FEMA & Tax provisions on NRI returning to India

Two laws which most NRIs are concerned with, are Tax and FEMA. Even after so many years, there is a lot of confusion concerning the similarity or differences between the two laws. Generally there is a tendency to mix up the concepts of the two laws which leads to several difficulties. In this article, the focus will be:

i)          To understand the differences regarding basic concepts between FEMA and Tax laws.

ii)         To understand basic investment options. (This being a vast topic, it will be covered briefly).

iii)        In case of return to India, what provisions apply for retention of assets abroad

In this article, I have primarily concentrated on issues which would apply to NRIs – i.e. issues which would apply to persons who are NRIs, or issues regarding NRIs who are planning to come back to India. The article does not cover issues relating to persons who intend to become NRIs (except as passing references).

2.         Basic differences between Income Tax and FEMA law

2.1       Residential Status

The first and foremost difference is in the meaning of residential status as per Income Tax Act, and as per FEMA. It should be noted that as far as residential status is concerned, a person is a resident or a non-resident. The phrase “Non Resident Indian (NRI)” is different. First it should be determined whether a person is a resident or a non-resident. If a person is a non-resident, then one has to see whether a person is an NRI or not. Again persons confuse by stating that “although I am in India, I am a NRI”. Once you are a resident, he cannot be a NRI. Graphically, the position can be explained as under (for both Income Tax and FEMA laws).

Person

                                    Resident           OR      Non-Resident

                                                                        NRI       OR    Non-NRI

2.1.1   As per the income tax act – section 6(1), it is the number of days which determine the residential status. A person is considered as a non-resident for the previous year (hereinafter referred to as relevant previous year), if he is in India for a period of less than 181 days in the year.

2.1.2   However there is another condition. If the person has been in India in the four preceding years (preceding the relevant previous year for which residential status has to be determined) for 365 days or more, then he should in India for less than 60 days. For NRIs however, the number of days for which he be in India and still be a non-resident, is less than 182 days (instead of less than 60 days). Thus they can be for almost six months in a year and continue to be non-residents. Thus the condition of 60 days is redundant in case of NRIs. There is however one condition to be fulfilled. The relief of allowing to be in India for upto 181 days and still continuing to be a non-resident is available if the NRI comes to India for a visit. What is a visit is not explained. Generally if he comes to India (for any purpose), and goes back, it should be considered as a visit to India. This can have an impact in the year in which a person returns to India.

Example 1

Consider a case of Mr. Singh who frequently comes to India. During the four years 1999-00 to 2002-03, he has been in India for more than 365 days. In the Financial Year 2003-04, if he returns to India for settling down, how many days should he be in India? Normally he can be in India for upto 181 days. However in the year 2003-04, he comes on 1^st December 03 for the first time, and does not go back for the remaining year, he will be in India for 121 days (less than 181, but more than 60 days). When he has come to India on 1^st December, can we say that he is in India for a visit? Probably not. He has come to India for good, and not for a visit. To avoid such a situation, one should make a trip to India for a few days, and then come back again for good. One trip to India will qualify as a visit to India, and he can get the benefit of 181 days.

2.1.3     Thus it is the physical presence in India, which determines the residential status for Income Tax purpose. One issue which comes up is regarding the day of arrival and departure. Should such days be considered as “in India” or “outside India”. In the Advance Ruling No. 7 of 1995 (223 IT 462), it has been held that both the days – arrival and departure – will be considered as in India. One should keep the same in mind when counting the number of days in India.

There is a contrary view given in an old Tribunal decision of Jaipur bench (No. 1230 of 1985 dated 22.8.1986 (ITO Vs. Dr. R. K. Sharma) which has held that the day of assessee’s arrival has to be excluded for the purpose of counting the number of days in India. Normally a day should mean a day of 24 hours and a part of a day should be excluded. This was keeping in line with section 6 of General Clauses Act. However for practical purposes and to avoid undue controversy, one may plan on a conservative basis.

2.1.4     Under FEMA, the determination of residential status has different criteria. The understanding of the purpose of both laws will help to understand the issues better.

For Income Tax purposes, the issue is of taxability of income. The income is determined for the full year. If a person is a resident, his global income will be taxable in India. If a person is a non-resident, only his Indian income will be taxable. Income earned and received outside India is not taxable in India. For earning income, no approval is required under the Income tax act.

Under FEMA there are regulations for undertaking transactions themselves. For example, if a person wants to keep deposits in NRE/FCNR accounts in India, NRIs can keep the deposits. Indian residents cannot keep the deposits. Or if a person wants to borrow from a bank in USA, there are several restrictions on residents. Whereas the NRIs being non-residents of India, can borrow freely. Hence it is necessary to know the status at the time of doing the transaction. One cannot wait for the year to complete and then know whether he can do a transaction or not. If that were the situation, then there will be several difficulties.

Example 2

For example, a person comes to India for taking a job on 1^st May 2003. Under FEMA he becomes a resident from the day he comes to India. As a resident he can do several transactions. But a non-resident, there will be restrictions. If such a person had to wait till 31^st March 2004 to know whether he is a resident, there will be difficulties.

Therefore under FEMA, a person is a resident or a non-resident from the day he comes in, or leaves India. This a fundamental difference between residential status as per Income Tax Act and FEMA. There is no link otherwise

2.1.5   With this background, let us see understand the concept of residential status under FEMA.

Under section 2(v)(i) of FEMA, a person is considered as an Indian resident if has been in India in the preceding financial year for more than 182 days. However this condition is almost redundant. As we have seen in the earlier para, the purpose of Income Tax and FEMA law is different. If one has to wait till the end of the year to know the status, things will become difficult. For practical purposes, two clauses (A) and (B) will apply. As per the clauses, a person is a resident if comes to India :

-                      for taking up employment in India; or

-                      for carrying on any business in India; or

-                      for any purpose which indicates his intention to stay in India for an uncertain period.

Conversely if a person goes abroad for any of the above purposes, then he becomes a non-resident.

Thus under FEMA, it is the purpose of staying in or outside India which determines residential status.

At this stage it may not be out of place to mention that several NRIs are of the view that the intention determines the residential status under FEMA. People would like to stay in India for 8 to 10 months, but state their “intention” is to go back. Hence they claim s status of NRI. This is my submission is not correct. Merely intention does not determine anything. If a person has come for employment or doing business in India, he is a resident. There is no question of intention. It is only if he comes in India under circumstances to stay in India for an uncertain period, that the intention comes into picture. Here also it is the facts which should indicate his intention to go back. If he stays in India for more than six months every year, then the person does not remain an NRI.

2.1.5     Different residential status under FEMA and Income Tax

Due to different definitions under Income Tax and FEMA, there could be situations, where a person could be a resident under Income tax Act, and non-resident under FEMA, or vice-versa. Some examples are given below:

            Example 3

A person who is an Indian resident, takes up a job in the USA in November 03. From Nov. 03, he will become a non-resident under FEMA. He will be free from FEMA as far as transactions abroad are concerned. However under Income Tax Act, the person will be a resident. His US Salary from Nov. 03 to March 04, will be liable to tax in India – subject to DTA relief.

Example 4

An NRI has FCNR / NRE fixed deposits. He returns to India for good in Nov. 03. Under FEMA he becomes a resident from Nov. 03. However under Income Tax Act, such a person will be a non-resident for FY 03-04. Under FEMA, such a person can continue his FCNR / NRE fixed deposits until maturity. Is such interest which he earns after returning to India taxable? While he can continue the deposits until maturity, for income tax relief, section 10(4)(ii) states that the person should be a non-resident under FERA (now FEMA). As the NRI becomes resident under FEMA, he will loose the primary benefit of exemption from tax. (Other provisions like S. 10(15)(iv)(fa), and chapter XII-A will have to be looked at independently).

Thus this difference in the status as per both laws becomes relevant especially in the year of arrival or departure.

2.1.6   An interesting issue arises in case of persons who are employed on ships. A person who is employed on ships which keep traveling to different ports around the world including India.

