Taxation

This chapter deals with Tax liability and what are the different types of taxes, benefits and exemptions applicable to the enterprise and the type of business. Tax calculation and the various regulations, tax rates, etc is presented in this chapter.

1. When does the liability to pay income tax arise in India?
2. How is residence determined for the purposes of Income Tax in India?
3. What is the corporate tax rate?
4. What is Minimum Alternate Tax (MAT)?
5. What is the rate of tax applicable to other persons?
6. How are profits and gains from business and profession taxed?
7. How is the tax liability of an individual determined?
8. Is tax payable on capital gains?
9. Is there any tax payable on the distribution of dividend?
10. What is Fringe Benefit Tax?
11. What are the various commercial taxes payable by an establishment?
12. Are there any other taxes/levies payable in India?
13. What is the nature of the proposed Goods & Services Tax?
14. Is there any withholding tax on payments?
15. What is Advance Tax?
16. What are the tax benefits available to charitable organizations under the Income Tax Act?
17. Can an entity undertake business activity and continue to enjoy the benefits available to charitable organizations?
18. What are the other restrictions on Charitable Institutions under the IT Act?
19. What are the tax benefits available to mutual associations?
20. What is the tax treatment with respect to a Private Trust?
21. What is the tax relief available to cooperative societie
22. What are the benefits of a Partnership firm?
23. What are the factors that are to be kept in mind to minimize tax liability?

1. When does the liability to pay income tax arise in India?

The determination of taxable income depends on two primary factors, which are:

• Residential status
• The source of income

Residents of India are taxed on their worldwide income, regardless of the source. An ordinarily resident is taxed on his/her entire income excluding the income, which accrues or arises outside India. Income derived from a business based in India or a profession set up in India however, shall be taxed even if the income accrues or arises to him/ her outside India. A non-resident Indian on the other hand, is taxed only on the income received or is deemed to be received in India.

2. How is residence determined for the purposes of Income Tax in India?

An individual is treated as a resident, if he/she is a resident in India for a period of 182 days or more or a period of 60 days or more in that year and at least 365 days in the preceding four years.
A company, on the other hand, is said to be a resident of India when it is an Indian company or if during that year, the control and management of its affairs has happened wholly in India.
Except for an individual and a company, every other person covered under the IT Act is said to be a resident of India in every case except for the year where the control and management of his/her affairs is situated wholly outside India.

3. What is the corporate tax rate?

For the financial year of 2012-13, it has been proposed under the Finance Bill 2012 that companies residing in India are taxed ,at the rate of 32.445% (30% basic rate  plus surcharge of 5% plus education cess of 3%). Non-resident companies, on the other hand, are taxed at a rate of 42.024% (40% plus surcharge of 2.5% and education cess of 3%).

4. What is Minimum Alternate Tax (MAT)?

This was introduced for companies, which are showing book profits and declaring dividends to the shareholders, but are not paying any income tax. Thus, if the companys taxable profit is less than 10 per cent of its book profit, then it shall be subject to a MAT at the rate of 18 per cent. In addition to this, Education cess and surcharge shall also be payable.

5. What is the rate of tax applicable to other persons?

• a. Co-operative Societies: The following tax rate was applicable for the financial year 2012-13 as proposed under Finance Bill ,2012:
• Up to Rs. 10,000: 10 per cent
• Rs. 10,000 to Rs. 20,000: Rs. 1,000 + 20 per cent X (Total Income Rs. 10,000)
• above Rs. 20,000: Rs. 3,000 + 30 per cent X (Total Income Rs.20,000)

The cooperative societies are to pay an education cess of 3 per cent on the tax payable. However, they are not required to pay any surcharge.

