India’s Finance Act 2023: Essential Updates for Businesses
The Finance Act, 2023 has introduced various tax changes in India that can have significant implications for businesses operating in the country. As a result, it is important for companies and investors to carefully assess these changes before taking any actions. For assistance, contact our professional advisors at email@example.com.
The Finance Act, 2023, has been notified by the Indian federal government and is now in effect from April 1, 2023.
The Finance Bill, 2023, was originally introduced during the Union Budget for the financial year (FY) 2023-24 on February 1, 2023, and has undergone significant changes through the notice of amendments in the lower house of the Indian Parliament, known as the Amendment Bill. These changes have been incorporated into the final version of the Finance Act, 2023.
Over 64 amendments have been passed under the Finance Act 2023, including alterations to the taxation of debt repayments from Business Trusts, advancing the date for charging withholding tax by online gaming operators, and incentivizing the International Financial Services Centre (IFSC).
Fresh changes have also been made, such as an increase in the tax rate for non-residents on royalty or fees for technical services (FTS) from 10 percent to 20 percent and the taxation of income from debt mutual funds.
These changes have implications for businesses operating in India and require careful consideration. Below, we provide a detailed analysis of the amendments.
Key changes introduced in India’s Finance Act, 2023
Taxation of income from royalty and fees for technical services in the hands of non-residents
Taxation of income from royalty and FTS in the hands of non-residents is subject to certain rules and regulations. Here are the key points to keep in mind:
- Non-residents are only taxed on their income that is sourced from India. Income in the nature of royalty or FTS is considered to have arisen in India and is therefore taxable in the hands of non-residents in India.
- Section 115A of the Income-tax Act outlines the tax rate at which different streams of income are taxable in the hands of non-residents. The rate for royalty and FTS income was reduced from 25 percent to 10 percent by the Finance Act of 2015.
The changes introduced by the Finance Act 2023 to the taxation of income from royalties and FTS in the hands of non-residents are as follows:
- Increase in tax rate from 10 percent to 20 percent for royalty and FTS income earned by non-residents.
- Non-residents can choose to be taxed as per the provisions of a tax treaty entered into between India and the country of residence of the taxpayer or the Income-tax Act , whichever is more beneficial.
- A non-resident is required to furnish a valid tax residency certificate (TRC) issued by the government of its country of residence to claim benefits under a tax treaty.
- Tax treaties provide for lower tax rates for royalty and FTS provided that the recipient is the beneficial owner of such income.
- Circular 789 issued by the CBDT clarifies that a TRC will constitute sufficient evidence for accepting the status of residence as well as beneficial ownership for applying the provisions of a tax treaty.
- In the case of non-residents where the tax treaty provides for a rate higher than 10 percent or in case India does not have a tax treaty with the jurisdiction of the non-resident, the change may result in an additional tax burden.
- Withholding on royalty and FTS payments to non-residents may be made at a lower rate as per the applicable tax treaty, therefore, non-residents may no longer be exempt from filing an income-tax return.
- Non-residents may have to obtain a PAN in India to comply with the increased compliance burden.Top of Form
Taxation of business trust
From April 1, 2023, Business Trusts will be taxed on distributions made in the form of debt repayment or proceeds from amortization of debt as income from other sources.
Previously, unit holders of Business Trusts were not taxed on such capital payments, but now they will have to pay tax at a rate of 40 percent (for non-residents) or applicable slab rates (for residents).
This amendment introduced through Finance Act 2023 has nullified the benefit provided to sovereign wealth funds (SWFs) and pension funds (PFs) under section 10(23FE) of the Income-tax Act, 1961 to the extent distributions made to SWFs and PFs were in the nature of debt repayments from Business Trusts.
The Finance Act 2023 has introduced the following changes to the taxation of Business Trusts.
Taxable income to be determined on the basis of specified sum
The taxable income of unit holders will now be determined based on the “specified sum” received during the previous year for the unit held at any time during that year.
The specified sum can be calculated using a formula: A-B-C. If the result of the formula is negative, then the specified sum will be considered zero.
Here’s what each variable in the formula represents:
- A: This refers to the total amount of distributions made by the Business Trust to the unit holder during the previous year or earlier, excluding those in the form of interest or dividend specified in Section 10(23FC) or 10(23FCA) and those taxable at the level of the Business Trust under section 115UA. If the result of the formula is negative, the specified sum will be deemed to be zero.
- B: This represents the issuance price of the unit of Business Trust. The Finance Act, 2023 now allows for the reduction of this amount while computing the specified sum. This means that as long as the Business Trust does not distribute an amount, other than interest or dividend, that exceeds the issuance price of units, there will be no tax implications for unit holders. As a result, specified sum will be considered zero until such a distribution occurs.
- C: This refers to the amount that has already been taxed under Section 56(2)(xii) of the Income-tax Act in any previous year.
The amendment is viewed as a positive development for unit holders, as it provides some relief, particularly through the reduction of the amount subject to tax under Section 56(2)(xii) when calculating the specified sum.
However, since Business Trust units are publicly traded, the tax implications may vary for different unit holders at different times.
