Business Line : Features / Mentor : Investing overseas, the easy way

Business Line : Features / Mentor : Investing overseas, the easy way

Due to the Double Taxation Avoidance Agreement, the Indian Head Office can take credit of taxes already paid in Australia by the branch office.

Sudhir Rao, an Indian businessman with substantial interest in the winemaking and brewery sector, recognised the growing opportunity in Australia for investment in the vinification business. As this would be a perfect compliment to the vintner's Indian business, he contemplated investing a couple of million dollars in this business in Australia. The benefits of bilateral trade agreements between India and Australia are being explored by many business houses, especially in view of the fact that India has emerged as the 21st largest outward investor globally.

Sudhir completed a due diligence study, and was satisfied with the report on the probability of establishing a successful business model in Australia. The next logical step, of course, was to study the statutory compliances and related aspects of making a foreign investment. The essential first step was to decide on the type of entity to be set up in Australia, in consonance with various laws such as Securities and Exchange Board of India guidelines, Companies Act, Income Tax Act, RBI and FEMA guidelines etc.

SUBSIDIARY COMPANY

The common practice is to set up a subsidiary company in Australia, carry on operations, pay taxes and have the dividends repatriated to the parent company in India. However, the choice of entity could vary, if one examines the benefit of taxation on the subsidiary company versus a branch office at Australia. Purely from a taxation point of view, the following facts deserve consideration. Let us say, the profit of the Australian entity is Rs 100, and assuming that the tax rate is 35 per cent, the profit after tax is Rs 65 in both situations (the subsidiary model and branch model in Australia).

If the subsidiary company declares this profit of Rs 65 as dividend, the Indian parent company needs to pay a tax of Rs 20 (at 30 per cent tax rate in India), and thus the outflow of tax in total would be Rs 55. Whereas, if it is a branch model, the Indian company will have to include the profit of the Australia branch viz. Rs 100, and pay a tax of Rs 30 (at 30 per cent). Since India and Australia have signed a Double Taxation Avoidance Agreement, the Indian Head Office can take credit of the extent of taxes already paid in Australia by the branch office.

Thus, the Indian Head office takes credit to the extent of taxes payable in India i.e. Rs 30, and the effective outflow of tax in total is limited to Rs 35. It must be remembered that though the Australian branch has paid Rs 35, the credit cannot result in refund in India. Thus, the effective tax rate for the branch model is 35 per cent, as against the subsidiary model, at a formidable 55 per cent. It will be very relevant to consider the taxation aspects, in addition to the some other factors for the entity selection.

COMPLIANCES

Having decided the entity, Sudhir needs to plan for compliances with RBI/FEMA regulations. The Reserve Bank of India has simplified the foreign investment procedure to the extent that its designated authorised dealers (specific branches of commercial banks) may allow customers remittances abroad without prior permission upto US$ 200,000 per fiscal year, per person, including a minor. The provisions of FEMA do require that the applicant should have maintained the bank account with the bank for a minimum period of one year, but the said branch, at its discretion, based on the declaration, proof of funds and Income Tax returns of the applicant, can affect outward remittance.

Sudhir's initial requirement of investment is one million dollars. The plan is to carry this out with the help of his family members, with each of them investing $200,000, without seeking specific permission of the RBI. The second phase of investment would be done via the five persons in the next financial year, viz after the month of April. Sudhir's company also has the choice of investing abroad from the balance lying in its EEFC account (Exporter Earner's Foreign Currency Account). The company can invest up to 400 per cent of its net worth abroad without prior RBI approval. The ceiling doesn't apply if the investment is made out of balances held in EEFC account.

Sudhir will have certain reporting duties as well. Sudhir would need to receive a share certificate as evidence of investment, repatriate dues receivable to India and submit an Annual Performance Report for the subsidiary to RBI, through the authorised dealer. In cross-border transactions, it is equally important to comply with various regulations, to be within the framework of the law.

(The author is a Coimbatore-based chartered accountant.)

IRS extends tax filing deadline to April 17

The IRS is giving taxpayers two extra days to get their taxes turned in this year.

While Tax Day typically falls on April 15, the IRS announced Wednesday that it is pushing back this year's filing deadline to Tuesday, April 17.

The extension was granted because April 15 falls on a Sunday this year, and Monday is Emancipation Day, a holiday in Washington D.C. that celebrates the freeing of slaves in the district. Last year, Tax Day was extended until April 18, also thanks to Emancipation Day.

