In 115AD, foreign investors grappled with Income Tax complexities. Uncover historical fiscal struggles for a riveting financial journey.
Section 115AD in the Income Tax Act, 1961, addresses taxation on income for Foreign Institutional Investors, encompassing securities and capital gains. Amendments effective from FY 2021-22 impact AY 2022-23. This article outlines the diverse provisions within Section 115AD of the Income Tax Act.
Section 115AD- Overview
Several provisions and regulations pertain to Section 115AD of the Income Tax Act. The latest amendment to Section 115AD came into effect from the financial year 2021–2022 and is applicable to the assessment year 2022–2023.
Section 115AD levies taxes on the income of foreign institutional investors derived from securities or capital gains arising from the transfer of such securities. It’s important to note that this taxation does not encompass dividend income exempt under Section 10(34) or income from mutual fund units exempt under Section 10(35).
Purpose:
- To encourage domestic manufacturing and job creation in India.
- To promote investment in new manufacturing facilities and expansion of existing ones.
- To enhance India’s competitiveness in the global market.
Section 115AD of Income Tax Act 1961
Tax on income of Foreign Institutional Investors from securities or capital gains arising from their transfer.
This section specifies how income earned by Foreign Institutional Investors (FIIs) through securities or capital gains arising from their transfer is taxed in India. It outlines the tax rate, applicable exemptions, and specific calculations involved.
Who are Foreign Institutional Investors?
FIIs are entities established outside India that invest in Indian securities or financial products. They play a significant role in bringing foreign capital into the country and boosting the capital market.
The Central Government of India defines and specifies eligible entities as FIIs through notifications in the Official Gazette. Some of the typical characteristics of FIIs include:
- Registered with the Securities and Exchange Board of India (SEBI).
- Manage funds on behalf of foreign investors.
- Invest in various financial instruments like stocks, bonds, and derivatives.
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Benefits of Section 115AD of Income Tax Act
While Section 115AD primarily governs the taxation of FII income, it also offers some indirect benefits:
- Simplified Tax Regime: This section provides a clear and predictable tax framework for FII investments, encouraging further capital inflow.
- Reduced Transaction Costs: Streamlined compliance procedures within Section 115AD can potentially translate to lower transaction costs for FIIs.
- Improved Market Efficiency: Increased FII participation in the Indian market can enhance market liquidity and improve price discovery.
However, it’s important to note that the primary focus of Section 115AD is not to provide direct benefits to FIIs, but rather to ensure fair and efficient taxation of their income from Indian sources.
Amended Provision of Section 115AD
- Inclusion of Investment Division of Offshore Banking Units: The category “Investment Division of an offshore banking unit” was added to Section 115AD and Section 115AD(2), effective January 4, 2022, by the Finance Act, 2021.
- New Subsection 1B: Subsection 1B was newly introduced in Section 115AD, effective January 4, 2022, by the Finance Act, 2021.
Explanation for Investment Division of Offshore Banking Units: An explanation for the term “Investment Division of an offshore banking unit” was added, effective January 4, 2022, by the Finance Act, 2021.
Section 115AD(1) of the Income Tax Act
Applicability:
- Income received by a Foreign Institutional Investor (FII) from securities or capital gains arising from their transfer.
Tax Rate:
- 20% on income from securities.
- 10% on short-term capital gains (STCG).
- 10% on long-term capital gains (LTCG) exceeding ₹1 lakh.
Section 115AD(1A) of the Income Tax Act
Non-Applicability:
- For specified funds, Section 115AD(1A) doesn’t apply to income accountable to units held by Non-Resident Indians (NRIs), calculated in the prescribed manner.
Section 115AD(1B) of the Income Tax Act
Applicability:
- Income received by the Investment Division of an offshore banking unit from securities or capital gains arising from their transfer.
Tax Rate:
- Same as Section 115AD(1): 20% on income from securities, 10% on STCG, 10% on LTCG exceeding ₹1 lakh.
Section 115AD(2) of the Income Tax Act
Provision:
- Income computed under this section is subject to deduction of tax at source (TDS) at the applicable rates.
Section 115AD(3) of the Income Tax Act
Provision:
- Income computed under this section is not included in the total income of the assessee.
Taxes Applicable to Foreign Investors in India
- Corporate Tax: 25.17% (inclusive of surcharge and cess) for foreign companies.
