Indian tax system for Canadian companies
In India, both domestic and foreign corporations are required to pay corporate taxes as per the Income-tax Act, 1961. To determine the corporate tax, corporations are classified as either domestic or foreign.
Domestic corporations are duly registered under the Indian Companies Act, operating their business and management exclusively within the territorial bounds of India. Conversely, foreign corporations are entities not registered under the Indian Companies Act, with their base and management situated outside India.
Foreign corporations are liable for corporate taxes within India solely on income generated within the country. On the other hand, domestic corporations are subject to taxation on their global income.
Corporate residence
A company is regarded as a resident of India in any given fiscal year if:
- It is an Indian company, or
- Its place of effective management in that year is in India.
Place of Effective Management (PoEM)
Currently, a foreign company is deemed an Indian resident if it's managed entirely within India. To tax foreign companies operating from within India but incorporated elsewhere, the PoEM Principle is introduced. It emphasizes actual management substance over formal structure. PoEM refers to where crucial operational decisions are truly made. Indian Revenue Department guidelines use it to classify companies in active business outside India, and others, for PoEM determination. Yet, the PoEM rule doesn't apply to foreign companies with a turnover or gross receipts under INR 500 million in a tax year. If a foreign company's PoEM is in India for a year, it's treated as an Indian resident for tax purposes that year. This residency assessment via PoEM happens annually.
Modes of establishing presence in India
Foreign companies have long been drawn to India's swiftly expanding market. However, the complexity of registration often deters them due to paperwork. Yet, the Indian government has notably improved the business environment with streamlined processes like online single-window clearances.
Presently, foreign entities can establish themselves in India through two main avenues: as a foreign company or as a wholly Indian entity.
For the foreign company route, three options exist: setting up a liaison office, a branch office, or a project office.
Alternatively, if a foreign entity aims to operate purely as an Indian entity, it can do so by either forming a wholly owned subsidiary (WOS) or a limited liability partnership (LLP).
| Criteria | Wholly Owned Subsidiary (WOS) (Company) | Limited Liability Partnership (LLP) | Branch Office (BO) | Liaison Office (LO) |
|---|---|---|---|---|
| Constitution | Form of business which is a separate legal entity. Registered under Companies Act 2013. Legal proceedings are carried out against the Company and not against its shareholders or directors. | LLP is a form of business model which is organized and operates based on an agreement. Registered under LLP Act 2008. Legal proceedings are carried out against the LLP firm and not against the partners personally. | An extension of the Head Office with right to accrue income in India. It is a simple form of structure. No separate legal standing of its own. | An extension of the Head Office which cannot undertake any revenue generating activity in India. It is a simple form of structure. It also lacks a separate legal standing of its own. |
| Permitted activities | Any activities as stipulated in the "Object Clause" of the Memorandum of Association of the Indian Company subject to Indian laws and regulations | An LLP can undertake activities as defined in the LLP Agreement. However, such activities shall be permitted as per Foreign Direct Investment (FDI) Policy, in case FDI is intended to be received. FDI policy has certain restrictions when it comes to foreign investment in LLP. | BO is permitted to undertake most of the activities that its parent company undertakes, except retailing and manufacturing activities. | Following activities may be undertaken by the LO:
|
| Financing | A company may maintain itself through the sale of its shares, debentures, loans (including loans raised from overseas, subject to RBI guidelines) from banks, financial institutions, equity partners, income generated by the company or any other permitted mode. | An LLP may maintain itself through partner's capital, Loan from banks, financial institutions, partner's income, income generated by the LLP or any other permitted mode. | The entire expense for the maintenance of the BO in India must be met either out of the funds received by it from abroad through normal banking channels or through income generated by the BO in India. | The expenses of the LO in India are met through funds received from Head Office via normal banking channels. The LO does not generate income and is prohibited from borrowing or lending money in India without prior permission from the RBI. |
| Manufacturing | A company can undertake any or all activities as mentioned in the Memorandum of Association (MOA) of the company as its main objects. Main objects may include manufacturing activities as well. | Allowed as per the LLP Agreement. | Branch offices can undertake only trading activities and are not permitted to carry out manufacturing/processing activities, directly or indirectly. | A Liaison Office is restricted to performing liaison activities. It cannot undertake manufacturing activities. |
Canadian enterprises face taxation
Canadian enterprises face taxation on their business income derived from India at a rate of 40% (along with relevant surcharges and cess) on a net basis, provided that the Canadian enterprise conducts its business activities in India through a fixed base or a permanent establishment (PE). This is applicable under the condition that a tax treaty exists between India and the country of residence of the foreign entity, specifically Canada.
Tax rates for Wholly Owned Subsidiary (WOS) (Company)
WOS companies typically face taxation at around 34%, which includes surcharge and cess (if the net income exceeds INR 4 billion). However, for WOS companies with a total turnover that doesn't surpass INR 4 billion, the applicable tax rate has been lowered to 25% (resulting in an effective maximum rate of 29.12% with surcharge and cess). This adjustment aims to encourage medium and small enterprises to transition to company structures and to create a more feasible taxation framework for them.