• b. Partnership Firm: For the financial year 2012-13, it has been proposed under Finance Bill 2012 that partnership firms are taxed at a flat rate of 30 per cent on the total income of the firm. Partnership firms are not required to pay surcharge, but the education cess of 3% is payable.
• c. Individuals/Hindu undivided family/Association of Persons/Body of Individuals/ Other artificial juridical person (as proposed under Finance Bill, 2012 for Financial year 2012-13):

6. How are profits and gains from business and profession taxed?

Tax is charged on the profits and gains of the business and not on the gross receipts. The term profit is to be understood in its natural and proper commercial sense. However, for the profit to be taxed, the profit motive is not essential. Therefore, even cooperative societies and other non-profit organizations can be taxed for the gains from their business activity. Under the Act, there are certain express allowances and deductions that are permitted. However, besides the general ones, deductions that can be claimed from the profits are revenue expenses (not being personal expenses) incurred wholly and exclusively for the purposes of the business.

7. How is the tax liability of an individual determined?

An individual may be taxed under the following heads:

• a. Firstly, an individual may be taxed on salaries under which tax is payable on every kind of remuneration of an employee. Salary is defined in the widest terms to include wages, annuity, pension, gratuity, advance of salary, perquisites, profits etc.
• b. Furthermore, if an individual owns a house property, he/ she may also be assessable for income from house property.
• c. Income from self-employment or business/profession shall also be taxable as profit and gains from business or profession.
• d. An individual shall also be liable to pay tax on any profits or gains arising from the transfer of capital assets under the head of capital gains.
• e. Any other in come of an individual not covered under any of the above heads will also be taxable.

8. Is tax payable on capital gains?

Yes, tax is payable on capital gains. Any profit or gains arising from the transfer of a capital asset shall be chargeable to income tax. The amount of capital gain is arrived at by deducting the cost of acquisition and the cost of improvement of the capital asset and any other expenses incurred in wholly and exclusively in connection with the transfer from the full value of consideration for which the transfer is made.
Further, depending on the period for which the asset is held, the gains shall be treated as long term and short term capital gains.

• If a capital asset (not being securities) is held for more than 36 months,
• If Securities is held for more than 12 months, the gains from the transfer of that asset shall be treated as long term capital gain.

If however, the capital asset is held for less than the aforementioned period, it shall be treated as short term capital gain. Tax incidence is higher in the case of short term capital gains as compared to long term capital gains.

9. Is there any tax payable on the distribution of dividend?

Yes. Dividend Distribution Tax (DDT) is payable by companies based on the dividend paid to its shareholders. The dividend in the hands of the investor however, is tax-free. The rate of DDT for the financial year 2012-13 as proposed under Finance Bill, 2012, is 15 per cent plus surcharge at 1.5 per cent plus 3 per cent education cess on tax payable.
An Indian holding company, which is not itself a subsidiary of any other company shall be entitled to DDT credit whilst declaring dividend, to the extent DDT is already paid by its Indian subsidiary on dividend paid to such holding company. However vide Finance Bill 2012, the condition of Domestic Company not being a subsidiary of another Company has been withdrawn. Therefore, Dividends received by a Company, on which DDT is already paid can be passed on even in a multi-tier corporate structure.

10. What is Fringe Benefit Tax?

Fringe Benefit Tax is payable by an employer on the value of fringe benefits provided or deemed to be provided to the employees. Fringe Benefits are defined as any privilege, service, facility or amenity, directly or indirectly provided by an employer to his employees (including former employees) by reason of their employment and include expenses or payments on certain specified heads. However it is pertinent to note here that the Finance Act 2009, has abolished the Fringe Benefit Tax and as a consequence of abolishing Fringe Benefit Tax, employee benefits such as, ESOPs which were being taxed under the Fringe Benefit Tax regime, will now be taxed as perquisite in the hands of employees in accordance with notified valuation rules.

