This article has been written by Navya Raghunath Srivastav pursuing a Diploma in Corporate Law & Practice: Transactions, Governance and Disputes course from LawSikho.

This article has been edited and published by Shashwat Kaushik.

Introduction

India is one of the fastest-developing countries, and so it is home to the biggest business houses. According to the World Bank report “Ease of Doing Business Report, 2020,” India ranked 63rd among 190 countries. India’s trade-friendly policies not only attract corporations for investments but also for doing business. The biggest companies in the world are opening their offices in India. Apple, known for its electronic items like mobile phones, Macbooks, etc., has opened its office in Bangalore, India. These business ventures earn profit in India, as the Indian market is very diverse and large.

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Companies are legal persons under company law. Each individual has a legal duty to pay tax to the government, and so do companies, which have a legal as well as a moral responsibility to pay taxes to the government of India out of the company’s income. The Income Tax Act of 1961 makes it compulsory for companies, whether domestic or international, to pay income tax.  

 The question will arise as to why the Indian government allows foreign companies to set up their offices in India. The answer is very simple. The government earns capital from these companies for setting up any company, and to run it, companies are levied several types of taxes, from which the Indian government earns revenue. This income tax is a major source of revenue for any country.

Corporate taxation : an overview

Corporate taxation can be defined as a process by which the government collects taxes from business entities operating in a country, whether foreign or domestic. The government levies taxes on companies, which companies have to pay out of their income. Section 2(13) of the Income Tax Act, 1961, defines business as “any trade, commerce or manufacture or any adventure of concern in the nature of trade, commerce or manufacture.” Thus, business has a wider aspect and is not limited to certain activities. Also, under Section 2(17) of the Income Tax Act of 1961, corporations will include each company, whether incorporated inside India or outside India, under foreign rules and regulations. 

In India, each company, whether private or public, that is registered under the Companies Act of 2013 comes with the ambit of a tax payee and it is mandatory for the companies to pay taxes. Corporate tax is different from personal tax, as the former government levied tax on any company or firm and it is the primary source of the government’s income. In the latter, the government imposes a tax on personal salary, income, or earnings.

For national companies, tax is levied on the income earned from within the country and also from outside but for non-national companies, tax is levied only on the income that is earned within the country but not from outside the country.

Determining taxable income

The government decides how much of the company’s income will be deducted and this depends on the income of the company. The corporate tax rate is the rate or percentage that is to be deducted from a company’s income. Based on income, companies are put in different tax slabs to avoid the burden of tax. There is a different tax rate for a domestic company, i.e., a company registered under the Companies Act, 1956 or 2013, that is controlled and managed wholly in India, and a foreign company, i.e., a company based outside India or any of its functions, that is operated from another country. The corporate tax rate is decided by the central government. The finance ministry annually decides tax rates in the annual budget.

The tax rate is applicable to the taxable income of the corporation. The taxable income of a company includes any profit or gain earned by the company during the previous financial year, the amount of interest and dividend earned by the company by treasury operations, earnings after the sale of any asset, i.e., capital gain, and also income earned from rent. All these incomes add up to calculate the taxable income of a corporation.

Taxable events

A taxable event is another source for levying taxes on any corporation. It is based on the happening of any business event or any transaction that results in the levying of taxes payable to the government. This event includes capital gain, selling of stock shares for the purpose of profit earning, receiving payment of dividends, etc.

Let’s delve into some common taxable events:

  1. Capital Gain: When a corporation sells an asset, such as property or stocks, for a higher price than its original purchase cost, it generates a capital gain. This gain is subject to taxation, and the amount of tax owed depends on the corporation’s tax bracket and the holding period of the asset. Short-term capital gains, realised from assets held for one year or less, are taxed as ordinary income, while long-term capital gains, realised from assets held for more than a year, benefit from lower tax rates.
  2. Sale of stock shares for profit: Corporations engaged in trading stocks may recognise taxable gains when they sell their shares at a profit. The difference between the selling price and the original purchase price constitutes the capital gain, which is subject to taxation. The tax treatment of these gains aligns with the rules for capital gains mentioned above, distinguishing between short-term and long-term holding periods.
  3. Dividend income: When a corporation receives dividend payments from its investments in stocks or mutual funds, these distributions are considered taxable income. Dividends represent a portion of the profits that a company shares with its shareholders, and they are subject to taxation at the corporate level. The tax liability for dividend income depends on the corporation’s tax bracket and any applicable tax credits or deductions.
  4. Other business transactions: Beyond the aforementioned events, various other business transactions can give rise to taxable events. For instance, if a corporation engages in the sale of goods or services, its revenue from these activities is subject to taxation. Similarly, interest income earned on investments or rental income from properties owned by the corporation is also taxable.

Transfer pricing rules

India has witnessed a web of corporations that are related to one another in one way or another. Some companies deal in the same commodity and transfer those to other companies; it can be a sister company or its holding company, etc. The price at which a good or service is transferred is known as the transfer price. This is used to represent the price value attached to a good or service. 

Tax reporting and compliance

Tax reporting is the process of filing documents about companies’ income, profit, revenue, etc., and other relevant documents. This process maintains the transparency of companies` revenue and transaction details. Tax compliance can be understood as adhering to legal provisions of taxation guidelines of a country, like sharing honest reports with authority, paying taxes on time, complying with the documentation process, etc. 

Tax treaties

A tax treaty is a bilateral treaty to avoid any conflict concerning double taxation. This is important when any corporation or individual has investments in a foreign country. India has signed tax treaties with various countries, including the USA, France, Australia, etc.

Double taxation occurs when the same income or asset is subject to taxation in two different jurisdictions. This can arise in various scenarios, such as when a corporation has operations in multiple countries or when an individual resides in one country but derives income from another. The implications of double taxation can be substantial, potentially leading to increased tax liabilities and a dampening effect on international investment and economic growth.

The role of tax treaties

Tax treaties are bilateral agreements between two countries that aim to eliminate or mitigate the occurrence of double taxation. These treaties typically outline specific rules and provisions that determine how taxing rights are allocated between the respective jurisdictions. They often include measures such as tax credits, exemptions, and reduced tax rates to ensure that taxpayers are not burdened with excessive taxation.

India’s tax treaty network

India has actively engaged in the negotiation and implementation of tax treaties with numerous countries worldwide. These treaties play a pivotal role in fostering trade, investment, and economic cooperation between India and its treaty partners. Some notable examples of countries with which India has signed tax treaties include the United States, France, and Australia.

Key provisions in tax treaties

The specific provisions included in tax treaties can vary, but some common elements typically encompass:

  1. Tax residency: The treaties define the criteria for determining the tax residency of individuals and corporations, ensuring clarity and consistency in tax assessments.
  2. Permanent establishment: The treaties establish the conditions under which a business or individual is considered to have a permanent establishment in a particular country, thereby triggering tax liability in that jurisdiction.
  3. Taxation of business profits: The treaties outline how business profits are allocated and taxed in each jurisdiction, often employing methods such as the arm’s length principle to prevent artificial profit shifting.
  4. Taxation of dividends, interest, and royalties: Specific rules are provided to address the taxation of dividends, interest payments, and royalty income, ensuring fair and equitable treatment for cross-border investments.
  5. Exchange of information: Tax treaties often include provisions for the exchange of information between tax authorities, promoting transparency and facilitating effective tax administration.

Goods and Service Tax (GST)

Goods and Service Tax (GST) is levied on consumers who use goods and services, though it is remitted to the government by the corporation whose goods and services consumers use. This tax is levied on consumers, and it collects all the taxes that were previously levied at each step and unifies the taxation system into a single tax between manufacturers and consumers.

Minimum Alternate Tax (MAT)

Minimum Alternate Tax (MAT) is a tax levied on those companies that remain unchecked under the tax slabs, i.e., those with income that is less than taxable income. This tax is levied to make those small companies pay tax. As per Section 115JB of the Income Tax Act of 1961, 15% of the booked profit of the company will become the minimum alternate tax that the company has to pay when its income is less than the required income to fall under the tax slab.

