India Resident Foreign Companies to Pay 40 Percent Tax: Latest POEM Guidelines

In June this year, the Central Board of Direct Taxes (CBDT) came out with final clarifications regarding the rules on Place of Effective Management (POEM).

POEM is an internationally recognized test for determining the residence of a company incorporated in a foreign jurisdiction with a view to assessing its tax liability.

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The concept of POEM was introduced in the Indian law last year in a crackdown on shell companies and opaque businesses activities, which are created exclusively for retaining income outside India despite real control and management being in India.                                          

POEM rules do not apply to foreign companies that have active business outside India. This covers companies whose passive income is not more than 50 percent of the total income and less than 50 percent of the employees are residents in India. Further, the payroll expenses on the company’s Indian resident employees must be less than 50 percent of the total payroll expenditure. Finally, the company must have less than 50 percent of its total assets situated in India.

POEM guidelines in India

The June notification states that the rate of corporate tax on the foreign companies will continue to apply even if the residency status of the company changes from non-resident to resident by virtue of its POEM.

As a result, the applicable rate of tax in case of a foreign resident company in India will remain the same, at 40 percent, in addition to surcharge and cess.

This means that an India resident foreign company will be liable to pay a higher tax rate in comparison to its domestic counterpart, on its worldwide income, to the Indian authorities. The rate of tax for domestic companies is 30 percent.  

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Those provisions of India’s Income-tax Act, 1961, which are specifically applicable to either a foreign company or a resident taxpayer will apply accordingly.

In case of any conflict between provisions of the Act applicable to a taxpayer as a foreign company and those applicable to it as a resident, the former will prevail over the latter.

It is important to note that small companies having an annual turnover of less than Rs 500 million (US$6.9 million) are not covered under the POEM regulations.  

The new guidelines on POEM also provides for a broader clarity on the following :

• Determination of Written Down Value (WDV) of the asset;
• Brought forward losses and unabsorbed depreciation;
• The manner for determining of the tax year where the foreign company follows a different accounting year;
• Allocation of losses and unabsorbed depreciation in case the accounting year doesn’t end on March 31; and,
• Eligibility to avail of the foreign tax credit; and other related matters.

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