FPIS may have to wait for dividend tax relief

Firms will examine qualitative factors before extending treaty benefits

Companies may continue to withhold tax at domestic tax rates, even though the Budget amendment has allowed foreign portfolio investors (FPIS) to avail of lower treaty rates on dividends paid.

Experts said companies wanting to consider treaty benefits and deducting tax at a lower rate will have to examine the qualitative factors. They will have to consider whether FPIS are liable to tax and whether they are the beneficial owner of dividend income. Indian companies paying dividends may not have the resources at their disposal for every FPI to which it pays dividend.

Indian tax authorities in the past have ruled an entity as not being a beneficial owner of dividend income. Besides, there are concerns that tax authorities may levy interest or penalty on firms for short deduction of tax.

“A company may have hundreds of FPIS investing in its shares. Will the companies blindly rely on tax residency certificates (TRCS)? Or will they take an additional undertaking from FPIS, asking them to confirm they are eligible for lower treaty rates?” asked an official dealing with FPIS.

The Union Budget has rationalised tax deducted at source on dividends for FPIS, bringing it on a par with treaty rates, which could be 5-15 per cent — lower than the 20-per cent tax rate (plus surcharge and cess) applied by companies so far.

Some experts, however, believe that companies need not be unduly worried about withholding taxes at lower rates, given the very purpose of amendment is to enable payers to apply treaty rates.

“Currently, companies paying interest to FPIS or other investors and lenders satisfy themselves about the status and treaty residence, based on basic documents like TRCS and FPI’S tax consultant’s advice to apply treaty rates. The same may be followed for dividends also.

In any case, when FPIS have paid taxes on their annual income on an aggregate basis, it’s unlikely that companies will be held responsible for any shortfall just on one source of their income: dividends,” said Sunil Gidwani, partner, Nangia Andersen India. He added companies may be less sceptical of dividends that are paid to non-mauritius-based FPIS.

Thirteen Nifty50 companies paid dividends to the tune of ~41,238 crore in 2020-21 so far, shows the data from Capitaline.

“After the Supreme Court ruling in the Pilcom case, companies were hesitant to consider treaty provisions and deduct tax at a lower rate provided in the treaty. With the proposed change in the Budget, FPIS entitled to treaty benefits will need to produce a copy of their TRC. This will enable the payer to consider treaty rates,” said Suresh Swamy, a chartered accountant.

In the Pilcom ruling last year, the apex court had held that where the Income-tax Act provides for a specific withholding tax rate on payment to non-residents, the payor is required to comply with the same, irrespective of the final tax position of such non-resident recipient under the applicable tax treaty.

Industry experts believe that a safeguard may be required for companies that rely on TRCS alone for withholding tax to ensure there is no penalty or interest payment for short deduction of tax in future.

The other alternative is to allow FPIS to go to tax authorities and get a lower withholding certificate, which can then be given to companies. In this regard, the provisions of Section 197 will need to be amended to allow FPIS to approach the tax officer for examining the case and issuing a lower withholding tax certificate.

“Currently, there is no provision that allows an FPI to approach tax authorities and get a lower withholding certificate. In the absence of it, FPIS may still not get the intended relief,” said an official quoted earlier.