Under the Income tax Act (explanation a to S. 6(1)), if an Indian citizen leaves India in any year as a member of crew of an Indian ship, then instead of 60 days, even if he is India for upto 181 days, he can be a non-resident. CBDT circular no. 572 dated 3.8.1990 has further clarified that crew members who are already employed on the Indian ship (and does not leave India), will also be considered as a non-resident if he is India for upto 181 days. CBDT circular no. 586 dated 28.11.1990 has further clarified that Indian ships operating beyond Indian territorial waters, will not be considered as operating in India. Thus a person on an Indian ship which is operating outside the territorial waters of India, will be considered as outside India. (Indian  territorial waters means a distance of upto 12 nautical miles from the nearest point of appropriate baseline.

Under FEMA the situation is different. There is a decision reported 45 Taxman 94 in the case of Paul H Rodrigues Vs. Director of Enforcement. In the decision it has been held that a ship flying an Indian flag is a floating Indian island. Therefore Mr. Paul was an Indian resident. Thus there could be a situation for Indian crew on ships, where the person is considered as “outside India” under income tax act, and “in India” under FEMA.

Such a person can have foreign income which may be tax free as he will be a non-resident. However as he will be a resident under FEMA. Hence he will have to bring all his income in India; he may not be able to open NRE accounts and in general not enjoy facilities available to NRIs.

There is a caveat. The case of Mr. Paul discussed above has considered the fact that Mr. Paul had not set up any residence outside India. This was not the most crucial issue in the case. However if Mr. Paul has a residence abroad, then what could be the situation, will have to be considered.

2.1.7   Persons in Nepal

Several persons go to Nepal and claim the status of a non-resident. Essentially there is no legal difficulty. If a person is outside India, he will be a non-resident under Income Tax Act and FEMA (subject to other criteria being fulfilled as discussed above). However there is a practical difficulty. How does one prove that he has been to Nepal. The border between India and Nepal is porous. Further there is no requirement of any passport or visa for traveling to Nepal. (Therefore under FEMA there are special provisions for persons of Nepal and Bhutan.) It will be useful to make a reference to the decision of Raj Kumar Dhanuka in 252 ITR 205. Though the decision was mainly on the matter of search and seizure, an observation has been made by the Honorable High Court that “Only because there is an open border between India and Nepal and a passport is not required to … … …, it cannot be presumed that anyone who claims to be an Indian national residing in Nepal, is a non-resident India. Simply because it is difficult to prove in such a case whether a person was residing for a particular period in Nepal or India, it does not mean that the claim of a person who claims to be residing in Nepal that he is a non-resident Indian, has to be accepted by the authorities.”

The observations show that the facts have to be proved that a person was staying in Nepal. Preferably the passport should be carried and stamping done. Further there should be utility bills, house tax receipts, receipts for visiting places in Nepal, etc.

2.1.8   Intermediate Residential Status

Normally a person is either a resident or a non-resident. However under Income Tax Act, a person can be a “Resident but Not Ordinary Resident”. Under FEMA also, a person can be “Not Permanently Resident”. These concepts are discussed more in details below in para 4 which deals returning Indians.

2.2       Meaning of Non-resident Indian (NRI)

The other major area where there is a difference under Income Tax Act and FEMA is the meaning of NRI. As NRIs are offered specific reliefs under Income Tax Act and FEMA, a specific meaning has been given to the term NRI. Indian citizens resident outside India are NRIs. For foreign citizens who can be considered as NRIs, there are differences.

2.2.1   Under the income tax act, the term NRI is used under chapter XII-A. Under chapter XII-A, NRIs are given preferential treatment. These have been discussed in a separate article. The meaning of NRI has been given in section 115C(e).

            As per the section, an NRI means a person who is:

i)             a non-resident, and

ii)            an Indian citizen; or

a Person of Indian Origin (PIO).

PIO means a person who himself, or either of his parents, or either of his grandparents, were born in undivided India.

            There is no reference to spouse of a person.

2.2.2   Under FEMA, the term NRI is defined in three different manners – for different purposes.

A. For NRE, FCNR, Investments shares, FDI in India, etc.

Under the Deposit Regulations, the NRIs can open NRO, NRE and FCNR accounts. They can also place deposits with Indian residents.  Regulation 2(vi) of “Deposit” Regulations states that an NRI means a person who is:

i)             a non-resident, and

ii)            an Indian citizen; or

a Person of Indian Origin (PIO).

PIO means a person who:

-           held an Indian passport, or

-           himself, or either of his parents, or either of his grandparents, was a citizen of India by virtue of the Constitution of India or the Citizenship Act, 1955;

-           is a spouse of an Indian citizen or a person a spouse of a PIO as discussed above.

Citizens of Bangladesh and Pakistan are not considered as NRIs.

This definition applies to most of the transactions which NRIs are permitted to do.

            Example 5

Mr. Amit Shah is a NRI staying in USA for several years. He marries Ms. Jane – a person of US origin. She will be entitled to keep funds in NRE, FCNR accounts (as spouses of NRIs are considered as NRIs). However she will not be entitled to benefits under chapter XII-A (as spouses of Non-Indian origin are not considered as NRIs under Income Tax Act.)

 

B. Investment in a partnership firm and a proprietary firm

S. 2(iv) and 2(vi) of “Investment in Firm or Proprietary Concern in India” Regulations state that an NRI means a person who is:

i)             a non-resident, and

ii)            an Indian citizen; or

a Person of Indian Origin (PIO).

PIO means a person who:

-           held an Indian passport, or

-           himself, or either of his parents, or either of his grandparents, was a citizen of India by virtue of the Constitution of India or the Citizenship Act, 1955;

-           is a spouse of an Indian citizen or a person a spouse of a PIO as discussed above.

Citizens of Bangladesh, Pakistan and Sri Lanka are not considered as NRIs. This is keeping in line with the general policy on investments by foreigners where citizens of above 3 countries are not permitted to invest in India on automatic basis.

Compared to the definition in clause A above, the only difference is that citizens of Sri Lanka are excluded from the meaning of NRI.

            C. Immovable Properties in India

S. 2(c) of “Acquisition and Transfer of Immovable Property in India” Regulations define the meaning of PIO. Indian citizens resident outside India are NRIs. PIO means a person who:

-           held an Indian passport, or

-           himself, or either of his father or grandfather, was a citizen of India by virtue of the Constitution of India or the Citizenship Act, 1955;

Citizens of Bangladesh, Pakistan, Sri Lanka, Afghanistan, China, Iran, Nepal and Bhutan are not considered as PIOs.

For immovable properties, the meaning is restricted. Spouses are not included. Only father’s and grandfather’s citizenship is considered. Further citizens of 8 countries are not included.

            Example 6

In the example 5 above, Ms. Jane will not be able to buy immovable property in India.

Thus one should keep the differences and nuances in mind when considering whether an NRI can do different transactions.

3.         Investment options for NRIs

Under FEMA, NRIs have several investment options. While this area is very broad, here it is covered in brief. Incomes arising out Indian investments and operations have tax implications. Tax implications have been dealt with in different articles. The para explains different investment and business operations which can gave tax implications.

It may be pointed out that NRIs could invest through Overseas Corporate Bodies (OCBs). However that category of investor is abolished with effect from 16.9.2003. Now NRIs can invest through their companies just as any other foreign company.

Investment can be made on repatriable basis and non-repatriable basis. In case of investment on non-repatriable basis, principal is non-repatriable. But incomes can be repatriated as the same are current account transactions. This principle applies for all investments and incomes.

3.1         Bank deposits

NRIs can invest in NRO, NRE and FCNR deposits. NRE and FCNR deposits are repatriable. NRO deposits are non-repatriable.

3.2         Giving loans to Indian residents

NRIs can give loans to Indian residents. Interest can be charged on the loans. The loans are subject to guidelines.

NRIs can also invest in Non convertible debentures of a company on repatriable basis.

Generally loans to companies can be on repatriable basis. Loans to non-companies can be non-repatriable basis.

Loans can also be given to close relatives from NRE account on repatriable basis. However no interest can be charged on the loan.

3.3         Investment in shares of Indian companies

Under the FDI policy, NRIs can invest in shares and convertible debentures of Indian companies. Investment can be made on repatriable and non-repatriable basis.

NRIs can provide technology and earn royalties and fees for technical services.

3.4         Portfolio Investment

Investments can be made in shares and convertible debentures through stock exchanges. Investments can be made on repatriable and non-repatriable basis. Recently RBI has allowed them to invest in exchange traded derivative contracts.

3.5         Immovable properties

NRIs can invest in immovable properties. They can give the properties on rent also. Investment in agricultural/plantation properties is not permitted. Investment can be on repatriable basis.

