FBT - Employees based in India

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Mridulla Mittal

Mridulla Mittal (Querist)
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14 November 2007 What is trhe definition of employees based in India under FBT ?

CA. Dashrath Maheshwari

CA. Dashrath Maheshwari (Expert)
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14 November 2007 Who are `employees based in India'?

THE Central Board of Direct Taxes (CBDT) has clarified that a foreign company (FC) will be liable to pay fringe benefit tax (FBT) and comply with the required regulations only if it has employees based in India. However, the meaning of the term "employees based in India" has not been clarified. This could mean an employee who has been employed in India for a longer duration or has been deputed to here to a representative office (RO), branch office (BO) or a project office (PO). However, in case an FC appoints a person resident in India, such an FC can be said to have an employee based in India even if the person has been with the FC only for a short time.

The FC would be so liable even if its income earned from transactions with India is exempt from tax either under the tax treaty between India and the country/FC or under Indian income-tax (I-T) laws. The rationale being that the exemption under the tax treaty is only in respect of income of the company; whereas FBT is a distinct liability of the company qua employer.

Where a foreign company sends its employees on "tour" to India, it will not be liable to pay FBT in respect of such employees if it does not have any employee based in India. However, if such an FC has in India any office or permanent establishment (PE) having employees based in India, the expenses incurred on such visiting employees, whether in India or abroad, would also get taxed in India.

An FC not having any PE in India and doing business promotion through an event manager or an RO would not be liable to FBT if it does not have any employee based in India. Meaning thereby, non-existence of an employee in India can eliminate the FBT liability altogether for an FC.

An RO, a BO or a PO of an FC would be subject to FBT regulations only if such Indian office has employees based in India. The place of incurring of expenses — whether in India or outside — does not matter as far as those expenses relate to operations of such Indian office.

Now, will an FC having a PE in India and incurring expenditure outside India, which is claimed as deduction while computing the taxable income of such PE, be liable to FBT in respect of expenditure incurred outside the country? The CBDT has clarified that FBT is payable on prescribed expenditures (which are deemed as resulting in fringe benefits to employees) if those are attributable to operations of the PE in India irrespective of whether the expenses were incurred outside India. Interestingly, the CBDT has not considered existence of employee based in India, a key condition for levy of FBT on FCs. Assuming that an FC has a PE (including agency PE) but no employees based in India, as per the clarifications, the FC should not be liable to FBT. Unfortunately, there is no clarification in the circular on this point.

India, being a developing country, has been a purchaser of technical knowhow and services from foreign service-providers. Until now, the issue of tax withholding from payments by Indian companies to such foreign service-providers has been a cause of concern and was affecting the overall tax cost of the business arrangement. Now, FBT regulations have thrown up additional issues for such arrangements. The circular clarifies that where an FC deputes personnel for a short duration to India under technical services/supervision contracts, it will be liable to FBT in India in respect of prescribed expenditure incurred if: a) the remuneration of such personnel is liable to tax in India; or b) the FC has employees based in India other than those deputed for a short duration.

The circular further clarifies that an FC will be liable to pay FBT even if those expenses are reimbursed by the Indian company using the services. However, in case the expenses are directly borne by the Indian company then the FBT liability would fall on the Indian company. Thus, there may be scope for tax planning for an FC — asking the Indian company to directly bear the expenses on personnel rather than indirectly by way of reimbursement, being one. This will be tax advantageous both to the FC and the Indian company and will help redue the overall tax cost of the arrangement.

The two conditions clarified by the CBDT for triggering the FBT liability for an FC do not seem to be in line with the fundamental requirement of existence of employee based in India. Take the case of a Hong Kong company providing such technical services and deputing a person to India for, say, 100 days. As per Indian tax laws, such person will not be eligible for tax exemption as he had been in India for more than 90 days, a threshold provided in the I-T law for granting exemptions to expatriates on deputation for a short period. Though his remuneration would be taxable in India, he will not be regarded as "employee based in India" and, hence, the basic condition for levy of FBT would not be fulfilled. To that extent the circular does not seem correct.

The circular further clarifies that if an FC has employees based in India and the remuneration received by them is not taxable in India as per the "Dependent Personnel Services" article in the tax treaty, such FC will not be liable to FBT in India. Unfortunately, the circular is silent as to what would be the implications if the FC had a PE in India and if such expenses would have been allowable while computing the taxable income of the PE.

MNCs operating globally generally have cost sharing arrangement for the benefit of group companies. Under this, total cost is shared between the group companies on a scientific basis. In this context, the circular clarifies that each group entity will be liable to FBT on its share of expenses and the group company that initially incurs the expenditure will not be subject to FBT on the entire amount.

The circular has discussed only a "plain vanilla" situation. Whereas in practice, many MNCs have established group support companies overseas that provide various services to group entities either on cost or cost plus mark-up basis. In that case, the arrangement would partake the character of service contract as opposed to cost sharing. In that case, the support company could be subject to FBT as it would amount to reimbursement of expenses, either at cost or at cost plus mark-up. Albeit, one has to examine various aspects, such as existence of a PE of such support company in India, existence of employee based in India, and so on.

Credit for income-tax paid in the source country still poses problems for an FC in its residence countries. Tax credit depends mainly on: (i) provisions of tax treaty between the residence county and the source country; and (ii) domestic rules in residence country for foreign tax credit.

The circular clarifies that credit for FBT paid in India may be available in a foreign country of residence on the basis of the tax laws prevalent in that country and the tax treaty provisions between India and that country. The CBDT's suggestion of giving credit for FBT seems well-intentioned.

However, the tax treaties entered into with other countries provide for credit of income-tax. The meaning of the term "income-tax", as defined in the tax treaties, does not include FBT. There is no specific reference for FBT credit in the tax treaties — obviously there cannot, as FBT regulations have been introduced only since April. Hence, it will not be possible for an FC to claim credit for FBT paid in India in its home country. In fact, in many countries, such as the US and the UK, FBT is payable by the employee and not the employer FC. And even on that ground, credit for FBT is not available in the home country.

The CBDT is silent as regards granting credit to Indian companies in respect of FBT paid in overseas countries against Indian income-tax.

Further, the circular is silent on the issue of eligibility of credit for FBT paid in overseas jurisdiction (say, Australia and New Zealand) by an Indian company against FBT liability in India.

Amidst the legal wrangle and the issue of extraterritorial jurisdiction of FBT provisions, the CBDT has clarified that FBT regulations will apply to FCs in many cases.

However, the FC must have employees based in India. If an FC has no employee based in India, it will not be liable to pay FBT. Further, the FC will not be entitled to credit for FBT paid in India against its tax liability in the home country.

Effectively, FBT will result in additional tax cost for the FC in respect of its business arrangements with India. In that light, henceforth, FCs looking to India for business arrangements need to factor in FBT cost and structure such arrangements in a tax efficient manner.

Apart from the additional tax cost, FCs will also be required to fulfil compliance requirements such as payment of advance FBT, filing of return of FBT, audit of FBT return by Indian tax authorities (ITA), furnishing of information as required by ITA et al.

While the CBDT has clarified a number of aspects concerning applicability of FBT provisions to FCs, it needs to issue further clarifications especially with regard to the meaning of the term "employee based in India" and credit for FBT in overseas jurisdiction against income-tax or FBT.

As regards credit for FBT paid in overseas jurisdiction, Indian tax treaties need to be suitably amended by executing "protocol" to the tax treaties or amendingthem.