The IRS will also begin accepting returns submitted online through the agency's e-filing system -- which the IRS says is the fastest, most accurate filing option for taxpayers -- on January 17.

If you are requesting an extension, you have until Oct. 15 to file your 2011 tax return, the agency said.

The IRS said it expects to receive more than 144 million individual tax returns this year, with the majority projected to be submitted by the new April 17 deadline.  

2012 standard mileage rates

The Internal Revenue Service has issued the 2012 optional standard mileage rates used to calculate the deductible costs of operating an automobile for business, charitable, medical, or moving purposes. 

Beginning January 1, 2012, the standard mileage rates for the use of a car (also vans, pickups, or panel trucks) will be: 

• 55.5 cents per mile for business miles driven (includes a 23 cents per mile allocation for depreciation);
• 23 cents per mile driven for medical or moving purposes; and
• 14 cents per mile driven in service of charitable organizations.

The new rate for business miles is the same as the rate for the second half of 2011, while the rate for medical and moving miles is down a half-cent from the July through December 2011 rate. 

The standard mileage rates for business, medical, and moving uses are based on an annual study of the fixed and variable costs of operating an automobile that is conducted by an independent contractor for the IRS. 

A taxpayer may not use the business standard mileage rate for a vehicle after using any depreciation method under the Modified Accelerated Cost Recovery System (MACRS) or after claiming a Section 179 deduction for that vehicle. In addition, the business standard mileage rate cannot be used for more than four vehicles used simultaneously (i.e., a fleet). 

Taxpayers always have the option of calculating the actual costs of using their vehicle rather than using the standard mileage rates.

Keep track of your tax return!

You may prepare your tax return yourself, use a tax software, take the help of a CPA or a tax professional or may be you outsource it. However, my question is, do you save a copy of your return?

Most of us do not, and that is a very serious mistake. Why would you need to save a copy of your tax return? The chances are,

Ø      You may have to respond to an IRS notice

Ø      You  may want to make changes to the prepared return

Ø      You may be applying for a home loan

Ø      You may want to plan in advance for your tax and finances.

For all the above cited reasons, one may think taxpayers will be careful around their returns. But alas, the situation has only gone from bad to worse these days.

Suppose you have prepared your own return and filed it online – please take care to do at least any of the following:

1. Print a copy of the return
2. Save the file or
3. Scan the return document (if not the source documents)

Some of you might argue saying that you source your returns to a paid preparer, and the preparer will be available to give you a fresh copy if need be. But, in case the preparer experiences a PC crash and loses the files or has quit the business, you will be helpless.

The Federal Tax office can provide you with a copy of the return, but you will have to shell out a few extra dollars and be prepared to wait for a few weeks. IRS Form 4506 is the form to apply for a copy / transcript of your tax return.

It is in fill-in mode, allowing you to enter information while the form is displayed by an Adobe Acrobat 4.0 product and then print the completed form out. Fill-in forms give you a cleaner crisper printout for your records and for faxing. Of course, take due care to print it out and save your copy!

 You can also avail of a tax account transcript / return transcript from the IRS– however, the waiting time involved is sure to dent the original purpose of requiring the return.

Many people do NOT need actual copies of their returns and can instead request a tax return transcript. Transcripts are free, but copies of the return cost $23 each. In addition, transcripts are usually received in two weeks, but copies take four to six weeks.

Hence, please take care to save a copy of your return always, and store it for a minimum period of 5 years from the time of filing. A bit of preparedness always helps!

Along side, maintaining a digital copy of your supporting documents is also a best practice and will come in handy some day.

Voluntary disclosure for foreign assets

Article by Mr. Karthikeyan in The Hindu Business Line dated 01.02.2012:

Mr X, an industrialist, constantly looks out for news items for a possible offer of a Voluntary Disclosure scheme by the Government, especially involving offshore assets. Mr X has funds stashed away in tax havens such as Switzerland, and is aware that he is incorrect in not disclosing the income abroad. No doubt, any voluntary disclosure scheme not only reduces the morale of the honest tax payers, but also gives a signal to dishonest ones that they can wait for the next voluntary disclosure scheme. India has witnessed no less than three voluntary disclosure schemes in the past three decades. The last such offer, the Voluntary Disclosure of Income Scheme (VDIS) 1997, was conceived to fight internal black money generation — an unconventional, but successful tool.

