PAIN without PAN (Tax Identification Number)! Indian withholding tax to be 20% or higher
With effect from April 1, 2010, it has become mandatory to quote Permanent Account Number (“PAN”) in all transactions and failure to furnish PAN details would entail tax deduction at the higher of the prescribed rate or 20% on income liable to tax under the Income Tax Act, 1961 (“Act”).
A permanent account number (“PAN”) is a tax identification number allocated to taxpayers by the tax authorities, on request. The law requires that all existing taxpayers or persons who are required to furnish a tax return, even on behalf of others, must obtain PAN. It is mandatory to quote PAN on income tax returns and all documents pertaining to financial transactions as notified from time-to-time by the Central Board of Direct Taxes (“CBDT”)1. However, it is important to note that the mere existence of a PAN does not indicate liability to pay tax.
The new rule
The Finance Act 2009 introduced a new section in the Act (Section 206AA), which came into force on April 1, 2010. As per this section, any person entitled to receive any amount, on which tax is deductible in accordance with the provisions of the Act, is required to mandatorily furnish PAN details. Failure to provide such details would result in tax being deducted at a minimum rate of 20%. CBDT issued a press release dated January 20, 2010 (“Press Release”) clarifying the position in this regard. The Press Release elucidated inter alia that this provision is applicable to residents and non-residents.
Though at a first glance it seems that the amendment would be applicable in all circumstances, a careful reading of this provision makes it clear that the new rule is applicable only with respect to amounts that are liable to tax under the Act. This is not a blanket provision which would cover payments of all kinds, especially payments such as those which are not per se taxable in India. This interpretation is apparent from Section 206AA and the Press Release which employ the language “any sum or income or amount, on which tax is deductible” and “transactions liable to TDS”. Any income or payment which is not taxable in accordance with the provisions of the Act should continue to remain ‘not taxable’ and should be paid to the recipient without deduction of tax at source, even where such recipient does not have a PAN.
Thus, there has been no change in the substantive provision of law, specifically, laid down in Section 195 of the Act, which provides for tax deduction, on payments made to non-residents, from amounts liable to tax under the Act. Thus for example, the business income of a non-resident, which is not otherwise liable to tax in India in the absence of a permanent establishment, should not be liable to deduction at the penal rate just because of want of a PAN, as prescribed under the new rule. On the other hand, a sum that is liable to tax in India at a lower rate, as a result of application of a tax treaty, would be affected by this rule and the payer of such amount shall be required to deduct tax at the higher rate as prescribed under Section 206AA of the Act in the absence of PAN of the recipient. The implementation of this rule could result in undue hardship for non-residents especially for those who engage in only one-off transactions in India, with additional administrative compliances and increased costs.
Tax withholding regime - confusions galore
The law relating to the Indian international withholding provision, has been under the scanner for a long period of time. In recent past the controversy with respect to withholding obligations came into limelight with the Karnataka High Court holding in Samsung Electronics Co. Ltd.2, that obligation to withhold exists irrespective of the chargeability in accordance with the provisions of the Act; and then the Delhi High Court in Van Oord Acz India (P) Ltd.3 and Chennai Tax Tribunal in Prasad Productions Ltd.4 holding that the obligation to deduct tax under Section 195 of the Act arises only where the payment is chargeable to tax under the Act. Thus, with contradictory rulings being delivered by various High Courts, the onerous requirement to withhold tax continues to haunt taxpayers. In that backdrop, the introduction of the new rule has added to the existing state of confusion as in many cases it is being interpreted to mean that all remittances require a PAN, even when such amount is not per se taxable, adding to the woes of non-residents. Section 195 of the Act clearly provides for tax deduction with respect to a sum being chargeable to tax under the Act and an interpretation to the contrary, in light of the new rule, will not hold good. Thus for remittances to non-residents, the requirement of quoting PAN and the penal rate on failure to do so should not be triggered unless such amount is per se liable to tax.
However, payers may be wary of the consequences of not deducting tax. For example, if tax is not withheld on payments as per the relevant provisions including the newly introduced section 206AA, such payments may be treated as non-tax deductible expense for the payers. Payers may also be declared as an ‘assessee (taxpayer) in default’ and required to pay tax, interest and penalty thereon. Therefore, prudent payers may be compelled by the new regime to withhold tax at high rates, which may leave the income recipient the alternative only to claim refund from the Indian tax authorities, which itself could be a litigious and long drawn process.