3.6         Proprietary and partnership firms

Investment can be made in proprietary and partnerships on non-repatriable basis. Profits earned can be repatriated as the same are current account transactions.

3.7         Mutual funds. Government securities, etc.

Investments can also be made in units, government securities, treasury bills, bonds of PSUs.

Recently however NRIs have been prohibited from investing in Post Office Savings schemes, NSCs, Kisan Vikas Patras and PPF.

3.8       Branches

With approval from RBI, branches can be opened in India for specified purposes. The purposes for which branches can be opened are export and import of goods, IT related services, etc.

3.9       Services, employment, etc.

NRIs can become directors on the board of Indian companies and earn board fees. They can also render services just as any other non-residents. NRIs can of course take up employment in which case they will become Indian residents.

4.         Returning Indians

There are several NRIs who plan to return to India. They need to take care of some FEMA and Tax issues. While tax issues are covered in respective articles, here some FEMA issues are considered. To become a resident, no approvals are required. However some simple steps may be required to be taken depending on the assets held by the NRI.

4.1       Foreign assets 

NRIs can continue to hold assets outside India – section 6(4) of FEMA. Thus immovable properties outside India, shares, mutual funds, securities and other investments can be held without any approval from RBI. There is no need to declare the assets to anyone. The only condition necessary is that the assets were acquired when he was a resident outside India.

At this stage it should be clarified that the drafting of FEMA is not very happy. Hence there are legal difficulties. For example on a strict reading of the law, any income earned on foreign assets is required to be brought back to India. It cannot be retained abroad. Further if the assets are sold, the proceeds cannot be reinvested. He can bring the sale proceeds in India and deposit in RFC A/c (discussed below). Then he can remit back the funds for investments. However retaining the sale proceeds abroad and reinvesting the same again, are very strictly not covered. Under FERA, both these issues were specifically permitted. However practically, the position is what has been mentioned above. In this respect, reference can be made to a very important circular issued under FERA - ADMA 51 dated 1992. This circular states the law and the intention for returning NRIs.

4.2       Business Outside India

A person could be having his proprietary business, or he could be a partner in a firm. The intention as per ADMA circular 51 referred to above is to allow business interests to continue, though there is no clear wording in law. However one must take care that as soon as the person earns income, he must bring it back to India. Usually however people have companies through which the business is conducted. The person holds shares in the company. As mentioned above, the returning NRI can continue to hold shares in such a company without any approvals from RBI.

4.3       Liabilities abroad

Liabilities abroad become a borrowing for the country. Hence if the NRI has any borrowings, approval will be required from RBI to continue the same.

Example 7

If the NRI has a house property abroad which is on mortgage, then the loan cannot be continued without approval from RBI. Though holding of property can be continued. Approval for the loan is at the discretion of RBI.

4.4       Indian assets

Normally, an NRI may have Indian assets like bank deposits, shares, etc. For such assets, simple procedures are required to be carried out. The returning NRI must inform the bank to designate all his bank accounts (savings, fixed deposits, etc.) as resident accounts. Here the RBI has given options to the returning NRIs. Foreign currency deposits (FCNR) can be continued till maturity on same rates of interest. On maturity the balance including interest can be transferred to Resident Foreign Currency Account (RFC A/c) – discussed later. NRE deposits (repatriable) can also be continued till maturity on same rates. However on maturity, the deposits will have to be converted into ordinary resident accounts. If the NRI desires that the funds should be transferred to RFC A/c, then the deposits will have to be prematurely encashed and deposited in RFC A/c. This would result in loss of interest. Any other account would have to designated as an ordinary resident account.

For shares, debentures and other securities, the companies and other relevant entities must be informed about the change in residential status. If he is a partner in an Indian firm, or has given loans or taken loans, then the persons concerned must also be informed accordingly.

4.5       RFC A/c

A returning NRI can open RFC account. FCNR / NRE funds can be deposited in this account as mentioned above. Further even foreign funds can be deposited in RFC account. RFC accounts can be maintained in any convertible currency. Funds can be held as savings or deposits. The benefit of this account is that it is free from operations. Normally an Indian resident cannot invest abroad freely. There are regulations for incurring expenses in foreign currency. With RFC account, the NRI can incur expenses abroad freely. For example, he may have holiday plans for which there is a restriction on the amount of foreign exchange he can draw. With RFC A/c, there is no limit. Similarly if wishes to buy foreign shares, subscribe to rights, mutual funds, etc., he can do so.

There is a further tax advantage with an RFC A/c. As long as a person is a NOR, interest on RFC accounts are tax free.

4.6         Not Permanently Resident - Holding of foreign currency etc.

For a very limited purpose, there is a concept of “Not Permanently Resident” (NPR). Under Regulation 4 of Possession and Retention of Foreign Currency, a resident can hold foreign currency without any limit if the same was acquired while the person was a non-resident.

NPR means persons who have come to India for employment of a specified duration (irrespective of the period), or for a specific job or assignment not exceeding 3 years.

4.7         Not Ordinarily Resident (NOR)

With effect from AY 04-05, the meaning of the term NOR has been amended and relief has been curtailed drastically. A detailed discussion is there in a previous issue of the Chamber, here the issue is dealt with briefly.

If a person is a non-resident for 9 years, he can be a NOR for 1 year. If a person is a non-resident for 10 years or more, he can be a NOR for 2 years. Further even within the past 7 years if his stay in India is for less than 730 days, he will be a NOR (practically he can be for NOR for 3 years). As a NOR, foreign income which is received outside India, is exempt from tax. Once the NOR status period expires, his foreign income will be taxable in India. Even some other benefits like tax exemption on foreign currency deposits will be available till a person is a NOR.

The NOR status has become a sore point with returning NRIs. Earlier the benefit of NOR status could be available for as much as 9 years. With effect from 1.4.03, this benefit has been reduced.

With the reduction of benefit, tax planning which was resorted to earlier may gain momentum. Persons resort to various kinds of planning including setting up offshore companies and offshore discretionary trusts. However it should be pointed out that this planning is very complicated and cannot be achieved by simply setting up foreign companies and trusts. Infact all may not be able to avail of this benefit. But then this issue is beyond the scope of this article.

5.         Conclusion

This article deals with some issues. With tax rates being moderate and government trying to curb extra reliefs for NRIs, one may have to plan the affairs well in advance so as not to fall into avoidable difficulties.

Debt consolidation

Debt consolidation entails taking out one loan to pay off many others. This is often done to secure a lower interest rate, secure a fixed interest rate or for the convenience of servicing only one loan.

Debt consolidation can simply be from a number of unsecured loans into another unsecured loan, but more often it involves a secured loan against an asset that serves as collateral, which is most commonly a residential or commercial building (in this case a mortgage is secured against the building.)

The collateralization of the loan allows a lower interest rate than without it, because by collateralizing, the asset owner agrees to allow the forced sale (foreclosure) of the asset in order to pay back the loan. The risk to the lender is reduced so the interest rate offered is lower.

Sometimes, debt consolidation companies can discount the amount of the loan. When the debtor is in danger of bankruptcy, the debt consolidator will buy the loan at a discount. A prudent debtor can shop around for consolidators who will pass along some of the savings. Consolidation can affect the ability of the debtor to discharge debts in bankruptcy, so the decision to consolidate must be weighed carefully.

Debt consolidation is often advisable in theory when someone is paying credit card debt. Credit cards can carry a much larger interest rate than even an unsecured loan from a bank. Debtors with property such as a home or car may get a lower rate through a secured loan using their property as collateral. Then the total interest and the total cash flow paid towards the debt is lower allowing the debt to be paid off sooner, incurring less interest.

In practice, many people are in credit card debt because they spend more than their income. If that habit continues, the consolidation will not benefit them much because they will simply increase their credit card balances again.

Because of the theoretical advantage that debt consolidation offers a consumer who has high interest debt balances, companies can take advantage of that benefit of refinancing to charge very high fees in the debt consolidation loan. Sometimes these fees are near the state maximum for mortgage fees.

In addition, some unscrupulous companies will knowingly wait until a client has backed himself into a corner and must refinance in order to consolidate and pay off bills that he is behind on the payments. If the client does not refinance he may lose their house, so they are willing to pay any allowable fee to complete the debt consolidation.

