Withholding Tax in India: An Explainer

From July 1, 2022, a new withholding tax provision is applicable on benefits or perquisites arising to a resident from business or profession. The new provision, introduced by The Finance Act, 2022, requires a person providing a benefit or a perquisite arising from a business or a profession, to withhold tax at 10 percent of the value of such benefit – which could also be partly or wholly non-cash.
In this article, we discuss the withholding tax regime in India, including threshold levels, tax rates, and DTA treaty rates on payments to resident and non-resident firms.

Withholding tax (WHT), also called retention tax, is an obligation on the individual (either resident or non-resident) to withhold tax when making payments of a specified nature, such as rent, commission, salary, for professional services, to satisfy contract provisions, etc. – at rates specified in India’s tax regime.

The applicable tax rate is the rate prescribed in the Income Tax Act, 1961 or relevant Double Taxation Avoidance (DTA) Agreement, whichever is lower. Non-residents are liable to pay taxes in India on source income, including:

• Interest, royalties, and fees for technical services paid by a resident
• Salary paid for services rendered in India
• Income arising from a business connection or property in India

What are the withholding tax thresholds and rates on payments to Indian resident companies?

Notes:

• As a part of relief measures due to the impact of the COVID-19 pandemic, the Indian government has provided for a reduced WHT rate by 25 percent in case of payments to residents between May 14, 2020 to March 31, 2021. Hence, existing rates were reduced by 25 percent (i.e. if WHT rate is 10 percent as per the section, it would be read as 7.5 percent in case payment was made between May 14, 2020 to March 31, 2021).
• Payments have different threshold limits. The payer is only required to withhold tax if the total payment within a tax year to a single person (except where specified otherwise) is above the limits specified above.
• The threshold limit for WHT for non-specified type of interest is INR 5,000, except in the case of interest received from a bank or deposit with post office, for which it is INR 10,000. This threshold limit is increased to INR 50,000 in case of interest provided by a co-operative society, and INR 40,000 if the recipient of interest is a senior citizen (i.e., aged above 60 years).
• Where the cash has been withdrawn by any person who has not filed return of income for three immediately preceding financial years, the threshold of INR 10 million will be read as INR 2 million and tax shall be deducted at 2 percent on amount exceeding INR 2 million but not exceeding INR 10 million and 5 percent on amount above INR 10 million.
• WHT obligations will not arise in case of individual or Hindu Undivided Family (HUF) where transaction value does not exceed INR 0.5 million, provided such individual or HUF furnishes its PAN/Aadhar. This provision is applicable with effect from October 1, 2020. Further, payments covered under this provision shall not be doubly taxed under any other provision of the tax law.
• 5 percent in case PAN/Aadhar is not available.
• Interest under Government of India saving (taxable) bonds, 2018 is allowed as a deduction at the time of making payment of interest on such bonds to residents. The threshold limit is less than or equal to INR 10,000.
• The definition of ‘royalty’ also includes consideration for use of, or right to use, computer software. Transfer of all or any rights in respect of any right, property, or information includes transfer of all or any right to use computer software (including granting of a licence), irrespective of the medium through which such a right is transferred and irrespective of whether any right or property is located in India. Hence, while applying WHT on such payments in the nature of royalty, one needs to consider the definition of royalty as amended by the Finance Act, 2012 with retrospective effect from June 1, 1976. Further amendment in the definition of royalty is brought in by the Finance Act, 2020 to include consideration for sale, distribution, or exhibition of cinematographic films within its ambit.
• 2 percent in case the company is engaged in business of operation of call centers.
• The Finance Act, 2022 has introduced withholding tax provisions on benefit or perquisites arising to a resident from business or profession, to be applicable from July 1, 2022. As per the new provision, a person providing a benefit or a perquisite arising from a business or a profession, is required to withhold tax at 10 percent of the value of such benefit. The objective is to ensure that such receipts, which are otherwise taxable in the hands of the recipient, are duly reported and do not avoid taxation on account of lack of reporting by the recipients. Since such benefits could be non-cash (wholly or partly) and the person providing such benefits must ensure that tax is paid before such benefits are provided. There is a relaxation where the value of the benefit is nominal (aggregating to INR 20,000 in the relevant tax year) or where the benefits are provided by an individual or an HUF having turnover or gross receipts up to the prescribed threshold.)

What is the permanent account number?

Every person (not being an individual) who enters into a financial transaction of an amount aggregating to INR 250,000 or more shall be required to apply to a tax officer for a permanent account number or PAN.

If the PAN of the deductee is not quoted, the rate of WHT will be the rate specified in relevant provisions of the Income-tax Act, the rates in force, or the rate of 20 percent, whichever is higher.

India’s withholding tax regime and the Finance Act, 2021

Finance Act 2021 has prescribed a levy of higher tax deducted at source (TDS) and tax collected at source (TCS) on non-filers of income-tax return.

Accordingly, higher TDS will be applicable to those having interest income, dividend income, annuity pensions, income from capital gains.

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However, this higher TDS will only apply to a specified category of non-filers of return.

