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OVERVIEW OF THE INDIAN TAXATION SYSTEM

India has a federal level tax structure governed by the provisions of the
Income Tax Act, 1961. It has an extensive set-up of agreements with over 90
countries across the world to prevent double taxation of income. As a result
of economic reforms, the taxation system has undergone tremendous
changes in the past ten years. The tax rates have been rationalized and
compared favorably with many other countries. Further, over the period of
time, the tax laws have also been simplified to ensure better compliances.
The brief review of Indian taxation system is given below:
Scope of Income
A resident in India is liable to tax on its worldwide income irrespective
of the source of income
A non-resident in India is liable to tax on income received or deemed to
be received in India or any income accruing or arising or deemed to be
accruing or arising in India.
Scheme of taxation
Taxation of a person depends upon its legal status (a person being an
individual, firm, company, etc.) and residential status.
Indian tax system recognizes an entity level taxation.
I. Direct Tax
Corporate income-tax
For Indian income tax purposes, a corporation income comprises income
from business or property, capital gains realized on any disposition of
corporations capital assets and residual income arising from non-business
Income.
Corporate tax Rates applicable for the financial year 2009-2010 are
as follows:

(The tax rate is enhanced by surcharge & education cess as may be


applicable to the tax payer.)

MAT
Minimum alternate tax or MAT is a tax levied on firms/ companies those are
making abundant profits as well as distributing dividend to its shareholders
who leveraging on the features of the Indian taxation system do not
contribute towards the government's taxation kitty. As corporates with their
excellent tax planning and capitalizing on the available deductions,
exemptions and incentives under the Income tax law tend to contribute
insignificantly towards the governments tax kitty. MAT was introduced for the
first time in the 1988. It was felt that due to various concessions provided in
Tax Laws big corporate groups become zero tax companies. Therefore, to
counter this, as system of MAT was introduced. Thus, for such corporates a
minimal tax amounting to some fixed % of book profits i.e. profits according
to accounting records is charged as minimal alternative tax (MAT).
This provision specifically states that Tax payable for any assessment year by
any corporate entity cannot be less than a certain percentage (mat rate) of
the Book Profit. In other words if the Income Tax payable by a company on its
total income as computed under the Income Tax Act is less than a certain
percentage (mat rate) of the book profits, then such book profit shall be
deemed total income of the entity with tax payable on rate specified under
income tax act .A company may also be required to pay tax even during tax
holiday period.
DDT
Dividend distribution tax is the tax levied by the Indian Government on
companies according to the dividend paid to a company's investors. DDT is
levied at the rate of 16.995 percent on the amount of dividend declared,
distributed or paid by an Indian company. DDT is payable in addition to
regular corporate income tax.
FBT
The taxation of perquisites or fringe benefits (mostly non cash benefits)
provided by an employer to his employees, in addition to the cash salary or
wages paid is fringe benefit tax. Any benefits or perks that employees
(current or past) get as a result of their employment are to be taxed, but in
this case its in the hands of the employer.
This includes

Employer's expenses on entertainment, travel, employee welfare and


accommodation..

Employer's provision of employee transportation to work or a


cash allowances for this purpose.

Employer's contributions
a superannuation fund).

Employee stock option plans (ESOPs) have also been brought under
fringe benefits tax from the fiscal year 200708.

to

an

approved retirement

plan (called

II. Indirect Tax


Service Tax
Service tax is applicable on identified services provided or received in
India
Current scope of taxable services is very wide and covers a vast
majority of service categories
Engineering, management, scientific and technical consultancy,
broadcasting,
Construction, insurance, manpower, communication, online access,
training, cargo handling, and business auxiliary services are some of
the key categories.
Service tax is applicable at 10.30 percent.
Export of services is exempt from service tax - export determined as
per prescribed rules.
Import of service also liable to service tax - import determined as per
prescribed rules.
VAT Legislation
Since its inception in April 2005, VAT has been implemented in almost
all States and Union Territories with exception of Andaman and Nicobar
and Lakshadweep
VAT is a multi-point taxation system entailing a VAT at every point of
sale/lease
Dealers are allowed to avail credit of input tax on input and capital
goods for set-off against out-put VAT.
Common rate of tax adopted across all States with rates of 12.5
percent, 4 percent and 1 percent prescribed for different categories of
goods. Also, some category of goods have been declared exempt from
levy of VAT

Interstate sale of goods is not governed by VAT (liable to a central sales


tax).
Custom Duty
Custom Duty is payable on import of goods/ equipments into India
It is levied as per rates specified in the Customs Tariff Act
Peak rate of Customs Duty is 10 percent.
Excise duty

Generally levied at the rate of 10 percent plus education cess of 3


percent on manufacture of goods. It is Payable at the time of removal
of goods from factory gate.
Excise duty paid by the buyer to the seller is available as input credit
and may be utilized to set-off the buyers output Excise duty/ Service
tax liability.

