Should you deduct TDS on payments made to foreign professionals or consultants?

In this write-up, we will discuss the provisions and tax implications which get attracted when payment is made by an Indian company to a foreign company and foreign individual, as they receives
Idividuals, firms or company based in US .

Here we would analyse whether tax gets deducted when payment is made to

• Foreign Individual;
• Foreign Company, for the services rendered by them to Indian company.

In case, the payment is made to Individuals or firms in US:
The payment made to US consultants who wishes to provide the services from US, falls under Article 15 of the India-US Tax Treaty i.e. under Independent Personal Services.
Independent Personal Services includes income from professional services or income earned from the activities of independent character. It excludes income earned in employment, where recipient does not have Employer – Employee relationship with the payer.
Income which is earned via employment is covered in Dependent Personal Service where there exists employer employee relationship with payer and employee are bound to work only for their employer and not for any other external parties.
Professional service includes:

• Independent scientific, literacy, artistic, educational or teaching activities;
• Independent activities of physicians, lawyers, engineers, architects, dentists and accountants

Taxability: When the payment is made to foreign individuals by Indian company the tax needs to be deducted only if:
(a) such person has a fixed base regularly available to him in India for the purpose of performing his activities
or
(b) if the person’s stay in India for a period or periods amounting to or exceeding in the aggregate 90 days in the relevant taxable year .
In case, any of above conditions is not satisfied, then there is no need to deduct any TDS.
Now let us know the relevancy of a term called fixed base which is used Article 15 of the India-US Tax Treaty:
Fixed base of business means a place of business which must be located in some specific area. The individual must have a right to use the place of business for carrying out business activities and the activities which are performed should constitute and involves the core activities of the business. The use of place of business must last for a certain period of time.
For example: Office of a Chartered Accountant from where a Chartered Accountant serves his clients and provides professional services to them is considered as a fixed base for a Chartered Accountant or for an auditor, whereas a room provided to an auditor in the clients place of business in order to carry out audit procedures, inspection and checking is not considered as a fixed base for an auditor
In case payment is made to a company in US:
The taxability of payment made for technical or professional services to a foreign company depends on whether the foreign company has a PE (Permanent Establishment) in India or not. The term “permanent establishment” means a fixed place of business through which the business of an enterprise is wholly or partly carried on.
Here, we need to check the services, royalty or technical fees which the foreign company receives from the Indian company , is effectively connected to such permanent establishment (PE) or fixed place of business or not.
The foreign company has a PE (Permanent Establishment) in India: In case, foreign company has PE in India, then income earned by a foreign company shall be computed and is taxable under the head profit or gains of business or profession, complying with the provisions of the Income Tax Act, 1961. Also, only those expenditures and allowances which are wholly or exclusively incurred for the business of such permanent establishment or fixed place of profession in India would be considered for calculating profits, and tax rate @ of 40% will be leviable on such profits of PE.
The foreign company does not has a PE (Permanent Establishment) in India: In case, foreign company does not has PE in India, then article 13(2) of the Double Taxation Avoidance Agreement (DTAA) executed between India and Denmark is checked, which states that the amount payable towards fee for technical services to the resident of the other Contracting State can be also taxed in India at a rate not exceeding 20 percent of the gross amount of the fees for technical services.
Further, as per section 115A (1) (b) of the Income Tax Act, 1961, the tax on fees for technical services on a foreign company received from an Indian company is 10%. Also, section 90(2) of the Income Tax Act, 1961, suggests that, if the Central Government has entered into a DTAA with any country outside India, for TDS purposes the most beneficial rate has to be applied in the case of an assessee to whom such DTAA is applicable.
Therefore, the most beneficial rate is 10% as per section 115A; accompanied by surcharge @ 2% and education cess @ 3%, thus the net effective rate comes to10.506%.
Thus, tax rate @ 10.506% could be applied on the payment to be made to a foreign company, towards fees for technical services rendered in India, since it is the most beneficial rate as per section 90(2) of the Income Tax Act 1961.
Also, for deducting TDS, it is mandatory that PAN number is allotted to both deductor as well as deductee. Here, the foreign company would be required to obtain a PAN tax number in India for the TDS deduction. If the foreign company does not wish to obtain the PAN in India, then higher rate of TDS @20% needs to be deducted.
Foreign company can file tax return in India to claim refund of TDS deducted, by taking deduction of expenses incurred in India for earning aforesaid technical fees. However, in case the foreign company does have a PE in India, then all the tax and regulatory provisions which apply to a company would also apply to such foreign company.
Conclusion: No TDS is required to be deducted, if payment is made to Independent Individuals or consultants in US whereas TDS @10.506 % is required to be deducted if payment is made to company based in US, keeping in mind the most beneficial rate has been applied in the case of an assessee to whom such DTAA is applicable and also looking at the fixed place of business concept.