By Dafydd Williams, Senior Director, Advisory Services
India is a notoriously difficult country in which to do business. Corporate leaders from around the world frequently lament the “burdensome” and “complicated” nature of establishing
Despite these frustrations, companies ignore India at their peril. It’s growing fast and is the world’s second most populous nation and the ninth-largest economy. This is why Walmart India CEO Krish Iyer said that despite the myriad headaches associated with doing business in India, “it’s a market no foreign investor . . . can really ignore.” As The New York Times reported in May, prominent global investors are looking to capitalize on India’s growing middle class and see some parallels between the India of today and the China of ten years ago.
[Doing Business in India? Recent Regulatory Changes] Given India’s enormous economic potential — and the continued interest in a previous Radius blog post on the country’s regulatory changes — we wanted to highlight some recent developments that companies operating in India should be aware of. These changes — some of which are already in place and some of which will come into effect soon — include the introduction of the new Companies Act 2013, which mandates a host of requirements for Indian companies or Indian subsidiaries of foreign companies. There are also important changes to corporate withholding tax and an increase in the Service Tax Rate.
Perhaps the most significant provision of the Companies Act 2013 imposes uniformity of financial years. The Act requires all companies to adopt a financial year beginning on 1 April and ending on 31 March. (Under certain circumstances, a company may apply for special dispensation from the requirement, provided it is a subsidiary of a non-Indian company and must maintain a different financial year to consolidate its financial statements with that of its parent.) In order to comply with this provision of the Act, companies that do not currently use the April to March financial year must pass a resolution to change to that timeframe. Given the entrenched nature of Indian bureaucracy, this process (including the formal notification to the Registrar) is likely to take months to complete. Affected companies should therefore begin the process soon.
The new requirement is likely to have significant short- and long-term impacts on companies that do not now follow the 1 April to 31 March financial year. First and foremost, these companies will have to shift their financial year to the required period, a potentially significant burden on finance, tax and other internal functions. In addition, the change to the financial year can affect reported financial outcomes both internally for subsidiaries within non-Indian companies that maintain a non-conforming financial year (i.e., the local subsidiary’s financial year is no longer aligned with the parent) and externally. That is, some companies in cyclical businesses will no longer be able to report the outcome of an entire business cycle (e.g., production and sale of a crop) within a single financial year.
Companies can request a dispensation from the 31 March requirement and maintain the alternative reporting period. Approval is not guaranteed, however, and the dispensation process will require more time to complete than the process to comply with the 31 March requirement.
In addition to the financial year mandate, the Act contains a number of other notable provisions, among them a requirement for many large public companies to have at least one female on the Board of Directors. The Act also prohibits companies from extending loans or guarantees to their directors or directors’ families.
Other recent developments include positive changes to the corporate withholding tax charged to non-resident companies that provide services to local Indian companies. In the past, tax authorities had been charging withholding rates significantly higher than those provided for under treaties adopted between the contracting companies' countries. Recent litigation by the Serum Institute of India Limited has resulted in a positive decision by the Pune Income Tax Appellate Tribunal. The Tribunal held that the treaty rate, rather than the often-higher rate of the Indian tax law, was to be applied. The decision is an important affirmation of the preemptive authority of treaties over local tax laws and should reduce the tax burden of many non-resident companies. While this may set a precedent under case law, the practical application will come down to the local tax offices, so do not expect withholding tax rates to come down overnight or even following an application to the tax office.
Another, albeit less welcome, change is a recent increase in the Service Tax Rate, rising by 1.64% to 14% applied to nearly all services. A potential further increase of up to 2% will, according to Revenue Secretary Shaktikanta Das, be levied “only if there is need of funds for the Prime Minister’s national cleanliness drive.”
So the recent regulatory changes in India are something of a mixed bag. On balance, though, they are positive, particularly the changes to corporate withholding tax. This positive trend is good news, both for existing companies in India and for foreign businesses considering establishing operations in this hugely promising market with its growing affluent middle class. There’s little doubt that this promise, combined with ongoing regulatory improvements, will prompt more and more multinationals to get off the sidelines and into the game. But just remember: This is India, and change, like everything, takes time!