Regulatory and Tax Regime for the Upstream Sector


India also provides a customized tax regime for the upstream sector and
non-resident service providers in relation to Exploration & Production
operations. A brief overview of the regulatory and tax regime for upstream
sector is outlined below:
Regulatory

FDI up to 100 percent is permitted under the automatic route(i.e.


without approval) in the upstream sector in exploration activities of oil
and natural gas fields, infrastructure related to marketing of petroleum
products, actual trading and marketing of petroleum products, market
study and formulation.
A foreign company can setup a project office or an Indian company for
undertaking upstream operations in India.

Fiscal regime
There is a special mechanism for taxation of income of companies which
have entered into a Production Sharing Contract (PSC) with the Government
of India for undertaking exploration and production activities.
As per these provisions, taxable profits of a tax payer, who has entered
into a PSC with the Government for participation in the business of
prospecting, exploration or production of mineral oil, to be determined
in accordance with the special provisions contained in the PSC.
The provisions of the domestic tax law are deemed to be modified to
that extent.

Companies enter into a PSC with the Government of India to undertake


exploration and production (E&P) activities. Income from E&P operations is
taxable on a net income basis (i.e., gross revenue less allowable expenses).
Special allowances are permitted to E&P companies (in addition to
allowances permitted under the domestic tax laws) for:
Specific allowances in addition or in lieu of allowances under normal
provisions as specified in the PSC are permitted. The specific
allowances relate to:
- Expenditure by way of infructuous or abortive exploration
- Expenditure incurred for exploration or drilling activities or
services or asset
used for these activities.
Depletion of mineral oil in the mining area post-commercial production.
Domestic companies are subject to tax at a rate of 30% and foreign
companies at a rate of 40%. In addition, a surcharge of 5% on tax for a
domestic company and 2% on tax for a foreign company must be paid if
income is in excess of INR10 million. The surcharge is applicable at the rate
of 10% on tax for a domestic company and 5% on tax for a foreign company
if the company income is in excess of INR100 million. An education levy of
3% also applies.
The effective corporate tax rates are as given in the table below.

Minimum alternate tax


Minimum alternate tax (MAT) applies to a company if the tax payable on its
total income as computed under the tax laws is less than 18.5% of its book
profit (accounting profits subject to certain adjustments). If MAT applies, the
tax on total income is deemed to equal 18.5% of the companys book
profit.Credit for MAT paid by a company can be carried forward for 10 years
and it may be offset against income tax payable under domestic tax
provisions. Due to the MAT regime, a company may be required to pay some
tax, even during a tax holiday period.
PSC

Treatment of exploration and development costs


All exploration and drilling costs are 100% tax deductible. Such costs are
aggregated till the year of commencement of commercial production. They
can be either fully claimed in the year of commercial production or amortized
equally over a period of 10 years from the date of first commercial
production.
Development costs (other than drilling expenditure) are allowable under the
normal provisions of domestic tax law.
No Ring Fencing of Expenditure
All unsuccessful exploration costs in other contract areas can be set off
against income in the contract area in which commercial production has
commenced. Thus, it is possible to offset the exploration costs of one block
against the income arising from another block
Production sharing contract regime
India has a hybrid system of PSCs containing elements of royalty as well as
the sharing of production with the Government. E&P companies (contractors)
that are awarded exploration blocks enter into a PSC with the Government
for undertaking the E&P of mineral oil. The PSC sets forth the rights and
duties of the contractor. The PSC regime is based on production value. Under
the current regime, in PSCs for conventional crude oil and gas the share of
production for the Government is linked to profit petroleum
Cost petroleum or cost oil
Cost petroleum is the portion of the total value of crude oil and natural gas
produced (and saved) that is allocated toward recovery of costs. The costs
that are eligible for cost recovery are:
Exploration costs incurred before and after the commencement of
commercial production
Development costs incurred before and after the commencement of
commercial production
Production costs
Royalties
The unrecovered portion of the costs can be carried forward to subsequent
years until full cost recovery is achieved.
Profit petroleum or profit oil
Profit petroleum means the total value of crude oil and natural gas
produced and saved, as reduced by cost petroleum. The profit petroleum
share of the Government is biddable by the contractor as blocks are
auctioned by the Government. The bids from companies are evaluated based
on various parameters, including the share of profit percentage offered by
the companies. The law has placed no cap on expenditure recovery. The
percentage of recovery of expense incurred in any year is as per the bids
submitted by the companies.
Furthermore, no uplift is available on recovered costs.
Royalties