To assist unit holders in determining their tax liability, Business Trusts may need to make appropriate disclosures, and Form 64C may need to be revised accordingly.
It is worth noting that the implications under Section 56(2)(xii) are only likely to arise when the distributions in the form of debt repayments exceed the issuance price of the Business Trust units.
Exemption to SWFs/ PFs
The Income-tax Act provides an exemption to specified SWFs and PFs from paying tax on their dividends, interest, or long-term capital gains (LTCG) earned from investments in Infrastructure Investment Trusts (InvITs), subject to certain conditions.
The Finance Act 2023 has now extended this exemption to also include the specified sum mentioned in section 56(2)(xii) of the Income-tax Act.
As a result, any distributions made in the form of a specified sum to SWFs or PFs should also be exempt from tax, provided that they fulfil the necessary conditions under Section 10(23FE). This is a positive development that should address the concerns of SWFs and PFs investing in InvITs.
Computation of cost of acquisition
The Finance Act 2023 outlines that the cost of acquisition of a unit of Business Trust should be decreased by any amount received by a unit holder from the Trust that does not fall under the category of interest or dividend as mentioned in section 10(23FC) or 10(23FCA) of the Income-tax Act, and is not taxable under Sections 56(2)(xii) or 115UA(2) of the Income-tax Act. The effect of this change is explained below.
Distributions by way of repayment of debt
Implication in hands of unit holders
Income from other sources
To the extent of issuance price of unit of Business Trust
Cost of acquisition of units to be reduced by such distributions, therefore, unit holders end up paying capital gains tax on higher amount
Above the issuance price of unit of Business Trust
Amount received by unit holder in excess of issuance price and amount already subject to tax under income from other sources, to be taxable as income from other sources:
Exemption from withholding on interest payments
The Finance Act 2023 amends Section 193 of the Income-tax Act to remove the obligation for Indian companies to withhold tax on interest payments made to Business Trusts that hold controlling interest or interest as per specific regulations.
Earlier, Section 194A1 of the Income-tax Act exempted Business Trusts from tax withholding on interest payments, except for interest on securities like debentures.
This amendment may provide welcome relief to Business Trusts holding controlling interest or interest under specific regulations, by removing the requirement for tax withholding on interest payments.
Measures to incentivize the growth of the IFSC
To encourage the growth of the IFSC, the Finance Act 2023 proposes the following measures:
- Amending the definition of ‘original fund’ to facilitate the tax-neutral relocation of offshore funds wholly owned and controlled by Abu Dhabi Investment Authority and the Government of Dubai to the IFSC.
- Exempting Alternative Investment Funds (AIFs) established in the IFSC from the angel tax on shares issued by unlisted Indian companies.
- Providing further incentives for aircraft leasing in IFSC, such as exempting capital gains from the transfer of equity shares of a domestic company and increasing the dividend income of units of IFSC engaged primarily in the business of aircraft leasing.
- Extending the tax holiday for Offshore Banking Units (OBUs) in IFSC to 100 percent for the assessment year commencing on April 1, 2023.
- Lowering the tax rate on dividend distributions by IFSC units to 10 percent (instead of the 20 percent rate applicable on dividends received by an Indian company not based in IFSC). The change is likely to incentivize investments from non-residents in the IFSC.
- Offering a concessional rate of withholding tax on interest income earned by non-residents from long-term or rupee-denominated bonds listed on IFSC stock exchanges.
Taxation of debt mutual funds
According to the new provision introduced by the Finance Act 2023, capital gains resulting from the transfer of units of a ‘specified mutual fund‘ acquired on or after April 1, 2023, will be deemed short-term capital gains. The term ‘specified mutual fund’ refers to a mutual fund that invests no more than 35 percent of its total proceeds in equity shares of domestic companies.
The capital gains will be calculated by reducing the cost of acquisition and expenses incurred in connection with a transfer or redemption at maturity. This amendment eliminates the benefit of indexation of the cost of acquisition while computing capital gains on transfers of units of specified mutual funds, resulting in such capital gains being taxable at the applicable slab rates for resident investors.
The impact of this change is likely to be felt not only by debt funds but also by other categories of funds, such as ETFs, funds of funds, international funds, and gold funds.
Taxation of online gaming
The Finance Bill 2023 had earlier proposed a new tax regime for taxing winnings from online games, with withholding tax provisions to take effect on July 1, 2023. However, the Amendment Bill 2023 moved the date for the withholding tax provision up to April 1, 2023, and it was enforced through the Finance Act 2023.
Starting April 1, this year – 30 percent tax deducted at source will apply to withdrawals of net winnings.
At present, the Finance Ministry has not provided rules on how to compute ‘net winnings’. It is important to note that the requirement to withhold tax at a higher rate, as provided in Section 206AB(3), will not apply to withholding tax on winnings from online games.
Securities transaction tax (STT)
The STT on the sale of options has been increased to INR 2,100 on a turnover of INR 10 million against an earlier levy of INR 1,700, an increase of 23.5 percent, while on the sale of futures contracts, the STT has been raised to INR 12,500 on a turnover of INR 10 million against INR 10,000 earlier, indicating a 25 percent hike.
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