tax rate (such as 20% or 40% depending on nature of payment or availability of required documents), higher the incremental cost to Indian payer. So what happens in such situation?
First it boils down to commercials. If it is commercially viable for Indian payer to absorb the incremental cost of taxes (and thereby increase its overall project cost), then it must negotiate, else it may have to leave the deal there and then. Though, the Indian party can ask the foreign payee to bear half of the cost, so that both parties share equal burden of it. It's both's business after all!
But if both parties try to find a solution, there are many options to choose one from. Firstly, withholding taxes are a reality found in every part of the world and not alien to India alone, thus, the parties must recognise and accept it as a vital component of business and be open to finding solutions around it.
It calls for a proper analysis of domestic tax laws and relevant tax treaty. There are several tax exemptions and benefits provided in the law(s) itself whose benefits can be availed and taxes could be reduced to NIL naturally. If the standard laws do not provide for any such benefit, then there are ways (provided in the law itself) in which parties can approach tax authorities and ask their permission for applying lower tax rates (by way of 197 certificate or advance ruling). The tax authorities of the two countries involved can also speak with each other to find solution to a particular tax problem (provisions of information exchange and Mutual Agreement Procedure are found in every tax treaty).
Even when taxes are withheld, for a foreign company to approach tax authorities of it's own country for claiming credit of taxes withheld is easier than it looks. Those authorities gave their consent (as a signatory to the tax treaty) to allow such credit and have simple and effective procedures through which benefit envisaged by their laws is provided. The foreign Co. has to ask for it, that's it. Even in cases of non-treaty countries, credit mechanism is provided. Thus, money withheld as taxes is never sunk, contrary to the fond perception.
Another interesting solution in our above-mentioned example could be that while Indian party pays USD 100 net to the US Co., it deposit USD 11.11 to Indian Government from its own pocket and provide a tax withholding certificate to the US Co. Therafter, the US Co can claim credit of such taxes from US tax authorities and after getting such benefit, it can refund back USD 11.11 to the Indian party. Putting no one to loss, except following certain procedures, that's all.
Now the documents required for lowering tax rate or making an exemption (such as PAN or TRC), they are not tough to obtain. By filing simple details with tax authorities (online or manual) these documents can be obtained in 2 weeks time. The apprehensions that having obtained such documents bring foreign Co. before eyes of tax authorities and they could be exposed to unnecessary tax filing and other requirements is baseless. Nothing happens merely due to having those documents in your name in any country. Its similar to the case that merely having a license to drive on road doesn't create any issue, it is the crime of rash driving which expose people towards penalties.
Thus, the resistance of foreign entities towards Indian tax withholding has more to do with a mindset of trying to find easier routes to doing business and baseless apprehensions, which one should not let deter the business realities. As we have seen, parties must discuss issues with openness and try to find solutions in real sense, which are not difficult to come by.
Whichever route one want to take or ultimately takes, as earlier said, better to be lucky to make or break it in time.
Ours a small beautiful world today! Foreign suppliers, vendors, service providers, business partners are very commonly found in our increasingly interdependent world. Thus, here are several Indian entities buying goods, services, technologies from overseas (and generally better) suppliers and making payments for the same. Even paying dividends, interest, lease, return on capital etc. to foreign investors and lessors is not that uncommon.
Often, the business discussions between foreign and indigenous parties start on a very positive note and while the parties head towards successful closure, they start discussing 'commercials'. And Often, such discussions overlook a very critical component 'TAXES' while deciding 'commercials'. Lucky are those, who identify the implications of TAXES well within time and take suitable decisions.
What can be the implications of TAXES? The commonest of those remain withholding taxes or tax deducted at source or TDS as commonly said. Under the Indian Tax Laws, the Indian payer is required to withhold taxes on taxable income arising to the foreign entity by virtue of the payments made by the Indian payer. Apart from payments made by an Indian party for pure purchase of goods from foreign supplier, rest all type of payments (whether for revenue or capital purpose(s)) has the exposure of withholding taxes. The implications of withholding taxes are many, not only does it have financial impact, but also certain procedures.
Withholding taxes means, before making the payment to foreign vendor, the Indian party has to deduct a certain % therefrom (could be 10%, 15%, 20 or 25% or even 40%), depending upon the situation. The Indian party thereafter deposit such withheld (tax) amount to the Indian Government and issues a certificate to the foreign vendor, which entitles the foreign vendor claim credit of such taxes (withheld in India) in its respective country.
For example, while making a payment of USD 100 to an American vendor, if the Indian payer withhold 10% tax, then it will pay USD 90 to the vendor and deposit USD 10 with the Indian Government and issue a tax withholding certificate to the American Co. Thus, the American Co. receive USD 90 immediately in consideration of its services worth USD 100 and it receive certificate of USD 10 which it can claim from the USA Government by way of reduction in its taxes (may be at at the time of filing it's annual return).