Land areas payable at the rate of 12.5% for crude oil and 10% for
natural gas and coal bed methane
Shallow water offshore areas payable at the rate of 10% for crude
oil and natural gas
Deepwater offshore areas (beyond 400m isobath) payable at the
rate of
5% for the first 7 years of commercial production and thereafter at a
rate of
10% for crude oil and natural gas
Capital allowances
Accelerated depreciation
Depreciation is calculated using the declining-balance method and is allowed
on a class of assets. For field operations carried out by mineral oil concerns,
the depreciation rate is 60% for specified assets while the generic rate of
depreciation on the written-down basis is 15% (majority of the assets fall
within the generic rate). Further, additional depreciation of 20% is available
on the actual cost of new machinery or plant in the first year.
Allowance for investment in new plant and machinery
In addition to depreciation and/or additional depreciation, deduction at the
rate of 15% is available on the actual cost of new plant or machinery
acquired and installed during the period 1 April 2013 to 31 March 2015,
subject to the fulfillment of certain conditions
Tax Holiday
One hundred percent tax holiday available in respect of profits earned
from production of mineral oils.
Tax holiday is available for seven consecutive years from the year of
commencement of commercial production.
However, companies availing deduction under these provisions would
still be liable to pay MAT on 'book profits'.
Carry forward losses
Business losses can be carried forward and set off against business income
for eight consecutive years, provided the income tax return for the year of
loss is filed on time. For closely held corporations, a 51% continuity-ofownership test must also be satisfied.
Unabsorbed depreciation can be carried forward indefinitely
Deductibility of Site Restoration Expenses
A special deduction is available for provisions made for site restoration
expenses if the amount is deposited in a designated bank account. The
deduction is the lower of the following amounts:
The amount deposited in a separate bank account or site restoration
account
Twenty percent of the profits of the business of the relevant financial year.

Withholding taxes
The following withholding tax (WHT) rates apply to payments made to
domestic
and foreign companies in India

* The rates are to be further enhanced by the surcharge and education levy
** Dividends paid by domestic companies are exempt from tax in the hands
of the recipient. Domestic companies are required to pay dividend
distribution tax (DDT) at 16.995% on dividends paid by them
*** The rate of 20% generally applies to interest from foreign currency loans.
Subject to fulfillment of certain conditions, a lower rate of 5% applies on
interest payable for foreign currency loans. Other interest is subject to tax at
the rate of 40% (plus applicable surcharge and education levy)
**** Subject to treaty benefits. If a permanent establishment is constituted in
India, the lower WHT rate depends on profitability
Taxation of service providers
Applicability
Special tax regime for non-resident service providers engaged in the
business of providing services or facilities or supplying plant and
machinery on hire in connection with prospecting for, or extraction or
production of, mineral oils.
Mechanism
10 percent of the gross receipts deemed to be business income
resulting in an effective tax rate of 4.223 percent of gross revenues
(rate as applicable for financial year 2009-2010).
Option to claim lower profits, subject to following conditions:
- Keep/maintain books/documents
- Get accounts tax audited

- Furnish tax audit report


- Compulsory scrutiny assessment
Custom Duty
Subject to certain procedures and conditions, Custom Duty exemption
is available for:

Equipments etc. imported for exclusive use in petroleum


operations

Specified goods required in connection with petroleum


operations under specific exemption notification
Parts and raw materials for manufacture of goods for the purpose
of off-shore petroleum operations undertaken under specified
contracts.
Service Tax
Relevant Service Tax Category
Survey and exploration of mineral, oil & gas services (effective from 10
September 2004)
- Includes geological, geophysical or other prospecting, surface and
subsurface surveying or map making service, in relation to location or
exploration of deposits of mineral, oil or gas
Site formation and clearance services (effective from 16 June 2005)
- Includes drilling, boring and core extraction services in relation to site
formation and clearance, excavation and earth moving and demolition.
Mining services
- Introduced to tax 'any service provided in relation to mining of
minerals, oil & gas.
Commercial or industrial construction
- Includes construction of well head and civil works at site.
Service tax also leviable on the following services:
- Dredging services
- Technical testing and analysis
- Pipeline transportation
- Cleaning (including services for tank, reservoir of commercial or
industrial building and premise)

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