Permanent Establishment (PE) is a crucial concept in international taxation, determining when a foreign company becomes liable to pay taxes in a host country.
In
India, the concept of PE holds significant importance, given its thriving
economy and attraction as a business destination. Understanding the rules and
implications of PE is vital for multinational corporations operating in India.
This
article provides an overview of Permanent Establishment in India, including its
definition, its types, and the impact of setting up PE in India.
Concept of
Permanent Establishment
In
India, a company incorporated within its borders is subject to taxation on its
global income based on the "residential
base" taxation principle.
Moreover,
India has the authority to tax the income of foreign companies to the extent
that the source of that income lies within India.
According
to the Indian Income Tax Act, if a foreign company's income is received,
accrued, or arises in India, India can tax such income under the "source
base" taxation principle.
When
a foreign
company sets up a long-term business presence in India, the income from
that presence is taxed in India. This is where the term "Permanent Establishment" (PE) comes from.
Types of
Permanent Establishments
In
India, there are several types of Permanent Establishments recognised under the
tax laws. These types of PEs determine when a foreign company becomes subject
to taxation in India. Here are some common types of PEs in India:
1. Fixed
Location PE
This
refers to a physical location, such as an office, branch, factory, workshop, or
other fixed premises, where the foreign company carries out its business
activities in India.
Criteria
for fixed place PE in India: Fixed and consistent location, availability to
foreign entities, and conducting proper commercial activity.
* Fixed and
consistent location: For a foreign enterprise to have a fixed place
PE in India, the business location must be stable and consistent over a
reasonable period, excluding passing or casual activities. Consistency and
regularity are essential factors.
* Availability
to foreign entities: The foreign entity must have access to the
location, even if it is within another company's premises, provided the access
is regular. In such cases, the premises may be deemed as a PE in India.
* Conducting
proper commercial activity: A proper commercial activity must be
conducted from the designated location.
2.
Construction PE
When
a foreign company engages in construction, installation, or assembly projects
in India for a specified duration, it establishes a Construction PE. If the
project exceeds a prescribed threshold period, the company becomes liable for
taxation in India.
This
type of PE is applicable to foreign companies involved in significant
construction activities within the country, ensuring their income generated
from such projects is subject to Indian taxation.
3. Service PE
A
Service PE is established when a foreign company provides services within India
through its employees or personnel for a specific period. This can include
activities such as consultancy, technical assistance, or other services
rendered within India.
The
presence of a Service PE in India may subject the foreign company to taxation
on the income attributable to the services provided in accordance with India's
tax laws and relevant double taxation treaties.
4. Dependent
Agent PE
Dependent
Agent PE refers to a situation where a foreign company conducts business in
India through an agent who negotiates contracts and has the authority to secure
orders on behalf of the company regularly.
The
agent must be legally dependent on the company and act exclusively or almost
exclusively for the company, leading to the establishment of a taxable presence
for the company in India.
5. Subsidiary
PE
The
presence of a subsidiary company in India does not automatically constitute a
Permanent Establishment (PE) for the parent company.
The
subsidiary becomes a PE only if the parent company's operations are conducted
through the subsidiary, meeting the criteria outlined in the PE provisions.
The Impact of
Setting Up PE in India
Once
a foreign firm is deemed to have a PE in India, the profits associated with its
activities in the country will be subject to taxation as "Business Income" as per the
provisions of Article 7 in tax treaties.
* Profits
Attribution: The
profits attributable to the PE are calculated based on what the PE would have
earned if it operated independently under similar conditions as the rest of the
company.
* Maintenance
of Books of Accounts: Companies with a PE in India are required to
maintain books of accounts in compliance with Indian accounting standards.
* Registration
and Compliance: Foreign companies with a PE in India must
apply for Permanent Account Number (PAN)
and Tax Deduction and Collection Account Number (TAN). They should also register under the regulations of indirect
taxes such as Goods and
Services Tax (GST).
* Tax-Deductible
Expenses:
Expenses incurred for the business purposes of the PE, whether in India or
elsewhere, are allowed as tax-deductible expenses for determining the PE's
earnings.
* Taxation of
Net Profits: The
net profits of the PE, after deducting allowable expenses, will be subject to
taxation as per the applicable tax rates and laws in India.
* Withholding
Tax (WHT) Compliance: Foreign companies with a PE in India must
comply with the mandatory withholding tax requirements on payments made to
non-residents, such as royalties, interest, dividends, or fees for technical
services.
Conclusion:
Permanent
Establishment (PE) is a crucial concept in international taxation, particularly
in India, a thriving economy and attractive business destination. Various types
of PEs, such as Fixed Location PE, Construction PE, Service PE, Dependent Agent
PE, and Subsidiary PE, determine when a foreign company becomes liable to pay
taxes in India.
Setting
up a PE in India has implications such as taxation of profits, maintenance of
books of accounts, registration and compliance requirements, tax-deductible
expenses, taxation of net profits, and withholding tax compliance.
Understanding
the rules and implications of PE is essential for multinational corporations
operating in India to ensure compliance with Indian tax laws.
Don't
let PE complexities boggle your global expansion plans - contact your financial
advisor or tax advisor today, and get expert guidance tailored to your unique
business needs.
Source: https://www.linkedin.com/pulse/permanent-establishment-international-taxation-ca-manish-gupta/
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