The % at which taxes are withheld is governed by the tax deduction rates provided in Indian domestic tax laws on a particular type of payment and also by the rates provided in double tax avoidance treaty between India and the country of that vendor. Taxes are withheld at the rate which is lower out of rates provided in domestic law or treaty and which is beneficial to the taxpayer. In our example, if the Indian payer is paying Dividends and rate of tax withholding provided for dividends under Indian domestic law is 20%, and rate of tax withholding under India-USA tax treaty is 10%, then Indian payer can withhold taxes at 10% (at lower of the two rates). Similar analysis will have to be done if Indian payer makes payment of royalties or interest or anything else (it differs with type/nature of payment made). Further, in order to apply the lower rate of tax, the US Co. will have to provide certain documents such as Indian Permanent Account Number ('PAN' obtained from Indian tax authorities), Tax residency Certificate ('TRC' provided by US or any other country's Tax Authorities). As said before, to claim credit of taxes withheld in India or for reduction in its tax liability, the US Co. will have to apply before the US tax authorities as per their laws and get such benefit.
Now, here comes the difficulty. The financial and procedural aspects of tax withholding would seem to be putting foreign party in some dis-advantage and make the whole a long drawn process. Even getting prescribed documents would sound troblesome. However, without tax withholding, Indian payer cannot make the payment. Else, there could be serious penalties imposed on Indian payer.
So what would happen when foreign party refuse to have any tax withholding on its payments from India. In other words, the foreign company is asking Indian Co. to bear the cost of tax withholding and make payments net of taxes to foreign vendor. This means for a USD 100 payment, Indian payer will have to bear additional cost of USD 11.11 to comply with tax withholding requirement of 10%. Higher the tax rate (such as 20% or 40% depending on nature of payment or availability of required documents), higher the incremental cost to Indian payer. So what happens in such situation?
First it boils down to commercials. If it is commercially viable for Indian payer to absorb the incremental cost of taxes (and thereby increase its overall project cost), then it must negotiate, else it may have to leave the deal there and then. Though, the Indian party can ask the foreign payee to bear half of the cost, so that both parties share equal burden of it. It's both's business after all!
But if both parties try to find a solution, there are many options to choose one from. Firstly, withholding taxes are a reality found in every part of the world and not alien to India alone, thus, the parties must recognise and accept it as a vital component of business and be open to finding solutions around it.
It calls for a proper analysis of domestic tax laws and relevant tax treaty. There are several tax exemptions and benefits provided in the law(s) itself whose benefits can be availed and taxes could be reduced to NIL naturally. If the standard laws do not provide for any such benefit, then there are ways (provided in the law itself) in which parties can approach tax authorities and ask their permission for applying lower tax rates (by way of 197 certificate or advance ruling). The tax authorities of the two countries involved can also speak with each other to find solution to a particular tax problem (provisions of information exchange and Mutual Agreement Procedure are found in every tax treaty).
Even when taxes are withheld, for a foreign company to approach tax authorities of it's own country for claiming credit of taxes withheld is easier than it looks. Those authorities gave their consent (as a signatory to the tax treaty) to allow such credit and have simple and effective procedures through which benefit envisaged by their laws is provided. The foreign Co. has to ask for it, that's it. Even in cases of non-treaty countries, credit mechanism is provided. Thus, money withheld as taxes is never sunk, contrary to the fond perception.
Another interesting solution in our above-mentioned example could be that while Indian party pays USD 100 net to the US Co., it deposit USD 11.11 to Indian Government from its own pocket and provide a tax withholding certificate to the US Co. Therafter, the US Co can claim credit of such taxes from US tax authorities and after getting such benefit, it can refund back USD 11.11 to the Indian party. Putting no one to loss, except following certain procedures, that's all.
Now the documents required for lowering tax rate or making an exemption (such as PAN or TRC), they are not tough to obtain. By filing simple details with tax authorities (online or manual) these documents can be obtained in 2 weeks time. The apprehensions that having obtained such documents bring foreign Co. before eyes of tax authorities and they could be exposed to unnecessary tax filing and other requirements is baseless. Nothing happens merely due to having those documents in your name in any country. Its similar to the case that merely having a license to drive on road doesn't create any issue, it is the crime of rash driving which expose people towards penalties.
Thus, the resistance of foreign entities towards Indian tax withholding has more to do with a mindset of trying to find easier routes to doing business and baseless apprehensions, which one should not let deter the business realities. As we have seen, parties must discuss issues with openness and try to find solutions in real sense, which are not difficult to come by.
Whichever route one want to take or ultimately takes, as earlier said, better to be lucky to make or break it in time.
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