Withholding taxes, or TDS, is a government requirement enjoined on a payer of an income to withhold/deduct taxes from payments and pay the same to the treasury. The scheme of withholding tax is a robust mechanism for collection of taxes due from payees in their assessments in a speedy manner with minimal administrative cost.

This assumes higher significance in respect of payments to non-residents as the revenue authorities face practical challenges in collecting taxes from them. The celebrated Vodafone judgement, wherein litigation was initiated against the payer of the alleged income, is testimony to this challenge.

Triggered by experiential learning, the Union Government, through the Finance Act 2012, brought about radical changes with regard to withholding of taxes by expanding the scope of the same in relation to non-resident payers. With it also comes the arduous responsibility of various compliances – namely, obtaining Tax deduction Account Number (TAN), withholding and deposit of tax, and filing quarterly withholding tax returns. Owing to such onerous responsibilities, it is of utmost importance that care be taken to implement the TDS scheme, particularly in relation to non-resident payers, without compromising on tax collections.

Extra-territorial operation

According to the amendment, a non-resident would be liable to withholding taxes on all payments, even in absence of a residence or place of business, or business connection or any other presence in any manner in India. Although litigated in certain instances, general consensus has been that the taxation scheme in India does not have ‘extra-territorial’ operation and does not apply to non-resident payers, unless the transaction has nexus with India.

The Supreme Court in the case of GVK Industries has held that any laws enacted by Parliament with respect to extra-territorial aspects or causes that have no impact on or nexus with India would be ultra vires Parliament, and would be laws made “for” a foreign territory. One has to wait and see if the provision would withstand the test of constitutional validity in terms of the above referred principle postulated by the Apex Court.

To add to the complexity, the amendment has been brought in with a retroactive amendment dating back 50 years. The withholding-tax obligation arises at the time of payment or credit, whichever is earlier, and as such, the retroactive amendment of such machinery provisions seeks to perform the impossible.

Suitable clarifications in this regard will allay the fears ofpayers, who had not deducted taxes on the bona fide belief that a withholding requirement does not exist in the absence of a nexus with India. Further, the new requirement for payers to approach the revenue officers to seek dispensation on chargeability seems to dilute the settled position of law, that withholding in relation to non-residents is applicable only in relation to payments chargeable to tax in India.

TRC required

To accentuate the problem of facilitating provision of treaty benefits in terms of scope/rate in relation to payments to non-residents, the new law requires production of tax residency certificate (TRC) for availing tax treaty benefits. The law requires one to obtain TRC in a format to be prescribed by the Government. This may lead to difficulties and delays, as the foreign tax authorities may not be willing to provide a TRC in the format prescribed by the Government. To sum up, it is imperative to rationalise the withholding-tax provisions relating to non-residents, so that they are easy to implement, taxpayer-friendly, and facilitate tax collection.

(Pallavi Singhal is Associate Director, Tax and Regulatory Services , PwC India. With inputs from Vikash Dhariwal, Manager.)

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