11. What are the various commercial taxes payable by an establishment?

An entity may also be subject to indirect taxes levied by the State/ Central Government. The main indirect taxes applicable are:

• a. Customsduty is imposed on the import and export of goods from India. The rate at which custom duty is levied depends on the classification of the goods under the Customs Tariff (which is aligned with the HSN (Harmonised System of Nomenclature) provided by the World Customs Organisation). The median rate of custom duty on import of most non agricultural product is apprx 28 per cent.
• b. Exciseduty payable on the manufacturing of goods. Most goods are charged to excise duty at the rate of 12.36 per cent (inclusive of the education cess).
• c. Servicetax payable on certain identified taxable services provided in India by the service providers. The service recipient is charged at an effective rate of 12.36 per cent (including education cess). Export of taxable services from India is exempt. However, service is payable on taxable services provided from outside India and received in India by the service recipient under the reverse charge mechanism. Vide the Finance Bill 2012, the scheme for taxing services is proposed to be changed to tax all services  specified in the negative list or otherwise exempted. Further, the Place of Supply Rules are proposed to be introduced for determining when services would be taxed;
• d. Salestax (central sales tax / value added tax) payable on the sale of movable goods at rates which is dependent on the nature of transaction and sites of sale;
• e. Entry tax/octroi may also be levied by the State Government and municipal authorities for the entry or transport of goods through concerned territorial jurisdiction.

12. Are there any other taxes/levies payable in India?

Wealth Tax is levied  on specified assets at the rate of 1 per cent of the value of the assets held by the assessee, which is in excess of basic exemption of Rs. 30, 00,000 (Rupees thirty thousand only). Further, Securities Transaction Tax is payable on transactions completed on the stock exchanges (which is 0.125 per cent (proposed to be revised to 0.1% vide Finance Bill 2012) of the transaction value).

13. What is the nature of the proposed Goods & Services Tax?

A comprehensive dual model of Goods & Services Tax has been proposed under which tax is to be levied on the state of goods and services based on multi-stage consumption. That is to say, it is essentially a tax only on value addition at each stage. A supplier at each stage is permitted to set-off, through a tax credit mechanism, the GST paid on the purchase of goods and services, on the GST to be paid on the supply of goods and services. There shall however, be a demarcation between Central and State level GST. A multiple rate for goods and a uniform rate for services have been proposed.

14. Is there any withholding tax on payments?

Tax is withheld on variety of payments at different rates, depending on the status of the recipient and the nature of payments like royalties, capital gains, fee for technical services etc. The rates may vary from 2 per cent to 40 per cent (excluding surcharge and educational cess) and may be subject to availability of Double Taxation Avoidance Agreement (DTAA) benefits.

15. What is Advance Tax?

Through this scheme, the tax is paid in the year of earning of income itself, simultaneous to the earning of the income. Tax is paid in advance when the liability of advance tax is Rs. 5,000/- or more. This scheme is applicable to all types of persons irrespective of their residential status. The tax on estimated income is computed and paid by the assessee at different due dates.

16. What are the tax benefits available to charitable organizations under the Income Tax Act?

Under the IT Act, income from property held under trust or other legal obligation for charitable or religious purposes is exempted and, is thus, not included in the total income of the charitable institution. Further, any voluntary contributions received with the specific direction that they shall form part of the corpus of the trust or institution is also exempted. However, to benefit from these exemptions, the charitable trust/institution must obtain a registration under Section 12A of the IT Act. These benefits are available to societies and companies under section 25 of the Companies Act as well.

17. Can an entity undertake business activity and continue to enjoy the benefits available to charitable organizations?

Where the dominant objective of the charitable institution is the relief of the poor, provide education or medical relief and where the business or service activity is an incidental or ancillary objective undertaken to further the dominant objective, of the institution and separate accounts are maintained for the said business, it will fall within the definition of charitable purpose. However, where the charitable institution has been created for the advancement of any other objective of general public utility, while the business or service activity should be ancillary or incidental, additionally, the aggregate receipt from these business activities should be Rs. 25 lakhs or less. It is pertinent to note here that Finance Bill 2012 , has proposed  w.e.f 1st April 2009, that in case aggregate receipt from business activity exceeds Rs. 25 Lacs, the trust or institution will lose exemption from tax and the denial of exemption shall be mandatory by operation of law and would not be dependent upon on any withdrawal of approval or cancellation of registration or a notification being rescinded.