- Capital Gains Tax: 10% on STCG and LTCG exceeding ₹1 lakh.
- Dividend Distribution Tax (DDT): 15% on dividends paid to foreign shareholders (abolished from April 1, 2023).
- Dividend Tax: 20% on dividends received by foreign shareholders (effective from April 1, 2023).
- Interest Tax: 20% on interest income earned by foreign investors.
Royalty Tax: 10% on royalty income earned by foreign investors.
Section 115AD of Income Tax Act: Old vs New Tax Rates
| Income Type | Old Tax Rate | New Tax Rate (Effective from 01-Apr-2023) |
| Income from securities | 15% | 20% |
| Short-term capital gains (STCG) | 15% | 10% |
| Long-term capital gains (LTCG) exceeding ₹1 lakh | 10% | 10% |
Taxes Applicable to Foreign Institutional Investors in INDIA
Note:
- DTAA stands for Double Taxation Avoidance Agreement signed by the government of India with the contracting state.
- The holding period for short-term and long-term capital gains varies – 12 months for shares listed in recognized stock exchanges or specified securities and 36 months for other cases.
- Taxes include a 2% surcharge where applicable and a 3% education cess on the tax amount.
| Income Type | Company Defined Under Section 2(17) | Non-Company |
| Dividends | Exempt under Section 10(34) | Exempt under Section 10(34) |
| Where aggregate income > Rs. 1 Crore | Where aggregate income < Rs. 1 Crore | |
| (2% surcharge is applicable) | (No surcharge applicable) | |
| Income from Units | Exempt under Section 10(35) | Exempt under Section 10(35) |
| Income (other than above) in respect of securities | 21.012% | 20.60% |
| Capital Gains – STT chargeable | ||
| Short Term (holding period up to 12 months) | 15.759% | 15.45% |
| Long Term (holding period beyond 12 months) | Exempt under Section 10(38) | Exempt under Section 10(38) |
| Capital Gains – STT not chargeable | ||
| Short Term (holding period up to 12 months) | 31.518% | 30.90% |
| Long Term (no benefit of indexation) | 10.506% | 10.30% |
| Income from transfer of securities, if chargeable under the head business income | ||
| Business Income (no DTAA/DTAA with PE) | 42.024% | 41.20% |
| Business Income (no DTAA, no PE) | NIL | NIL |
Conclusion
- The tax rate on income from securities held by FIIs and Investment Divisions of Offshore Banking Units has increased from 15% to 20%.
- Capital gains tax rates for FIIs have remained consistent at 10% for both STCG and LTCG exceeding ₹1 lakh.
- The inclusion of Investment Divisions of Offshore Banking Units within the scope of Section 115AD aligns their taxation with that of FIIs.
- The shift from DDT to a dividend tax regime for foreign shareholders streamlines taxation and potentially enhances tax collection efficiency.
- It’s essential for foreign investors to stay updated on the latest tax provisions and consult tax advisors for comprehensive guidance.
- While the overall tax burden on certain types of income has increased for FIIs, other reforms, such as the abolition of DDT, might offer counterbalancing benefits.
- The Indian government continues to fine-tune tax regulations to attract foreign investment while ensuring a fair and efficient tax system.
- It’s crucial for both foreign investors and domestic businesses to stay informed about these evolving provisions to make informed financial decisions and optimize their tax strategies.
FAQs
Does Section 115AD apply to all residents and non-residents?
No, Section 115AD specifically applies to Foreign Institutional Investors (FIIs) and, as of January 4, 2022, also to the Investment Divisions of Offshore Banking Units. It does not apply to Indian residents or other categories of non-residents.
Is it relevant for foreign institutional investors?
Yes, Section 115AD is highly relevant for FIIs as it determines the tax rates and provisions applicable to their income earned on securities and capital gains arising from the transfer of such securities in India.
Who can claim for it?
Only FIIs and the Investment Divisions of Offshore Banking Units can claim the provisions of Section 115AD. It does not offer any benefits or deductions to other individuals or entities.
What are the deduction limitations?
While Section 115AD defines the tax rates for FIIs, it doesn't directly offer any deductions. However, there are some specific provisions within the Income Tax Act that may apply to certain types of income or expenses incurred by FIIs, leading to potential deductions. These deductions would be subject to specific eligibility criteria and requirements outlined in the relevant sections of the Act.