Further, this new section shall not apply where the tax is required to be deducted in case of salaries, provident fund, winning from lottery etc., winning from horse rates, income received from a securitization trust or cash withdrawal exceeding INR 2 million.

As per the provisions under the Indian Income-tax Act, 1961, the higher TDS rate applied will be the higher of anyone of the following:

• Twice the rate specified in the relevant provision of the Indian Income-tax Act; or
• Twice the rate or rates in force; or
• The rate of five percent.

What are India’s WHT rates on payments to non-resident companies?

Notes:

• Percentage to be increased by a surcharge and health and education cess to compute the effective rate of tax withholding.
• Income from units of specified mutual funds received on or after April 1, 2020, is now taxable in the hands of the unit-holders.
• Dividends received from Indian companies prior to April 1, 2020, are tax-free in the hands of the shareholder. Any dividends received post April 1, 2020, are chargeable in the hands of the non-resident shareholder at the rate of 20 percent or treaty rate, whichever is beneficial.
• Short-term capital gains on transfer of shares of a company or units of an equity-oriented fund would be taxable at 15 percent if they have been subjected to STT.
• There is no threshold for payment to non-resident companies up to which no tax is required to be withheld.
• If the PAN of the deductee is not quoted, the rate of WHT will be the rate specified in relevant provisions of the Act, the rates in force, or the rate of 20 percent, whichever is higher. The government has notified rules that do not mandate quoting of PAN, subject to certain conditions.
• The payer is obligated to report specific information in the prescribed form (whether or not such payment is chargeable to tax).
• Where taxes are withheld as per the rates provided above with respect to dividend, interest, royalty, or FTS and there is no other income chargeable to tax in the hands of the non-resident, then compliance obligations relating to filing of return of income by such non-resident in India are not required.

A look at India’s DTA tax treaty rates

Some tax treaties provide for lower WHT rates from certain types of income, as follows. Note that this table is to be read along with the subsequent notes on qualifying conditions.

DTA Tax Treaty Rates

Notes: Qualifying conditions – the numbers in brackets in the table refer to the following conditions:

(1) The treaty tax rates on dividends are not relevant for dividends received up to March 31, 2020 since under the earlier Indian tax legislation, most dividend income from Indian companies that is subject to DDT is exempt from income tax in the hands of the recipient. However, this scenario has changed since DDT is abolished and tax is now levied in hands of recipient of dividend income with effect from April 1, 2020.

(2) 10 percent for the use of or right to use any industrial, commercial, or scientific equipment; and in other cases:

(3) During the first five years of the agreement:

(4) 15 percent if the payer is the government or specified organisation.

(5) 20 percent in any other case.

(6) Subsequent years: 15 percent in all cases.

(7) If at least 10 percent of capital is owned by the beneficial owner (company) of the company paying the dividend or interest.

(8) In absence of specific provision, it may be treated as business profits or independent personal services under respective treaties, whichever is applicable.

(9) The ‘most favored nation’ clause is applicable. The protocol to the treaty limits the scope and rate of taxation to that specified in similar articles in treaties signed by India with an OECD-member country or another country.

(10) If royalty relates to copyrights of literary, artistic, or scientific work.

(11) If at least 25 percent of capital is owned by the beneficial owner (company) of the company paying the dividend.

(12) If at least 25 percent of capital is owned by the company during at least six months before date of payment.

(13) If paid on a loan granted by a bank/financial institution.

(14) The tax rate for royalties and fees for technical services, under the domestic tax laws, is 10 percent. This rate is to be increased by a surcharge at 2/5 percent on the income tax (based on taxable income) and health and education cess of 4 percent on the income tax including surcharge. As a consequence, the effective tax rate is 10.608/10.92 percent. This rate applies for payments made under an agreement entered into on or after 1 June 2005. Accordingly, a tax resident can either use the treaty rate or domestic tax rate, whichever is more beneficial.

(15) If interest is received by a financial institution.

(16) Taxable in the country of source as per domestic tax rates.

(17) If royalty payments arise from the use or right to use trademarks.

(18) Tax treaties of certain countries do not have a separate clause specifying the WHT rate for fees for technical services and fees for included services.

(19) 5 percent if the beneficial owner is a company holding at least 10 percent of share capital; 15 percent in other cases.

(20) 15 percent of gross amount of dividend in case such dividend is paid out of income derived from immovable property and such income is exempt from tax. 10 percent in all other cases.

(21) 10 percent if such interest is paid on a loan granted by a bank carrying on a bona fide banking business or by a similar financial institution (including an insurance company).

(22) 10 percent if payments of any kind received as consideration for the use of, or the right to use, any industrial, commercial, or scientific equipment and fee for included services that are ancillary and subsidiary to the enjoyment of the property for which payment is received.

(23) Dividend/interest earned by the government and certain institutions, like the Reserve Bank of India, is exempt from taxation in the country of source.

(24) If it’s payable in pursuance of any collaboration agreement approved by the Government of India.

This article was first published on September 22, 2021 and last updated on July 21, 2022.

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