18. What are the other restrictions on Charitable Institutions under the IT Act?

While charitable institutions have been granted certain exemptions, there are several restrictions and conditions that must be complied with. Firstly, the objectives of the institution should fall strictly within the definition of charitable purpose under the IT Act. Secondly, income from the property held by the trust/institution shall be exempted, only if 85 per cent of such income was applied for charitable/religious purposes. Another condition to be fulfilled is registration under Section 12A of the IT Act.
Moreover, the charitable institution cannot accumulate more than 15 per cent of the aggregate of the income from the trust property and voluntary donations. A written notice must be given to the assessing officer to secure an exemption for any amount accumulated in ,excess of this limit. Furthermore, there are restrictions on the period for which it may be accumulated, the manner in which the accumulated funds may be invested and the ends for which the money accumulated may be used.

19. What are the tax benefits available to mutual associations?

The principle of mutuality is applicable to a situation where the income of the mutual concern is the contributions received from its members and the expenses incurred by the mutual concerns are incurred from such contributions. Moreover, the activities of these entities are not tinged with commercial purpose. Under this principle, the excess of income over expenditure is not taxable. This principle is available even for companies, partnerships, cooperative societies and charitable organizations.

20. What is the tax treatment with respect to a Private Trust?

The income is assessable in the hands of the beneficiary when it becomes due to the beneficiary. And the beneficiary is taxed only to the extent of his entitlement and not the entire income from the trust property. Thus, through a trust the tax liability can be divided amongst several persons in a manner to reduce the overall tax paid. However, where the beneficiary is a minor, spouse or sons wife, and the benefit is conferred through a trust, the transferor will be liable to pay tax.

21. What is the tax relief available to cooperative societies?

Under the IT Act, there are several concessions available to cooperative societies depending upon the nature of the business or activity in which they are engaged. Furthermore, if the cooperative society works on the principle of mutual associations it can obtain complete immunity from taxation.

22. What are the benefits of a Partnership firm?

The profit and gains of a partnership are taxed at a flat rate much like a company. Further, deduction can be claimed with respect to the interest and remuneration paid to the partners within the prescribed conditions and limits. Also, the share of profits distributed to a partner is exempted from taxes in the hands of the partner.
One of the major benefits of a partnership firm is that the overall liability with respect to stamp duty payable on the transfer of property between the firm and its partners can be reduced significantly. For instance, where the incoming partner contributes immovable property as his share of capital, or where the partner in settlement of his accounts with the firm on his retirement or on dissolution takes away immovable property, it does not amount to conveyance or sale. Therefore, stamp duty payable is only as much as on a partnership deed. Moreover, a partners interest or right to the firms assets is an actionable claim or a movable property. Therefore, there can be a transfer of interest without a registered deed.

23. What are the factors that are to be kept in mind to minimize tax liability?

It is evident that the tax liability is different for each form of business. While individuals and Joint families are assessed at slab system, a company is assessed at a flat rate with minimum exemption. In a firm on the other hand, a part of the income attributable to interest and salary to a partner is taxed at normal rates for the partner while, the remaining income is taxed at a flat rate as applicable to companies in the hands of the firm. Co-operative societies are either totally or partially exempted depending upon the classification. Public trusts may also be taxable for their business income. However, it is difficult to conclusively settle on one of these various forms of business as the best suited for reduction of tax liability. The choice between these different forms shall depend on several factors such as the nature of activity to be undertaken, the choice of business and the available exemptions, the location of the industry, the size of the business, the anticipated income, the beneficiaries, the heads of income applicable etc.