Government updates the FAQs on provident fund for International Workers

Background
The Government of India [GOI] has recently updated the FAQs for international workers [IWs] on 20th December, 2011. The original FAQs providing guidance on the applicability of PF regulations were issued in January 2009. Since then the GOI has updated the FAQs with the view to address ambiguities related to these provisions and provide a status on the Social Security Agreements (SSAs) with India.
This alert is in continuation to our earlier alerts on the FAQs and SSAs dated 12th May, 2011 and 17th October, 2011.
Highlights of the updated FAQ and snap shot of benefits
Subsequent to our earlier alert, the SSAs with Netherlands and Republic of Korea have come into force. The latest FAQ provides details of the SSAs that are currently in force together with their effective dates.

Status on India’s SSAs
The FAQ provides the status of India’s SSAs. Besides the eight SSAs that are in force as indicated above, the GOI has signed agreements with the Czech Republic, Hungary and Norway, though these are not yet made effective. Further, negotiations are at various stages for concluding SSAs with Canada, Sweden, Finland, Austria, Portugal, Japan, Australia and USA. The GOI is also holding talks with other countries where sizable number of Indian workers are employed.

Source: Updates to FAQs posted onto the website – http://www.epfindia.com/ on 20th December 2011

Protocol amending India-Australia Double Taxation Avoidance Agreement (DTAA)

Background
India had signed with Australia an agreement ( DTAA) for the avoidance of double taxation and the prevention of fiscal evasion on July 25, 1991. The Ministry of Finance has now issued a press release on December 16, 2011 stating that the Government of India and the Government of Australia has entered into Protocol amending the India-Australia DTAA. The Protocol was finalized in February 2011 and shall enter into force once notified.
Salient features of the protocol amending India-Australia DTAA
 Article 5(3) of the DTAA has been substituted to provide:
‒ A threshold limit for establishing Permanent Establishment (PE) arising out of activities in the other State
 Carries on activities ( including the operation of equipment) in the other State relating to exploration for or exploitation of natural resources (aggregate of 90 days in any 12 month period);
 operates substantial equipment for a period or periods aggregating to 183 days in any 12 month period)
 Scope of Service PE has been widened to include all services including those defined under Article 12 dealing with royalties. The period of furnishing services within that State to constitute a Service PE has been extended to 183 days in any 12 month period from the existing 90 days in respect of non-associated enterprise / 1 day in respect of associated enterprise.

 Article 7(1)(b) relating to the condition of profits of the enterprise arising in that State from the sale of goods or merchandise of the same or similar kind as those sold or other business activities of the same or similar nature carried on, through that PE has been omitted.
 Article 24 A dealing with Non-Discrimination has been inserted to provide amongst others that:
‒ Nationals of one country shall not be discriminated against the nationals of the other country in the same circumstances in line with international practices.
‒ Except where the provisions Article 9(1), Article 11(6) or Article 12(6) apply, interest, royalties and other disbursements paid by an enterprise of a Contracting State to a resident of the other Contracting State shall, for the purpose of determining the taxable profits of such enterprise, be deductible under the same conditions as if they had been paid to a resident of the first-mentioned State.
‒ The Article would not apply to any provision of the laws of a Contracting state which is designed to prevent the avoidance or evasion of taxes, including measures designed to address thin capitalization or to ensure that taxes can be effectively collected or recovered
 Scope of Article 26 on Exchange of Information has been enlarged in line with current international standards to provide effective exchange of information on tax matters including bank information. Also such information received may be used for any other purposes under the laws of both the countries provided the competent authority of the supplying country authorizes such use.
 Article 26A relating to Assistance in Collection of Taxes has been inserted to provide for assistance in collection of taxes when such taxes are due under the domestic laws and regulations. The assets or moneys kept in one country can be recovered by the other country for the purposes of recovery of taxes by following certain conditions and procedure.
 The Protocol shall come into force once notified and shall have effect
‒ In the case of Australia, beginning on or after 1 July following the date on which the Protocol enters into force;
‒ In the case of India, fiscal year beginning on or after 1 April following the date on which the Protocol enters into force;
‒ Article dealing with Non-Discrimination and Exchange of Information, from the date on which the Protocol enters into force;
‒ Article dealing with Assistance in Collection of Taxes, from the date agreed in an exchange of notes through the diplomatic channel.
Source: PIB Press Release dated December 16, 2011 and Tax Analysts

Offshore supply of GSM system not taxable in India, payment for software forming integral part of GSM system not taxable as royalty

Facts
 Ericsson Radio Systems A.B. („the Taxpayer‟), is a company incorporated in Sweden and also a tax resident of Sweden. It is a wholly owned subsidiary of Telefonakitiebolaget L. M. Ericsson („LME‟) of L. M. Group.
 The Taxpayer is in the business of supplying hardware and software which is used in the business of rendering telecommunication services. The Taxpayer undertakes projects on turnkey basis which involve supply of hardware and software, installation and commissioning and after sales services.
 In Assessment Year („AY‟) 1997-98, the Taxpayer entered into agreements in India with ten Indian cellular operators (collectively called as „the Operators‟) for supply of hardware and software.
 Ericsson Telephone Corporation India AB („EFC‟) a foreign company has a branch office in India Ericsson Communications Limited („ECL‟) is an India company. Both these entities are wholly owned subsidiaries of LME and are in the business of equipment installation and providing marketing support to the Taxpayer.
 The Operators had entered into installation agreement, in India, with EFC and ECL. Further, an Overall Agreement was also entered into, in India, between the Operators and the Taxpayer to ensure supervision and guaranteed performance of all the contracts in a co-ordinated manner.
 EFC carried out the installation and marketing support for the first three months and ECL carried out the same work for the balance nine months for the Taxpayer.
 Before the contracts were signed, employees of the Taxpayer and other associated companies visited India for network survey and to negotiate the terms of the contract. This was a continuous process that spread over a long

period of time. The branch office of EFC provided office, telephone and other facilities to such employees during their visits to India.
 The employees of the branch office of EFC attended the meetings and also undertook follow-up work with customers as per the Market Support Agreement („MSA‟) entered into between the Taxpayer and EFC.
 As per the terms of contract with Operators, the Taxpayer was to deliver the equipment till port. The equipment were accepted by the respective Operators only after a test known as Acceptance Test („AT‟) was carried out by EFC or ECL, as the case may be. The defective parts, if any, were to be replaced by the Taxpayer.
 In assessment proceedings, the Assessing Officer („AO‟) held that the Taxpayer had business connection in India and accordingly the income of the Taxpayer was deemed to accrue or arise in India and taxable in India as per the Income-tax Act, 1961( „the Act‟).
 AO also held that as per Article 5 of Double Taxation Avoidance Agreement between India and Sweden („the DTAA‟), the Taxpayer had Permanent Establishment („PE‟) in India on account of (i) a dependent agent being EFC for first three months and ECL for remaining nine months (ii) a fixed base PE in the form of the office space of EFC‟s branch and ECL and (iii) employees of the Taxpayer came to India, signed the contracts, stayed in India and also used various facilities provided by EFC‟s branch and ECL.
 AO further held that the income arising on account of licensing of software by the Taxpayer to the Operators was to be taxed as „royalty‟ as per Article 12 of the DTAA. However as the Taxpayer had a PE in India, the income arising on account of royalty was to be taxed as business profits at flat rate of 30 percent as per the Act.
 On appeal, the Commissioner of Income Tax (Appeals) („CIT(A)‟), held that the Taxpayer did not have a PE in India, however, the income from licensing of software amounted to royalty and hence, taxable under Article 12 of the DTAA at the rate of 20 percent.
 Both the Taxpayer and AO filed an appeal and cross-appeal, respectively before the Income Tax Appellate Tribunal („the ITAT‟) which were referred to a Special Bench of the ITAT which decided the matter in favour of the taxpayer.
Issues before Delhi High Court
 Whether the Taxpayer had business connection in India as per section 9 of the Act?
 Whether EFC and ECL were PE of the Taxpayer in India as per Article 5 of the DTAA?
 Whether consideration for supply of software was royalty under the Act and under the DTAA?
Observations and Ruling of Delhi High Court:
On Business Connection
 The supply contract between the Taxpayer and the Operators („the Supply Contract‟) is considered as a stand-alone agreement, supplies under this Contract were made overseas and the property in goods had passed on to the Operators outside India.
 Based on the judgment of the Supreme Court in case of Ishikawajima Harima Heavy Industries Ltd. vs. DIT1and Instruction No. 1829 dated 21st September, 1989 issued by the Central Board of Direct Taxes it was observed that:
1 288 ITR 408