More than 350,000 people disclosed heretofore undisclosed income and assets under the scheme, and brought Rs 7800 crore in additional revenue to the government. Though it was considered a successful scheme, it must be mentioned that it was criticised for putting the rationale of timely and honest tax payment to question.

OFFSHORE INITIATIVES

Apart from India, many countries, such as the US, UK, Germany, France, Portugal, Israel, Greece, and South Africa have introduced voluntary disclosure programmes in the past, and some of these countries have done it more than once. Also, a majority of these voluntary disclosures were offshore programmes aimed at bringing back funds stashed outside the country. In this context, it is relevant to go through the details of two such amnesty programmes introduced by one of the biggest economies — the US, that too within a short span of three years. The first was called Offshore Voluntary Disclosure programme 2009, and the second, Offshore voluntary Disclosure Initiative 2011.

As per US Treasury rules, it is mandatory for all its citizens to disclose annually the details of financial accounts held abroad. Additionally, any income from these accounts must be disclosed in the tax return. The Bank Secrecy Act regulations requires that all US citizens with foreign accounts file Form 90-22.1 – Report of Foreign Bank and Financial Accounts (FBAR), if the taxpayer has an interest in, signature or other authority over, one or more bank, securities, or other financial accounts in a foreign country, with an aggregate value of more than $10,000, at any point in a calendar year.

The penalty for failing to file an FBAR includes comprehensive civil fines, imprisonment of up to 10 years, or both.

PENALTIES

The Internal Revenue Service (IRS) came out with the first voluntary disclosure programme during 2009, and the subsequent one during February 2011. The latest disclosure required that taxpayers file 8 years of back tax returns, reflecting unreported foreign source income, calculate interest and penalties each year on unpaid tax, and apply a 25 per cent penalty on the highest balance of the undeclared financial accounts in the past eight years.

As many as 16,550 taxpayers availed this amnesty opportunity to avoid criminal prosecution. The very fact that the penal provisions, even under amnesty, are harsh, acts as a deterrent, and makes most taxpayers toe the line in future.

None of the past amnesty programmes in India had harsh penalties or steep tax rates unlike other countries, but the Indian Government was able to collect some much-needed revenue. Though the current scenario has enabled the Government to fix tax evaders with reliable data and with favourable clauses introduced in the Double Taxation Treaty with Switzerland etc., unless a strong political will is demonstrated, desired funds stashed overseas may not be easily brought back.

Setting aside the morality of the idea of allowing tax evaders to escape criminal prosecution, such offshore voluntary disclosure (with a high tax rate and penal provisions) will attempt to bring back illicit funds to put them to good use, rather than losing them altogether. With a slowing economy in the backdrop, much-awaited infrastructure projects need to have funds pumped in from the fiscal system.

An additional fact that might encourage such taxpayers is the current appreciation of the dollar, which might well offset the penal effect of the disclosures by bringing in more money on conversion.

(The author is a Coimbatore-based chartered accountant.)

Best tax preparation help for you

In the upcoming weeks, the World Wide Web will be flooded with articles relating to finding the right tax professional for your return preparation.

You will be hearing terms such as CPA, RTRP, EA, ERO – what not beside the tax professionals’ names in advertising. What do they all mean?

First and foremost, to prepare a tax return, a preparer needs a PTIN (Preparer Tax Identification Number). This is issued by the IRS to paid preparers so that they need not use the Social Security Numbers on the prepared returns.

As of now, for acquiring a PTIN, no training is needed. However, it is expected that by 2013, a pass in a specially designed minimum competency test will be mandatory for preparation of tax returns.

An RTRP (Registered Tax Return Preparer) will also be required to spend 15 hours annually in tax related continuous education measures. The new program will also include a mandatory background check on tax preparation applicants so as to dig out those with a criminal record. By 2013m, any tax preparation aspirant will need to pass the competency test and get through the background check to acquire the PTIN.

A CPA (Certified Public Accountant) will have an accounting degree. The accountant will have served under a CPA for a specified period and taken up extensive tests. The state issue the CPA certificate, and the requirements vary from state to state. They also need to meet annual continual assessment tests in all areas of accountancy including tax and audit.

A JD (Attorney) is a law school graduate, having passed the state bar exam for practicing law in that state.  They need to have continuing education in all areas of law including taxation.

