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Hike in royalty tax to level tax anomalies
March, 05th 2013

None of the frontline listed stocks, which pay royalties to their parent companies, are likely to be affected, though the finance minister has hiked the tax on royalty payouts to 25 per cent from the existing 10 per cent. Reason: Most listed companies paying royalty to their respective parents are governed by double taxation avoidance agreements (DTAAs) signed between their country of residence and India. The move will impact largely those companies where the parent or the beneficiary of the royalty receipt is located in a country without a tax treaty with India.

So, Maruti will not have to pay anything extra, since India has a DTAA with Japan and the rate under this agreement would be capped at 10 or 15 per cent. Some other frontline companies that will not be affected by this move are Nestle, ACC, Ambuja and Hindustan Unilever. Vinay Khattar, head of research at Edelweiss Wealth Advisory and Investment Services, says the move will have no impact on any frontline stocks other than Cummins, which will see a marginal impact.

Clearly, most countries have a tax treaty with India and, therefore, large multinationals operating in India will not see any impact. Punit Shah, co-head of tax at KMPG India says: "The purpose of the hike in royalty tax is not to burden foreign companies operating in India but to set right an anomaly of the past. Under local laws, royalty payments attracted a tax of 10 per cent, which was lower than the tax rate under most DTAAs. The tax paid on royalty under most DTAAs has been higher than the 10 per cent rate levied under local laws." So, companies making royalty payouts to countries which did not have a tax treaty with India stood to gain, as those which had an agreement were paying higher.

India currently does not have a tax treaty with countries such as Hong Kong, Cayman Islands, Isle of Man and several other tax havens. After this, these countries would be forced to enter into tax treaties with India, failing which companies headquartered in these countries will have to pay higher taxes, experts believe. Also, even if there is a DTAA, companies will have to produce a tax residency certificate and also prove beneficial ownership, explains Shah. This has been done to deter payouts to companies based in tax havens acting as "fronts". Now, for any kind of royalty payment, proof of "beneficial owner" will be important.

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