‒ Property in the equipment and the risk therein were passed outside India;
‒ No services were performed in India in connection with installation of equipment or otherwise;
‒ Performance of AT in India was not relevant in determining whether any part of the profit from the offshore supply was taxable in India;
‒ The lower appellate authorities had determined that the Taxpayer did not have any PE in India;
‒ Mere signing of contract in India, pursuant to which the supply was made would not give rise to tax liability in India;
‒ The Overall Agreement should not make any difference to the taxability of equipment supplied;
‒ The nomenclature of turnkey project or works contract is not relevant in determining taxability of profit arising from supply of equipment.
 The intention of the parties, as required by section 19 of Sale of Goods Act, 1930 to determine passing of property in goods, is manifested in the Supply Contract which provides that the property in goods was passed outside India and the intention is also clear from the conduct of the parties. Further, the requirement of AT by EFC or ECL in no manner mitigates such intention.
 The fact that the relevant contract was signed in India may not be relevant to determine the taxability of the underlying income.
 The terms of the contract provide that AT is not material even for passing of the title and the risk, because even if such a test found out that the system did not confirm to the contractive parameters, the Operator could call upon the Taxpayer to cure the defect and/or claim damages. However the Operators did not have a right to reject the equipment on failure of the Acceptance test
 Execution of the Overall Agreement was prompted by purely commercial considerations as the Operators would be desirous of having a single entity that they could liaise with.
 Though Instruction No 1829 stands withdrawn by virtue of Circualr No 7/2008 dated 22 October 2009, the withdrawal cannot have retrospective effect and would continue to govern the assessment for the relevant year.
 In a transaction for sale of goods, the determinative factor would be as to where the property in goods passes. The place of negotiation of the contract; or place of signing or formal acceptance thereof; or overall responsibility of the Taxpayer are not relevant circumstances.
 Once it is established that the property in goods passed outside India, even in the case of composite contracts (which is not found to be so in the present case), supply has to be segregated from installation and the question of apportionment of income would arise.
 Supply and installation to be carried out by the companies under the same group, could not be construed as composite transaction, particularly when the respective entities perform their independent obligations, receive appropriate separate remuneration and as are not financially or technically dependent on each other. Further all the associated enterprises had been separately assessed in respect of income that had accrued to them.
 The Installation Contract is between the installation contractees viz. EFC and ECL and Operators. There was no contract between the Taxpayer and the EFC/ ECL and that Business connection would not come into existence merely because the installation contractor is a fellow subsidiary of the Taxpayer.
 Further, the Operators are independent contractees and cannot be said to construe as the Taxpayer‟s business connection. Thus in case of a business of which all operations are not carried out India, the business income would be deemed to accrue or arise in India only to the extent reasonably attributable to operations in India.
 Hence, the Taxpayer has not earned any income in India through or from a business connection in India

On PE
 Since the Taxpayer did not have any business connection in India, it was not necessary to go into the issue whether the Taxpayer had any PE in India during the relevant period.
On Royalty
 Supply of equipment in question was supply of goods. Moreover, as recorded by the ITAT, the Operators did not acquire any of the copyrights referred to in section 14(b) of the Copyright Act, 1957. Therefore, the payment made to the Taxpayer could not be treated as royalty either under the Act or the DTAA.
 The Taxpayer had sold a GSM system consisting both of the hardware and the software. Software loaded on the hardware was an integral part of the GSM system and did not have any independent existence or use. Further, software incorporated on a media would be goods as has been held by the SC in Tata Consultancy Services vs. State of Andhra Pradesh.
 The supply of software incorporated on a CD, leads to a supply tangible property and payments made for acquiring such property cannot be considered as royalty.
 The Supply Contract cannot be split into two viz. hardware and software.
 For the payment to be construed as royalty under the Act, it would be necessary to establish that there is transfer of all or any rights (including granting of any license) in respect of copyright of a computer program. In the case, no right contemplated under section 14 of the Copyright Act, 1957 stood vested in the Operators.
 Distinction has to be made between acquisition of “copyright” and “copyrighted article”.
 Even assuming that payment made was construed as royalty under the Act, it could not be regarded as royalty under Article 12 of the DTAA, since royalty has been defined therein narrowly to mean payments made inter alia for use of or right to use a copyright.
 The payment made by the Operators was towards the title of GSM system of which software was an inseparable part incapable of independent use and thus was contract for supply of goods and not towards royalty.
On Applicability of Explanation added to section 9 of the Act
 The question of applicability of Explanation to section 9 of the Act would arise only when payment is to be treated as royalty under section 9(1)(vi) of the Act or fees for technical services under section 9(1)(vii) of the Act.
 The transaction related to supply of goods and as both the transfer of the property in goods or risk therein is passed outside India, no taxable event took place in India. Hence, the applicability of the amended explanation to Section 9 would not be applicable.
Conclusion
 The Supply Contract for supply of GSM system and income therefrom was not taxable in India in the absence of any business connection or PE in India.
 The payment under the Contract could not be apportioned between hardware and software and hence the payment for software could not be taxed as royalty.
 The transaction relates to supply of goods and as both the transfer of the property in goods or risk therein is passed outside India, no taxable event took place in India. Further as the Taxpayer had not rendered services in India, the income arising from the supply could not be taxed in India.

Source: Director of Income Tax vs. Ericsson Radio System A.B. and Others (ITA Nos. 391/2007, 504/2007, 507/2007, 508/2007 and 511/2007) (Delhi High Court) dated 23rd December, 2011

Section 194 J – An overview

Section 194J of the Income Tax Act, 1961 has the heading a “Fees for Professional and Technical Services”. However the Section covers the following categories

1.       Fees for Professional Services

2.       Fees for Technical Services

3.       Royalty

4.       Non-Competence Fees

Tax has not to be deducted under this Section on services falling outside the purview of the above four categories.

Now we shall have a detailed outlook of all above categories

Professional Services

There are certain services specified in the explanation to this Section. Apart from this, the Government has also notified certain other services for this Section.  In a nutshell, the Act has specified and Government has notified a selected set of professional services on which tax has to be deducted under Section 194J. In case any professional service is out of the scope of the so mentioned services, tax has not to be deducted under this section.

Services specified in the explanation to this Section

a.       Law

b.      Medicine

c.       Engineering

d.      Architect

e.      Profession of Accountancy (Including Chartered Accountants)

f.        Technical Consultancy

g.       Interior Decoration

h.      Advertising (Here advertisement refers to consultancy relating to advertising and not payment for advertisement media. For example, amount paid towards advertisement expenses shall be covered by 194C, but amount paid to get an ad film prepared or an advertisement  designed, then it shall be covered under 194J)

Professions notified by the Government

a.       Authorised representative

b.      Film Artist – Any person engaged in his professional capacity in the production of a cinematograph film, whether produced by him or by any other person. The term film artist includes the following:

(i)                  An actor

(ii)                A cameraman

(iii)               A director including an assistant director

(iv)              A Music director including an assistant music director

(v)                An art director including an assistant art director

(vi)              A dance director including an assistant dance director

(vii)             An editor

(viii)           A singer

(ix)              A lyricist

(x)                A story writer

(xi)              A dialogue writer

(xii)             A dress designer

c.       Company Secretary

d.      Sports person

e.      Umpires and referees

f.        Coaches and trainers

g.       Team physicians and Physiotherapists

h.      Event managers

i.         Commentators

j.        Anchors

k.       Sport Columnists

In other words, if the professional or technical consultancy is paid to the above mentioned persons, then only tax has to be deducted under this section.

Technical Services

Explanation 2 to Section 9(1)(vii) defines “Fees for Technical Services” as

“Fees for technical services means any consideration (including any lump sum consideration) for the rendering of any managerial, technical or consultancy services (including the provision of services of technical or other personnel) but does not include consideration for any construction, assembly, mining or like project undertaken by the recipient or consideration which would be income of the recipient chargeable under the head Salaries”

Illustrations

1.       If payment is made to a software professional for development of software, then tax shall be deducted under Section 194J. But if payment is made by the software professional for development of software to his employees, then it shall not be covered under Section 194J as it is not a professional income for the recipient but it’s a salary income.