A preparer, by working for the IRS or taking comprehensive tests in all areas relating to tax qualifies to be an EA (Enrolled Agent). Their continuing education requirement will specifically pertain to taxation for 3 years spread over 72 hours, and can practice in any state.

An ERO is an Electronic Return Originator who can electronically file tax returns. For taxpayers who have prepared their own return or for tax preparers who do not offer e-filing, this is applicable. In case the ERO is also a qualified CPA / RTRP / JD / EA, they can prepare the return too apart from filing it.

So, from the above listed specialists, whom do you need?

If you need to just e-file your return, all you need is the ERO.

If you are looking for a preparer, here are a few pointers to keep in mind:

Ø      Who is recommended? | Check on the IRS certification

Ø      Check out the fee charged | pre-determine how much you can spend

Ø      Ensure accessibility of preparer | what does the preparer have to say?

Ø      List down your other specific requirements

If you mark the 3^rd party designee box on the return, in case issues arise with the IRS, a general preparer can help you on accounting & audit issues. An EA, CPA or JD can represent you on any issue thrown up by the IRS.

These are the major tax preparation options available. Choose what suits you best, good luck with your taxes!

TDS relevance for foreign commissions

The question is if the commission payment to a non-resident is chargeable to income tax in India.

Gangesh Exports Ltd is engaged in the manufacture of precision sorting machinery for agricultural products. It sells machinery to various countries, especially developing countries, through agents in the respective countries.

These overseas agents are paid commission for effecting sales abroad. No TDS was deducted by Gangesh Exports on these commission payments, in view of the fact that the payments were made outside India, and the overseas agents are non-residents.

However, during the assessment proceedings, the Assessing officer held that the payment is not only commission for effecting sales, but also qualifies as related services rendered for sales, and hence it should have been subjected to TDS.

The Assessing officer's contention is that the said commission amount be disallowed as expenditure, and be added as income under Section 40 (a) (i) in view of non-deduction of tax on such commission payment.

Circular 23 is explicit that if an overseas agent operates in his own country, the entire commission received by him from an Indian exporter isn't liable to tax in India. However, recent withdrawal of Circular 23 provided a perception for some tax officials that such a situation would warrant withholding of tax on commission payments to overseas agents.

Though few Tribunal rulings are clear that no withholding tax is required on mere sales commission, the Revenue seems to prefer the verdict of the court in such an instance.

SECTION 195

For many of the exporters, especially of capital goods, payment of commission to overseas agents is inevitable, and the RBI has permitted payment of that without any prior approval.

The withholding provisions for foreign payments are governed by Section 195 of the Income Tax Act, which says that any person who makes payment to a non-resident has tax deduction obligations at specified rates, if the said payment is chargeable to income tax in India.

The next question that needs an answer is if the commission payment to a non-resident is chargeable to income tax in India. Taxable income of a non-resident includes all income, from whatever source derived, that is deemed to accrue or arise in India.

The income deemed to arise/accrue includes any income of any person who has business connections in India, as well as any fees received towards technical services. Also, if the overseas agent has any permanent establishment in India, it shall be included as income.

In the given situation, Gangesh exports has paid mere sales commission for effecting the sales, and there is no other activity involved in this transaction; hence, it doesn't necessitate deduction of TDS on sales commission.

PERMANENT ESTABLISHMENT

However, the situation would have been different had that overseas agent carried out additional functions, such as demonstration of the machinery, imparting initial training to the buyers team etc, in which case, it would be fees for technical services.

Such situations not only warrant the Indian exporter to withhold tax, but also to examine if the Indian exporter would be deemed to have a Permanent Establishment (PE) in the respective country. A reverse situation would depict the picture clearly, wherein a German exporter of machinery, having an agent in India, who not only sells machinery but also imparts training, would be construed as a PE in India.

The major test is if the source of income stems outside India or in India, which is determined by the nature of activities taken up by the agent, though actual payment is made outside India. Therefore, care needs to be exercised while deciding on TDS applicability and evaluating the nature of activities rendered by the overseas sales agent, though the nomenclature may be “agent”.

The current scale of industrialisation and globalisation across the globe makes it impossible for countries to remain independent of each other as far as complex international financial transactions are concerned. Tax law changes in any country influence its trade and policy decisions. Tax structures also determine inflow and outflow of investment and capital, and can inhibit or promote growth.

It is a recommended practice to get the views of your professional tax consultant whenever or wherever a question of such demarcation arises.