These legal provisions have made the Indian corporate taxation system more efficient and decreased the possibility of tax evasion.

Challenges

There are legal provisions relating to corporate taxation, though tax authorities have to face challenges during taxation. The changing dynamics of the corporate world and the introduction of globalisation have posed challenges for tax authorities. Cross-border trade and businesses create difficulty in assessing taxable income, as it creates multiple jurisdictions and multiple tax laws to be followed. 

The complexity of tax laws and the lack of experts pose obstacles to the legitimate calculation of taxable income. These complexities made it difficult to comply with the regulations. The tax codes are technical and difficult to understand.

Corporations use loopholes to minimise their taxable income and to evade tax and the transfer price is one of the means for such evasion. Globalisation has encouraged countries to invite corporations into their countries and to attract them, countries used to levy low tax rates, which in turn lessened the government’s revenue. The unorganised sector remains unaddressed by tax authorities, resulting in a loss in revenue for the government. 

Digitalisation has impacted the taxation system. With digitalization, it has become difficult to calculate actual income and undervalued figures are measured for taxation.

There are various other challenges to the collection of black money, undervaluation of companies’ earnings for tax evasion, forming sister companies to divide the expenses, using loopholes for evasion, etc. “A report by the State of Tax Justice stated that $10.3 billion, or 0.41 percent of the $3 trillion GDP, is lost in taxes every year to global tax abuse.”

Relevant case laws

There are a large number of cases that involve tax evasion. A few of them are given below:

M/S Bharat Commerce & Industries Ltd. vs. Income Tax Commissioner (1988)

In the above-mentioned case, the assessee has paid interest on the delayed payment of income tax, which he claims was a business expenditure. The honourable Supreme Court of India has firmly disallowed it. The Court decided that interest payable due to delayed payment of income tax will come under the ambit of the tax but not as expenditure as it was the result of non-payment of tax on time.

The Court’s ruling establishes a clear distinction between interest on delayed tax payments and legitimate business expenditures. While business expenditures are generally deductible from taxable income, interest on delayed tax payments is not. This distinction is significant because it ensures that taxpayers are not incentivized to delay their tax payments in order to claim a tax deduction.

The decision also underscores the importance of timely tax payments. By emphasising the non-deductibility of interest on delayed tax payments, the court reinforces the principle that taxpayers should fulfil their tax obligations promptly to avoid additional financial burdens.

Overall, the Supreme Court’s ruling in this case provides clarity and guidance on the tax treatment of interest on delayed tax payments, ensuring that such interest is not considered a deductible business expenditure. This decision helps maintain the integrity of the tax system by discouraging taxpayers from delaying their tax payments for financial gain.

Hingir Rampur Coal Co. Ltd vs. Commissioner Of Income Tax, Bomaby (1970)

In the above-mentioned case, during a riot by the workmen of a colliery, the manager suffered stab wounds and died of the injuries. The assessee, with the government’s consent, helped the state prosecute the offending workers in court by engaging a council to assist the state prosecutor. The assessee incurred a large amount in procuring such legal assistance.

The Bombay High Court held the expenses incurred by the assessee( employer) were for business so the expenses came under the ambit of revenue expenditure and were liable for deduction under Section 37(1) of the IT Act.

Conclusion

Corporate taxation is not only a complex but dynamic concept that varies with jurisdictions. Globalisation and digitalisation have posed challenges in front of them, though continual evolution in government policies has helped tackle the situation efficiently. The implementation of GST and promoting digital transactions are imposed by the Government of India to reduce the incidence of tax evasion. 

A strong and accessible taxation environment is profitable for any country’s revenue. India`s evolved tax regime has helped India become the fastest-developing country and 5th in terms of GDP. India`s attractive tax regime attracted investors and foreign companies, which boosted India’s economy.

The tax regime of any country is a beautiful tool to garnish a country with talented people and boost the country’s growth.

References

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