2.       Similarly, website development charges paid to a website developer shall be under the scope of Section 194J. But if the website is developed by the IT department employees of the company, then it shall not come under the purview of this Section.

Royalty

Explanation 2 to Section 9(1)(vi) defines “Royalty” as

Royalty means consideration (including any lump sum consideration but excluding any consideration which would be the income of the recipient chargeable under the head Capital Gains) for

(i)                  the transfer of all or any rights (including the granting of a license) in respect of a patent, invention, model, design, secret formula or process or trade mark or similar property ;

(ii)                the imparting of any information concerning the working of, or the use of, a patent, invention, model, design, secret formula or process or trade mark or similar property ;

(iii)               the use of any patent, invention, model, design, secret formula or process or trade mark or similar property ;

(iv)              the imparting of any information concerning technical, industrial, commercial or scientific knowledge, experience or skill ;

(iva)       the use or right to use any industrial, commercial or scientific equipment but not including the amounts referred to in section 44BB;

(v)                the transfer of all or any rights (including the granting of a licence) in respect of any copyright, literary, artistic or scientific work including films or video tapes for use in connection with television or tapes for use in connection with radio broadcasting, but not including consideration for the sale, distribution or exhibition of cinematographic films; or

(vi)         the rendering of any services in connection with the activities referred to in sub-clauses (i) to  (iv), (iva) and (v).

In other words if payment is made for aforementioned purposes for the transfer of the rights to use such intellectual property, then tax shall be deducted at source under Section 194J. But however, such intellectual property is transferred by the recipient of such amount, then it shall not be liable for deduction of tax at source under 194J as it shall be chargeable as capital gains in the hands of the recipient.

Non-competence Fees

Non-competence fees is defined under Section 28(va) of the Act as under

“Any sum, whether received or receivable, in cash or kind, under an agreement for

a.       not carrying out any activity in relation to any business;

b.      or not sharing any know-how, patent, copyright, trade-mark, licence, franchise or any other business or commercial right of similar nature or information or technique likely to assist in the manufacture or processing of goods or provision for services”

It means if any amount is paid to any person for not carrying any business or any activity in relation to such business or even for not sharing the intellectual property right or any other right of similar nature, then it shall come under the purview of Section 194J.

Who has to deduct tax?

Every person other than an Individual and a HUF has to deduct tax at source on the payments specified under this section.

However an individual or a HUF is required to deduct tax at source under this Section if their sales turnover or gross receipts in the immediately preceding financial year exceeds Rs. 40 lakhs in case of business and Rs. 10 lakhs in case of profession. The individuals and HUF’s not coming such criteria need not deduct tax at source under this sections.

When tax is to be deducted?

The persons liable to deduct tax on payments under this Section, if the aggregate payments during the year exceed Rs.20,000/-. However, if smaller amounts are paid during the year and it is estimated that the aggregate of such payments shall exceed Rs.20,000/-, then tax shall be deducted on each such payment. On the other hand, if it is not expected that the payments during the year shall exceed Rs.20,000/- but eventually aggregate of such payments exceed Rs.20,000/-, then tax has to be deducted at the time of payment which results the aggregate payments to exceed Rs.20,000/-.

Tax has to be deducted at the time of payment or credit, whichever is earlier.

Whether to deduct tax on Service Tax component also?

Most of the services come under the scope of service tax. So, in such case, tax has to be deducted on the gross amount of the invoice i.e. the fees component as well as the service tax component. The Board has clarified on this issue with regards to payment to professional liable for service tax.

At what rate tax is to be deducted?

The tax has to be deducted at the rate of 10%.

Prior to 01.10.2009, surcharge was applicable @ 10% in the following manner

1.       In case of Indivudual, HUF, Association of Persons and Body of Individuals, if the payments exceed Rs.10 lakh,

2.       In case of a company of a firm, if the payments exceed Rs. 1 crore, and

3.       In case of an Artificial Juridical Person.Prior to 1.10.2009.

Also, education cess @ 2% and Secondary and Higher Education cess @ 1% on total of tax and surcharge was also applicable.

However, w.e.f. 01.10.2009, Surcharge, Education cess and Secondary and Higher Secondary cess has not to be deducted.

The other provisions like due dates of payment, challan number for payment, form for deduction, quarterly return, etc. apply in common to all other Sections for TDS.

Hindu Undivided Family (HUF) - Partition and Income Tax provisions

Defination  of Partition: - Partition is the severance of the status of Joint Hindu Family, known as Hindu Undivided Family under tax laws.

Under Hindu Law once the status of Hindu Family is put to an end, there is notional division of properties among the members and the joint ownership of property comes to an end. However, for an effective partition, it is not necessary to divide the properties in metes and bounds. But under tax laws for an effective partition division by metes and bounds is necessary.

Partition under Hindu Law, can be total or partial. In total partition all the members cease to be members of the HUF and all the properties cease to be properties belonging to the said HUF.

Partition could be partial also. It may be partial vis-a-vis members, where some of the members go out on partition and other members continue to be the members of the family. It may be partial vis-a-vis properties where, some of the properties, are divided among the members other properties continue to be HUF properties. Partial partition may be partial vis-a-vis properties and members both.

Difference between partition under the Hindu Law and that under the Income-tax Act: – There is a difference between a partition under Hindu Law and a partition recognised under the Income-tax Act.

Though the concept of partition is the same under Hindu and tax laws, in two respects, recognition of partition under tax laws differs from that under Hindu Law.

For recognition of partition under Hindu Law division of properties by metes and bounds is not necessary. However, for recognition of partition under tax laws, division of properties by metes and bounds is necessary.

Again under Hindu Law partial partition is recognised. However, in view of provisions of S.171(9) of Income-tax Act, 1961, partial partitions will not be recognised for tax purposes.

Right to claim Partition: – Under the Hindu law, any coparcener can make a claim for partition.

Necessity of other coparceners to agree in order to entitle a coparcener to claim for a partition:- It is not necessary that other coparceners should agree to the partition sought by one of the coparceners.

But merely because one member severs his relations with others there is no severance between others. {CIT vs. Govindlal Mathurbhai Oza – [1982] 138 ITR 711 (Guj.)}

The other members continue to remain joint.

Partition on death of coparcener:- A partition is an act effected inter vivos between the parties agreeing to the partition. A death of partner cannot bring about an automatic partition and on such a death, the other surviving members continue to remain joint. However under the provisions of 56 of Hindu Succession Act, there is a deemed partition for a limited purpose of determining the share of the deceased co-parcener for the purpose of succession under the Act.

Right of minor to claim partition:- A minor can claim partition through his guardian.                A reference in the above regard can be made to the decision of the Supreme Court in the case of Apoorva Shantilal Shah vs. CIT as reported in [1983] 141 ITR 558 {SC}.

Eight of wife of Karta to claim partition :- As per Hindu law, the ordinary rule is that a partition can be claimed only by a coparcener and wife not being a coparcener she cannot ask for partition.

Certain States including Maharashtra have brought amendment to the Hindu Succession Act, 1956, conferring co-parcenery rights to daughters and as such they can claim partition.

Validity of partition between widow-mother and sole surviving coparcener-son: – A wife or mother has no right to claim partition, but if a partition is effected a mother or the wife gets a share equal to that of the son.


Equal distribution of Share among sons by Karta Father: - A father in his right as patria potetas or otherwise can effect a partition between himself and his son of the joint family property of HUF. However, he has to allot equal shares to the sons.

The father is expected to act bona fide and only aggrieved party can seek relief by way of appropriate proceedings. However, till such a partition is held invalid by a competent court, it must be held as valid.

Apporva Shantilal Shah vs. CIT [1983] 141 ITR 558 (S. C.)

Ownership of Property received by a member on a total partition of HUF: The property received by male member on total partition will retain its character as a joint family property. If he is single, it will be HUF property on the marriage.

The authorities in this regard are :–

[a]   CIT vs. Arun Kumar Jhunjhunwala and Sons [1997] 223 ITR 45.

A sole member can constitute a HUF on marriage.

[b]   CIT vs. Radhe Shyam Agarwal [1998] 230 ITR 21 (Pat).


Position when the wife of the karta also been allotted a separate share of property:- The property of the wife of the Karta will be her individual property. There is a difference of opinion among the Courts as to whether she continues to be a member of her husband’s HUF after allotment of a share to her on partition.

