By Gagan Kumar
All expatriate employees working in India, including those from the United States, are subject to Indian income tax laws. Such exposure is based on factors such as the period of stay in India and the character of the employment. This article provides an overview of income tax payable by expatriate employees working in India.
RESIDENTIAL STATUS OF AN INDIVIDUAL TAXPAYER
Under the Indian Income Tax Act, 1961, individual assessees can have either resident or non-resident status in India. A ‘resident in India’ can be either a resident-and-ordinarily-resident or a resident-but-not-ordinarily-resident.
The residential status of a person is determined by the number of days in which the person is present in India during the previous fiscal year(s), which in India is from April 1 to March 31.
A stay in India of less than 182 days qualifies one as a non-resident. The “basis condition” of one who is a “resident and not ordinarily resident” is if one stays in India for over 182 days. One can also be a resident-and-not-ordinarily-resident if one stays in India for less than 60 days during the previous year and more than 365 days altogether during the four years immediately preceding the previous year. Additional conditions that make one a resident-and-not-ordinarily resident are if one is either (a) resident in at least two out of the ten previous years immediately preceding the relevant previous year, or more than 750 days during the seven years immediately preceding the relevant previous year. A resident-and-ordinarily-resident is one who falls within the same “basic condition” as a resident-and-not-ordinarily-resident, or both of the “additional conditions” of a resident-and- ordinarily-resident. There are additional categories which are not relevant for the purposes of this discussion.
TAX IMPLICATIONS OF INDIVIDUALS UNDER RESPECTIVE RESIDENTIAL STATUS
The tax incidence of a taxpayer qualifying under different residential status is as follows:
Non-Resident: Only income which is received (or deemed to be received in India) (Indian Income) is taxable.
Resident-But-Not-Ordinarily-Resident: The Indian Income and income from business controlled (wholly or partly from India) or profession set up in India is taxable.
Resident-And-Ordinarily-Resident: Both Indian Income and Foreign Income would be taxable Foreign Income is income not received, or deemed to be received, in India AND income which does not accrue or arise, or does not deem to accrue or arise, in India.
CONDITIONS OF RESIDENTIAL STATUS SATISFIED IN BOTH THE HOME STATE AND FOREIGN STATE: TIE BREAKER RULE
The India and United States Double Taxation Avoidance Agreement (India-U.S. DTAA) provides a mechanism to ascertain the residential status of an expatriate employee who qualifies to be a resident of both India and US (under the respective domestic laws). The following considerations, in turn, need to be taken into account to ascertain the above:
(a) Permanent place of residence of the employee; (b) Vital interests (personal and economic relations) of the employee; (c) Nationality of the employee; or (d) Mutual agreement of the contracting states.
INCOME FROM SALARY
Income defined as salary is deemed to accrue or arise at the place where the service is rendered. Further, salary is chargeable to tax either on a due or receipt basis, whichever occurs earlier. Generally, most of the components of a salary (such as bonus, advance etc.) are taxed in the above manner, unless specifically exempted under any provision of the Act.
The Supreme Court of India has held that salary paid by an entity to an expatriate employee, albeit outside India, would be taxable in India. CIT vs. Eli Lilly and Company Private Limited (312 ITR 225 [SC]). The court ruled that if home salary paid to an expatriate employee has any connection or nexus with his rendition of service in India then such payment would constitute income which is deemed to accrue or arise to the expatriate in India under the Act.
Generally, expatriate employees make contributions towards social security programmes in their home country. The Act does not provide for any exemption in relation to such contribution towards social security overseas. While there is case law holding that contributions towards social security is deductible from the salary income of the expatriate employee. Galotti Raul vs ACIT  61 ITD 453 (Bom), based on the Act and Eli Lilly, it should be assumed that social security contributions made by the expatriate employees are taxable in India.
“Off Period” Salary
Where an expatriate employee leaves India (for any reason, including vacation) during which time she receives her salary without rendering services in India, her salary would be taxable in India. This was an open issue until the Act was amended to state that income earned during a ”rest period” or ”leave period” which preceded or succeeded the period in which services were rendered in India, and which formed a part of the employee’s employment contract, would be construed as salary earned in India.
Short stay exemption Under Domestic Tax Laws
The Act exempt certain foreign nationals from payment of tax subject to fulfilment to certain prescribed conditions.
The Act provides that the remuneration payable by a foreign enterprise to a foreign national on its payroll for services rendered in India would be tax exempt if all of the following conditions are met:
(a) the foreign enterprise is not engaged in any business or profession in India;
(b) the foreign national does not stay in India for more than 90 days in the relevant year; and
(c) the remuneration is not liable to be deducted from the income of the foreign enterprise chargeable under the Act.
Additionally, foreign nationals working on a foreign ship and those working as employees of a foreign government etc. and present in India during the relevant year would be exempt from payment of tax subject to fulfilment of certain specified conditions.
