Top five tax issues in India from a global perspective Interview
September, 08th 2007
Though not formalised in tax law, the limits on the quantum of permissible debt envisaged under foreign exchange guidelines act as an alternative mechanism to counter tax abuse to a certain extent.
MR WILBERT KANNEKENS, HEAD, KPMG GLOBAL INTERNATIONAL CORPORATE TAX, THE NETHERLANDS.
What are the top tax issues in India, from an international perspective? Transfer pricing, controlled foreign corporations (CFC), thin capitalisation, foreign tax credits, and limited liability partnerships (LLPs), says Mr Wilbert Kannekens of KPMG in the Netherlands.
Mr Kannekens, who holds a civil law and business law degree from the University of Rotterdam, European Fiscal Studies, and a tax and law degree from the University of Leiden, has over two decades of experience as a tax lawyer. A partner in KPMG since 1996, his area of focus is Dutch and international taxation of multinational companies, with emphasis on corporate tax.
He has worked on mergers and acquisitions, business transformation, finance and tax rulings; and his experience spans industries such as electronics, consumer goods, chemicals, oil and gas. A former president of the Executive Board Dutch As sociation of Academic Tax Advisors (2003-2006), representing over 4,000 tax professionals, he currently heads KPMGs Global International Corporate Tax Group.
Recently in Bangalore for a workshop on international tax issues, organised by his firm along with Confederation of Indian Industry, Mr Kannekens interacted with Business Line over email, to answer a few questions.< /p>
Excerpts from the interview:
First, on why transfer pricing tops your list, and what the Indian taxman has to do about it.
Globalisation of the Indian economy and increasing cross-border investment have lead to most large and mid-size business enterprises being subject to transfer pricing (TP) regulations in India.
I understand that the Indian tax authorities have concluded around three TP audits, leading to significant concerns for taxpayers. The tax authorities have typically been adopting aggressive stands, especially with respect to captive units in India.
Concern with respect to exposure under TP regulations in India has been growing considerably. To avoid the pitfalls that differing interpretations may cause, most developed countries have introduced an Advance Pricing Agreement (APA). Such a mechanism can mitigate disputes and uncertainty in relation to transactions between associated enterprises.
In my view, the introduction of APAs along with safe harbour provisions in India would certainly allow taxpayers to obtain the regulators nod vis--vis the proposed pricing of international transactions and would also mi tigate the risk of double taxation in certain circumstances. This would lead to a greater degree of comfort and reduce litigation to a considerable extent.
Is it time for CFC regulations?
I understand that India currently does not have full capital account convertibility and the quantum of outbound investment is still not comparable to the levels in relation to countries where there is a free foreign exchange regime. Increase in outbound investment has lead to companies wanting to optimise their tax position and group structure.
As countries increasingly ease their exchange control rules, some have enacted CFC regulations to prevent the use of low tax jurisdictions by their tax residents to defer the taxability of foreign income. Under the CFC regulations, the domestic law effectively extends the residence rules to tax foreign income.
Currently CFC regulations are not prevalent in India. However, I understand that India does propose to introduce CFC regulations as part of the new Direct Tax Code (later this year). In international tax law, CFC regulations are considerably difficult to understand and execute. Careful consideration is recommended before such regulations are brought in place. The cure eventually should not turn out to be worse than the problem.
On the need for thin capitalisation norms.
Apart from detailed CFC regulations, it appears that India also proposes to introduce thin capitalisation rules as part of the new tax code. A company is thinly capitalised when its capital is made up of a greater proportion of debt than equity which effectively implies that its gearing is too high. This typically is of interest to the revenue authorities, who are concerned with abuse by way of excessive interest deductions.
At present, India does not have specific thin capitalisation guidelines, as I understand that interest is typically tax deductible if it is incurred for the purposes of business. However, though not formalised in tax law per se, the limits on the quantum of permissible debt envisaged under foreign exchange guidelines act as an alternative mechanism to counter tax abuse to a certain extent.
In my view, it would be ideal if clear rules are brought in with respect to thin capitalisation norms that are understandable to both the taxpayer and tax authorities.
Why is foreign tax credit an issue of importance for tax policy?
Currently, Indian domestic tax legislation does not contain any guidelines with respect to foreign tax credits with tax treaty countries.
This typically could, inter alia, lead to instances of double taxation of a particular stream of income and denial/reduction of foreign tax credit as well.
With Indian companies increasingly going global, clear legislation as part of the domestic tax law would be required which could potentially address, among others, the following aspects:
Credit of taxes not covered by a tax
Varying audit periods.
Varying basis of audits.
Conflict in determining source of income.
Change in characterisation of income.
Claim of an appropriate tax credit on a worldwide basis.
Obviously, the absence of clarity on foreign tax credits does not contribute to successful outbound investment of Indian companies.
Do you think LLPs will be a popular idea in India?
Yes. LLPs could operate as an effective business vehicle into India as they combine the organisational flexibility and tax status of a partnership, with limited liability for partners.
The unlimited liability for partners is one of the principle causes for concern in the partnership form of business organisation in the light of the incidence of litigation for professional negligence, the size of claims, and the risk to a partners personal assets.
Lately, India introduced an LLP Bill to overcome the primary concerns of the partnership form of business organisation in India.
This proposed legislation, if formalised, would serve in attracting substantial foreign investment into India especially in the infrastructure sector and would also allow the much-needed flexibility with entity structures in India.