Partition is not  transfer:- The Supreme Court in the case of CED vs. Kanhlal Trikamlal [1976] 105 ITR 92, 101 (S. C.) observed that partition is really a process in which and by which a joint enjoyment of the property is transformed into enjoyment in severalty. Each one of the sharers has an antecedent title and therefore, no conveyance is involved in the process, as confirmed of new title is not necessary. This decision is an authority for the proposition that no conveyance is required for a partition, but not for whether there is a transfer involved in a partition.

In the case of Kalooram Govindram vs. CIT [1965] 57 ITR 335 {S.C.), the Supreme Court did not give any opinion as to whether a partition constitutes a transfer within the meaning of Transfer of Property Act. But according to Andhra Pradesh High Court in the case of Dwarka Prasad vs. CED [1968] 67 ITR 281 (AP) the Supreme Court in 57 ITR 335 has given final authority that in partition there is no transfer.


Question:- If a house-property belonging to an HUF is divided (in 4 portion) and then transferred to Karta and his 3 sons, what will be the tax impact of this transaction in the hands of HUF and each of the co-parcener?

Answer:- The house property is a capital asset. Its transfer result in capital gains which is chargeable to tax under the I T Act. However, transfer of assets from HUF to its members is special case. There is express provision under the I T Act which says that the distribution of capital asset on total or partial partition of HUF is not regarded as transfer for the purpose of I T Act. The said provision contained in section 47(i) of the I T Act is as under:

“47. Nothing contained in section 45 shall apply to the following transfers :(i) any distribution of capital assets on the total or partial partition of a Hindu undivided family;”


The partition in Hindu law is effected by a definite and unequivocal indication of a coparcener’s intention to separate. Similarly, a partial partition is effected by a definite and unequivocal indication of the coparcener to partition a particular business or property of the joint family leaving the other assets as joint family property. Therefore ,it is very important to understand word “total or partial partition”. In that case only, distribution of assets is not regarded as transfer and no capital gains occur in hand of HUF. However, in individual’s hand there is no taxable income in any case on transfer of house property from HUF.


Physical division of property by way of book entries not permissible :-Where a property is capable of physical division, the partition must be made by physical division only. If the property of the HUF does not admit of physical division, the property must be so physically divided as much permits. For example, it is not expected that the utility of the property is lost by compelling a physical partition and in such a case, the property may be divided physically to the extent possible.

This is rule in section 179 to make a valid claim for recognising the partition for Income-tax purposes.

Basically, a partition can be made orally and there is no requirement in law that the partition must be evidenced by a written agreement. Even a partition of immovable property of HUF can be through an oral agreement [Popatlal Devram vs. CIT [1970] 77 ITR 1073 (Orissa).]

Entries showing division of the property in books of account may be good evidence of a partition more particularly in cases where the property may not be capable of physical division.

For example, it has been held that a business cannot be partitioned by metes and bounds. [R.B. Bansidhar Dhandhania vs. CIT [1944] 12 ITR 126 (Patna)] Therefore, where a business of HUF was partitioned by well defined shares and partnership formed was held valid.

Therefore, where credit balances in capital account in books of firm in which assessee HUF was a partner is partitioned, it was held that there was a valid partition. [Motilal Shyam Sunder vs. CIT [1972] 849 ITR 186(All).]

In the case of CIT vs. K. G. Ramakrishnier [1963] 49 ITR 608 (Mad.), the Madras High Court held that an asset which is not capable of physical division can be partitioned by making entries in books. Here, entries relating partition were passed in books of HUF and not the partnership firm where HUF was a partner. The partition was held valid.

Procedures for recognition of partition:- The HUF, which has been hitherto assessed, must make a claim to the assessing officer that the HUF properties have been subjected to total partition.

The Assessing Officer will make an inquiry in to the claim after giving notice to all members of the HUF and if he is satisfied that the claim is correct, he will record a finding that there was a total partition of the HUF and the date on which it has taken place.

Partition for conversion of family business into partnership:- A business cannot be partitioned by metes and bounds. This is the observation of the Patna High Court in the case of R.B. Bansidhar Dhandhania vs. CIT [1944] 12 ITR 126 (Patna). Here, the business of HUF was partitioned by well defined shares and partnership formed was held valid.

It may however be noted that a partition can be effected orally. Subsequent entries in the books of account are good evidence of partition. The Bombay High Court in the case of CIT vs. Shiolingappa Shankarappa Mendse and Bros. [1982] 135 ITR 375 (Bom.) had occasion to deal with a case where there was a partition of HUF and subsequent formation of a partnership firm by the erstwhile members of the HUF. Transaction of partition was evidenced by book entries. Partnership was held valid.

Where, however division of property (business) of HUF was not effected properly, the claim that business of HUF was converted into that of partnership firm was not upheld and the income from the business was held assessable in hands of the HUF itself. {Kaluram & Co. (HUF) vs. CIT [2002] 254 ITR 307 (Del.)]

Order u/s 171 not  required where a HUF has not been assessed to tax:- The wordings of section 171 show that the section has no application to a HUF, which has not been hitherto assessed. The authorities in support of this proposition are :–

CIT vs. Kantilal Ambalal (HUF) – [1991] 192 ITR 376 (Guj.)

Addl. CIT vs. Durgamma (P) – [1987] 166 ITR 776 (A.P.)

CIT vs. Hari Krishnan Gupta – [2001] 117 Taxman 214 (Del.)

Reference may also be made in this regard to the decision of the Supreme Court in the case of Roshan Di Hatti vs. ITO – [1968] 68 ITR (SC)/Sir Sunder Singh Majithia vs. CIT – [1942] 10 ITR 457 (PC).

Validity of Penalty on HUF after a total partition: The provisions of section 171[8] gives the mandate to an assessing officer to levy penalty on a HUF disrupted after partition.

The levy of such penalty has also been upheld by the Allahabad High Court in the case of CIT vs. Raghuram Prasad [1983] 143 ITR 212 {All}.

Where a coparcener with only his widow as legal heir dies, could a partition be deemed as between the surviving coparcener and the widow on his death? : . Where a deceased dies issueless leaving a widow there is no question of a deemed partition u/s. 6 of the Hindu Succession Act. This is the finding of the Gujarat High Court in the case of Bhartiben S. Jhaveri vs. CED [1999] 238 ITR 995 (Guj). The reason being there is no coparcenery with only one male.

A similar ratio was held by the Allahabad High Court in the case of CED vs. Smt. S. Harish Chandra [1987] 167 ITR 230 {All} that proviso to section 6 of the Hindu Succession Act does not come into operation where there is no coparcenary in existence at the time of the death of the male member.

Responsibility to pay Tax After partition of an HUF up to the date of partition:- As per section 171 [6], every member of the HUF before partition shall be jointly and severally liable for the tax on the income assessed of the HUF. The same section empowers the assessing officer to recover the tax due on completion of the assessment on the disrupted HUF from every person who was member of the HUF before partition.

Further, as per section 171[7], the several liability of the member shall be computed according to the portion of the joint family allotted to him at the time of the partition.

It may however be noted that joint liability of the member is personal and distinct from the personal and several liability as found by the Supreme Court in the case of Govindas vs. ITO [1976] 103 ITR 123, 132 {SC}. As such a member of a HUF before partition is not personally liable, after partition in respect the liability of HUF, ex-members liability is personal.

Also, unlike the several liability, the joint liability is not limited to the asset received by the member on partition as noticed by the Supreme Court in the case of Addl. ITO vs. A.S. Thinmaya [1965] 55 ITR 666, 671 {SC}.


Notional partition: – Under the provisions of section 6 of the Hindu Succession Act, 1956, where a Hindu male dies intestate on or after 17th June 1956, having at the time of his death an interest in a Mitakshara coparcenary property leaving behind a female heir of the class I category, then his interest in the coparcenary property shall devolve by succession under that Act and not by survivorship. The interest of the deceased will be carved out for devolution as if a notional partition had taken place before the death of the deceased. This is the concept of notional partition.

Notional partition and destruction of the family:-The notional partition only crystallises the share due to the female heir and does not disrupt the joint family.

A direct authority can be found in the decision of the Supreme Court in the case of State of Maharashtra vs. Narayan Rao Sham Rao Deshmukh, which is reported in [1987] 163 ITR 31 {SC}, wherein it was held that the purpose of section 6 is only for ascertainment of the share of the female heir and unless the share is given away, the same cannot be excluded from the assets of the HUF.