Under the 2019 amendment, WOS companies have the option to be taxed at an effective rate of 25.17% (including surcharge and cess) under section 115BAA of the Income-tax Act. To avail this option, companies must meet certain conditions, such as not claiming certain deductions and exemptions under the Act and not being allowed to set off current or carry forward losses or depreciation attributable to these deductions. Companies can claim depreciation as prescribed under the Act but cannot claim additional depreciation under section 32(1)(iia).
| Section | Conditions | Tax rates (%) |
|---|---|---|
| Section 115BA |
| 25 |
| Section 115BAA | If the Company does not claim specified exemptions, deductions, or incentives | 22 |
| Section 115BAB |
| 15%: Income from manufacturing and short-term capital gain from the depreciable asset. 22%: Income from non-manufacturing activities and short-term capital gain from non-depreciable assets. |
| First Schedule to Finance Act 2010 | Turnover or gross receipt of the company is less than INR 4 billion in the previous year | 25 |
| First Schedule to Finance Act 2010 | Other domestic company | 30 |
| Total income | Surcharge rate (%) |
|---|---|
| If total income of a foreign company is more than INR 10 million | 2 |
| If total income of a foreign company is more than INR 100 million | 5 |
| If total income of a domestic company is more than INR 10 million | 7 |
| If total income of a domestic company is more than INR 100 million | 12 |
| If domestic company opted section 115BAA and 115BAB | 10 |
Health and education cess
The amount of income tax and the applicable surcharge shall be further increased by health and education cess calculated at the rate of 4% of such income tax and surcharge.
Tax rates for Limited Liability Partnership (LLP)
A partnership firm, LLP, or a local authority must pay income tax at 30%Footnote * of average taxable Income.
Tax rates for Branch Office (BO)
A PO (Project Office) or BO (Branch Office) is treated as an Indian PE of its foreign headquarter. Therefore, it is taxable in respect of its Indian profits at a rate of 40%.Footnote *
Tax rates for Liaison Office (LO)
A LO is generally not subject to income tax in India, as it cannot conduct business activities and earn profits on account of Indian exchange control regulations.
Withholding taxes (WHT)
Canadian enterprises are also subject to Indian withholding taxes at applicable rates for the following income streams:
- Royalties
- Fee for technical/Included services
- Interest
- Capital gains, etc.
| Nature of payment | WHT rate (%) |
|---|---|
| Interest on foreign currency (subject to conditions) | 5 |
| Interest on money borrowed in foreign currency under a loan agreement or by way of long-term infrastructure bonds (or rupee denominated bonds) | 5 |
| Interest on investment in long-term infrastructure bonds issued by Indian company (rupee denominated bonds or government security) | 5 |
| Interest payable on long-term bonds listed in an International Financial Services Center (IFSC) | 4 |
| Non-specified type of interest | 20 |
| Royalty and technical fees | 20 |
| Dividend income | 20 |
| Dividend income from a company located in an IFSC | 10 |
| Long Term Capital Gains (LTCG) other than equity shares of a company or units of equity-oriented fund/business trust | 20 |
| LTCG on equity shares of a company or units of equity-oriented fund/business trust | 10 |
| Income by way of winning from horse races | 30 |
| Other income | 40 |
Minimum Alternate Tax (MAT)
According to Section 115JB of the Minimum Alternate Tax Act, all companies, whether domestic or foreign, are obligated to pay MAT. This measure was implemented to prevent any taxpayer with a substantial economic income from evading a significant tax liability through exclusions, deductions, and credits.
MAT is exclusively applicable to companies and does not extend to individuals, HUFs, partnership firms, and similar entities. MAT provisions do not extend to foreign companies without a PE in India.
Further, the Finance Act of 2018 stipulates that MAT provisions shall not be applicable to foreign companies if their total income solely arises from shipping business, mineral oil exploration, aircraft operations, civil construction in turnkey projects, and related income, subject to specific provisions under the Act.
Under the MAT concept, a company's tax liability is the higher of two values:
- The company's tax liability is calculated according to the normal provisions of the Income-tax Act, i.e., tax is computed based on the company's taxable income using the applicable tax rate. This is termed as the normal tax liability.
- Tax is computed at a rate of 15% (plus surcharge and cess, where applicable) on book profit.
Disclaimer
The Canadian Trade Commissioner Service in India recommends that readers seek professional advice regarding their particular circumstances. This publication should not be relied on as a substitute for such professional advice. The Government of Canada does not guarantee the accuracy of any of the information contained on this page. Readers should independently verify the accuracy and reliability of the information.
Content on this page is provided by Dezan Shira & Associates a pan-Asia, multi-disciplinary professional services firm, providing legal, tax, and operational advisory to international corporate investors.