Under Double Taxation Avoidance Agreement
Under the India-U.S. DTAA, the remuneration earned by a U.S. resident, shall be taxable in the U.S., unless such employment is in India, in which case, the remuneration shall be taxed in India.
The remuneration is taxable in the U.S. if:
(a) the expatriate employee is present in India for a period not exceeding 183 days in the relevant taxable year; and
(b) the remuneration is paid by an employer who is not resident in India; and
(c) the remuneration is not paid by the Permanent Establishment of the U.S. employer in India.
More Beneficial Of The Laws To Be Adopted
The Act provides that the provision of the DTAA or the Act, whichever are more beneficial to the expatriate employee shall apply. In other words, the expatriate employee is entitled to avail the benefit of the legislation favourable to it.
The principle behind tax equalisation is that an expatriate should be no better or worse position (for tax purposes) as a result of being sent on a foreign assignment. This concept appears to have evolved to encourage expatriates to work for their employers wherever they may be sent, and to ensure that they are not placed in a disadvantageous tax position.
Broadly, under a tax equalization, an expatriate employee is assured by the country of her residence that she would not have to bear the burden of more taxes that what she would have paid had she been working in her own country and not gone to the foreign state for work.
For instance, several organisations offer Tax Equalization policies to their employees who are sent on foreign assignment to ensure that they are in no better or worse tax position by having taken the foreign assignment. If taxation is greater in the foreign state, then such additional taxes paid by the expatriate employee are normally reimbursed by his “legal and original” employer. Courts in India have suggested that the reimbursed amount would qualify as salary be subject to tax. Jaydev H. Raja, Mumbai vs. DCIT, ITA No. 2021/M/98, Assessment Year 1994-95 (Income Tax Appellate Tribunal, Mumbai).
Under Indian law, provisions relating to tax deduction at source (TDS) would be applicable to the gross sums (all of which may not constitute income) receivable by the expatriate employee in relation to the services rendered in India, except for the part of the additional tax liability of the employee which has been agreed to be borne by his employer.
A foreign company which sends its employees to India on deputation basis (whether to its own subsidiary or otherwise) exposes itself to being deemed Permanent Establishment (PE) in India, in which case, the income of the foreign company from India would be subject to tax at the rate of approximately 42% if the income is less than INR 10 million on a net income basis.
Fixed Place PE
In case an expatriate employee is provided a dedicated place from where such employee renders its service (and such place being at its disposal during his tenure while serving the foreign entity), then such place may lead to the constitution of a fixed place PE.
As per the India-US DTAA, the activity of rendering services (other than included services specified in Article 12) in India, by an enterprise, through its employees or personnel, provided that, such activities continue in India for a period of more than 90 days in a twelve month period (a consecutive period of 12 months in a financial year or spreading over 2 financial years) would constitute a Service PE. Further, in case the services are rendered for an associated enterprise for even a day, then it would result in constitution of a ‘Service PE’ in India.
The commonly recognised methodology adopted by foreign entities at the time of deploying/seconding their employees (expatriate employees) to India for rendering services is as follows:
(a) Such employees remain on the payroll of the foreign entity, but work under the directions of the Indian entity (i.e. the US entity remains the ‘de-jure’ employer and the India entity becomes the ‘economic’ employer).
(b) The foreign entity is liable to pay the employees remuneration in the home country. Such remuneration is subsequently reimbursed by the Indian entity on at-cost basis.
Taxability of Reimbursement
It is pertinent to note that there has been a divergence of judicial opinion on the taxability of the reimbursement (described above). Before proceeding further, it is, however, important to understand the meaning of ‘deputation’ and ‘secondment’. The distinction between these two terms is subtle. ‘Deputation’, in simple words, may be defined as a transfer of an employee outside the parent department or entity for a temporary period of time, on expiry of which, the concerned employee reverts back to his original position in the parent entity. The remuneration of such deputed employee is generally borne by the parent company and parent company also has the employee under its control and supervision, thereby making it the legal and economic employer of the deputed employee. It is important to note that courts, while dealing with a situation of ‘deputation’ have held that an employee of a parent company when deputed to another company does not become an employee of such other company because the employee hold a lien on his employment with the parent company, during the subsistence of which, he continues to be under the control andsupervision of the parent company [DIT vs. Morgan Stanley 292 ITR 416 (SC)].
A ‘secondment’ on the other hand, thoughalso involving transfer of an employee from the parent entity, is at slight variance fromthe concept of ‘Deputation’. Generally, in the case of ‘secondment’, the seconded employee remains under the control and supervision of the company to which the employee is transferred. Further, such company also bears the remuneration payable to the employee, in some form or the other. In essence, in the case of the secondment, though the parent entity remains the legal employer of the employee (on account of the fact that the employee may be on its rolls), the company to which the employee is transferred becomes the real and economic employer of the employee during the term of the secondment. It is important to highlight that the distinction between the concept of deputation and secondment is very fine and determination of the nature of an expatriate’s employment being a ‘deputation’ or a ‘secondment’ would require a detailed examination of the facts and circumstances of each case. Needless to mention, this issue currently is and remains contentious and open to further debate/discussion.