The Gujarat High Court in the case of CWT vs. Chandrasinhrao D. Gaikwad [1999] 237 ITR 875 came to the same conclusion without referring to the above decision of the Supreme Court

TYPES OF FINANCIAL ANALYSIS

Financial statements are analysed by different parties for different purposed. The analysis is done from different angles. Accordingly, we can classify financial statement analysis into different categories as follows:

1.       On the basis of concerned parties

According to different parties concerned with the operation of the company, the financial statement analysis can be of two types:

·         External Analysis 

·          Internal Analysis

(a) External Analysis:

When the analysis is undertaken by outside parties namely existing and prospective investors, suppliers, lenders, government agencies, customers etc., it is external financial statement analysis. These external parties do not have any access to the internal records of the company; nor do they have any scope to know the hidden accounting policy, if any, of the management. So, they have to depend almost entirely on the published financial statements and other additional information supplied by the management.

(b) Internal Analysis:

This analysis is undertaken by the management of the company to monitor its financial and operating performance. As the analysis is done by the party who has access to the internal records and policies, it is expected to be more effective and reliable.

2.       On the basis of time period of the study

Based on the time period covered for the study, the financial statement analysis can be grouped into:

·          Horizontal Analysis

·         Vertical Analysis

(a) Horizontal Analysis:

This analysis refers to the study of past consecutive balance sheets, income statements or statements of cash flow at a time. The analysis can be made between two periods or over a series of periods. The relevant accounting numbers of all years of the study are presented horizontally in a statement over a number of columns each representing a year. Those figures can also be graphically presented. The figures of each year are compared with those of the base year i.e., the beginning year of the study. This analysis is also called ‘Dynamic Analysis’ as it covers several years for study. This analysis is very much effective for understanding the direction and trend of the organisation particularly when it is undertaken for several years. Comparative statements and trend analysis are two important tools that can be employed for horizontal analysis.

(b) Vertical Analysis:

When the analysis is restricted to the financial statements of one particular period only, it is known as vertical analysis of financial statements. In this analysis each item of a particular financial statement is expressed as percentage of a base figure selected from the same statement. It is also known as ‘Static Analysis’ as it concentrates solely on one year’s financial statement. Common-size statements and accounting ratios are two important tools used for vertical analysis. This analysis is very much useful for understanding the structural relationship of various items in a financial statement. Vertical analysis can also be done for studying the relationship within a set of financial statements at a point of time.

PowerPoint tips

 

In today's challenging environment, the need for effective presentation skills need not be emphasised. Starting this month, in a series of articles, we present some tips and precautions on the use of the most popular presentation software MS-PowerPoint. So the first set of ten tips:

1. Save your fonts with your presentation:

If you're preparing a presentation that is to be presented on another computer or distributed, ensure that you check this option by clicking on the Tools button in the File/Save As dialog box so that your choice of fonts is visible on the viewers computer, whether or not the same has the required font files.

2. Making Auto-Fit Text Stop Auto-Fitting:

Many users find the Auto-Fit feature very cumbersome, as the same can shrink the font size drastically in case of long lists. Turn this feature off by going to Tools/Options, click on the Edit tab,and uncheck Auto-fit text to text placeholder, click OK. Later on, longer lists can be manually split into two slides.

3. Preview Slide-Show effects:

While editing a presentation, hold down the CTRL key while clicking the slide-show view button; this will open a tiny preview window showing that slide in slide-show mode.

4. Using more than one Guide:

If you like using Guides, but wish there were more, you can create additional Guides by simply holding down the CTRL key while dragging on an existing Guide. This will create a new Guide. To get rid of Guides, just drag them off the edge of the slide.

5. Creating pages with slides and descriptive text:

If you want to create handouts that have notes or descriptive text associated with each slide, you can use the Notes Page. To view the Notes page for any slide, go to the View menu and select Notes Pages. You will see an image of your slide there, and a placeholder for adding your script, notes, or any other text you wish. You can cut-and-paste text from Word here if you like. To print these pages, bring up the Print dialog, and at the bottom of the dialog where it says Print What:, select Notes Pages.

6. Easily changing from caps to lower case (or vice versa):

If you have text that is in the wrong case, select the text, and then click Shift+F3 until it changes to the case style that you like. Clicking Shift+F3 toggles the text case between ALL CAPS, lower case, and Initial Capital styles.

7. Expanding one slide into two:

If you can't make text fit properly on one slide without squeezing it in too tightly, split the text into two slides. If the text is in a text placeholder, this is easily done using the Outline toolbar. To display the Outline toolbar, right-click any toolbar and choose Outline.

1. Place the cursor in the Outline tab of the Outline panel (not on the slide) at the end of the last line of text that you want on the first slide.

2. Press Enter.

3. On the Outline toolbar, click Promote until a New Slide icon appears in the Outline panel.

4. Type a title for the new slide.

5. Adjust the rest of the text as needed by clicking Demote or Promote on the Outline toolbar.

8. Using a Summary Slide

A summary slide creates a slide listing the slide names of selected slides. Besides using a summary slide for summaries, you can use it to create agenda slides.

1. Select all the slides you want to include. You might want to leave out some slides like the title slide.

2. Click Summary Slide on the Outlining toolbar.

3. Hyperlink each slide title back to its slide. (Select the text and choose Insert > Hyperlink.)

4. Be sure to add hyperlinks on each of the slides back to the summary slide. If you attach the hyperlink to an image or AutoShape, it will be invisible.

9. Fit more text in a Placeholder or AutoShape:

How much time do you spend trying to fit text into a placeholder or AutoShape? One option is to reduce the font size or try a different font that takes up less room. But sometimes, you want consistency of font and font size and don't have room to expand the placeholder or AutoShape. Another option is to split one slide into two or reword the text. If you only need a little extra space, the following solution is very helpful:

1. Right-click the placeholder or AutoShape and choose Format Placeholder or Format AutoShape.

2. In the resulting dialog box, click the Text Box tab. In the Internal Margin section, reduce the numbers for the left, right, top, and bottom margins, may be to zero with no visible border.

3. Click OK.

10. Creating a Compact List of Notes:

If you have added notes to your slides that you want to print out to use while you present, using the Print feature (choose File>Print and choose Notes Pages from the Print What drop-down list) creates a separate sheet for each slide. It's a big waste of paper and awkward to handle during your delivery. Here's another method that will fit 5 slides per page if you want to see the slide and much more, if you can work without the slide image.

1. Choose File>Send To>Microsoft Office Word.

2. In the dialog box, choose the Notes Next to Slides option and click OK.

3. Wait while Word opens and imports the presentation into a table. Note that there�s a lot of space below each slide and you have only 3 slides per page.

4. In Word, with the cursor anywhere in the table, choose Table>Select>Table to select the entire table.

5. Choose Table>Table Properties and click the Row tab.

6. Uncheck the Specify Height checkbox in the Size section of the dialog box.

7. Click OK. You now have 5 slides per page.

 With these tips, you can improve on your presentation techniques. So, happy presenting!

Transfer Pricing: CUP method will determine ALP of interest-free loan

Aithent Technologies Pvt Ltd vs. ITO (ITAT Delhi)

 

The assessee advanced Rs. 7.39 crores to its AE on interest-free terms. For transfer pricing purposes, It claimed that no external comparable uncontrolled price was available for benchmarking the transaction and so the Transactional Net Margin Method (TNMM) was applicable to determine the arm’s length basis of the loan. Applying TNMM, the assessee claimed that the notional interest was factored in the software development income and no separate addition could be made. This was rejected by the TPO & CIT (A) on the ground that the giving of interest-free loans to the AE was an entirely separate transaction not in conjunction with the activity of software development and hence merited a separate analysis. On appeal by the assessee, HELD by the Tribunal:

Extension of last date for compliance of CPE hours requirement for Members holding COP – (31-12-2011)

 

FOR INFORMATION OF THE MEMBERS

 

Subject: Extension of last date for complying with the CPE hours requirement for the calendar year 2011 for the members holding COP from 31st December, 2011 to 31st March, 2012

 

This is for kind information of the members that the Council of the Institute has decided to extend the last date for complying with the CPE hours requirement for the calendar year 2011 for the members holding COP by three months, i.e., upto 31st March, 2012.