Courts in one instance have held that where an Indian company pays all expenses incurred by a foreign parent company towards employees seconded to Indian company, such payment, being pure reimbursement, neither can be regarded as income in hands of foreign company; nor would it amount to fees for technical services. Consequently, it held that reimbursement of salary costs to a foreign company under a secondment agreement does not involve a profit element and is not liable to income tax[Abbey Business Services (India) Private Limited,  23 taxmann.com 346 (BANG. – ITAT)].
However, an Indian court called the Authority for Advance Rulings (AAR),has held that salary reimbursement of seconded employee would be taxable as Fees for Included Services (normally characterised as FTS in other DTAA’s) (FIS) under the India-US DTAA and FTS under the Act [Verizon Data Service India Private Limited 337 ITR 192 (AAR)] (Verizon Case).
A similar view has been taken in Centrica India Offshore Private Limited 249 CTR 11 (AAR),which, inter alia, concluded that secondment of employees creates a Service PE of the foreign company in India.
It may however, be note that rulings given by the AAR are binding only on the applicant and are not binding precedents. Further, it may be noted that Verizon Case has been challenged and is currently pending adjudication before the Supreme Court of India.
The ‘make available’ proposition
As per the provisions of the India-US DTAA, for a payment (in consideration of any technical or consultancy service) to constitute FIS, such service should, inter alia, make available technical knowledge, experience, skill, know-how, or processes, or consist of the development and transfer of a technical plan or technical design (A consideration constituting FIS would be taxed as ‘Business Profits’ under the India-US DTAA).
Courts while analysing the ‘make available’ concept,have held that for technical knowledge, skills, know-how etc. to be regarded as ‘make available’, the following need to be satisfied:
(a) the service rendered should result in transmission of technical knowledge etc. so that the payer of service could be able to derive an enduring benefit; and
(b) the technical knowledge etc. of the service provider should be imparted to, and absorbed by the recipient so that the payer of the service can deploy similar technology or technique in future without depending on the service provider[Intertek Testing Services India Private Limited 307 ITR 418 (AAR)].
However, it is pertinent to note that the above understanding of ‘make available’ may not be considered settled as ruling of Perfetti Van Melle Holding B.V 342 ITR 200 (AAR)have significantly differed in the interpretation of the term ‘make available’.
Therefore, from a perusal of the above, it is palpable that, owing to the variance in the view of courts in interpretation of the legal propositions (relevant to taxability of expatriate employees), it would indeed be difficult to conclusively clinch this issue and establish a cut and dry formula for ascertaining the taxability of expatriate employees.
Characterisation: Intra Group or Shareholders Activity
The OECD Transfer Pricing Guidelines, 2010 (Guidelines), carves out a distinction between an ‘intra group’ service and a ‘shareholders’ service under the arms-length principle. An ‘intra group’ service, broadly, is a service which an enterprise can procure from independent entities but obtains from an associated enterprise. ‘Intra group’ services generally include those which are typically available externally from independent enterprises (such as legal or accounting services).
Under the arms-length principle, the question whether an ‘intra group’ service has been performed or not should depend on whether the activity provides a respective group member with economic or commercial value to enhance its commercial position. This can be determined by considering whether an independent enterprise in comparable circumstances would have been willing to pay for the activity if performed for it by an independent enterprise or would have performed the activity in house for itself. If the activity is not one for which the independent enterprise would have been willing to pay or perform for itself, the activity ordinarily should not be considered as an ‘intra group’ service under the arms-length principle. Such activities include services for a particular type of operations, advice or in some case assistance in day to day management.
On the other hand, a shareholders activity would be one that a member of a group of companies (usually the parent company or regional holding company) performs solely because of its ownership interest in other group member companies, i.e. in its capacity as a shareholder.
Implications of TP Guidelines
In general, an activity performed by a group member company for another group member company would not constitute ‘intra group’ activity if it merely duplicates a service which such receiver company performs for itself.
An oft-seen industry practice is that parent companies deploy their personnel on foreign assignments to their subsidiaries for various purposes regardless of whether such subsidiary companies require such services. In such a situation, the act of deploying such personnel may very well constitute a ‘shareholders’ activity rather than an ‘intra group’ activity.The Supreme Courtappears to have suggested that ‘stewardship’ activities (which is a term similar to but wider than ‘shareholders’ activity) are essentially to safeguard or protect the interests of the receiver of the service[DIT vs Morgan Stanley and Others 292 ITR 416 (SC)].
Thus, in case an activity qualifies to be a ‘intra group’ activity, then it needs to be examined whether any payment for it to the provider company would constitute FTS or FIS.
Gagan Kumar is a partner in Krishnomics Legal, a New Delhi- based law firm specializing in corporate taxation. Gagan can be reached at firstname.lastname@example.org