TAXATION SYSTEM IN INDIA

India has a well-developed tax structure with clearly demarcated authority between Central and State Governments
and local bodies. Central Government levies taxes on income (except tax on agricultural income, which the State
Governments can levy), customs duties, central excise and service tax.

Value Added Tax (VAT), (Sales tax in States where VAT is not yet in force), stamp duty, State Excise, land revenue
and tax on professions are levied by the State Governments. Local bodies are empowered to levy tax on properties,
octroi and for utilities like water supply, drainage etc.

In last 10-15 years, Indian taxation system has undergone tremendous reforms. The tax rates have been rationalized
and tax laws have been simplified resulting in better compliance, ease of tax payment and better enforcement. The
process of rationalization of tax administration is ongoing in India.

Since April 01, 2005, most of the State Governments in India have replaced sales tax with VAT.

Taxes Levied by Central Government:

Direct Taxes

Tax on Corporate Income

Capital Gains Tax

Personal Income Tax

Tax Incentives

Double Taxation Avoidance Treaty

Indirect Taxes

Excise Duty

Customs Duty

Service Tax

Securities Transaction Tax

Taxes Levied by State Governments and Local Bodies

Sales Tax/VAT

Other Taxes

Direct Taxes:

Taxes on Corporate Income

Companies residents in India are taxed on their worldwide income arising from all sources in accordance with the
provisions of the Income Tax Act. Non-resident corporations are essentially taxed on the income earned from a
business connection in India or from other Indian sources. A corporation is deemed to be resident in India if it is
incorporated in India or if it’s control and management is situated entirely in India.

Domestic corporations are subject to tax at a basic rate of 35% and a 2.5% surcharge. Foreign corporations have a
basic tax rate of 40% and a 2.5% surcharge. In addition, an education cess at the rate of 2% on the tax payable is also
charged. Corporates are subject to wealth tax at the rate of 1%, if the net wealth exceeds Rs.1.5 mn ( appox. $ 33333).
Domestic corporations have to pay dividend distribution tax at the rate of 12.5%, however, such dividends received
are exempt in the hands of recipients.

Corporations also have to pay for Minimum Alternative Tax at 7.5% (plus surcharge and education cess) of book
profit as tax, if the tax payable as per regular tax provisions is less than 7.5% of its book profits.

Capital Gains Tax

Tax is payable on capital gains on sale of assets.

Long-term Capital Gains Tax is charged if

• Capital assets are held for more than three years and

• In case of shares, securities listed on a recognized stock exchange in India, units of specified mutual funds, the
period for holding is one year.

Long-term capital gains are taxed at a basic rate of 20%. However, long-term capital gain from sale of equity shares or
units of mutual funds are exempt from tax.

Short-term capital gains are taxed at the normal corporate income tax rates. Short-term capital gains arising on the
transfer of equity shares or units of mutual funds are taxed at a rate of 10%.

Long-term and short-term capital losses are allowed to be carried forward for eight consecutive years. Long-term
capital losses may be offset against taxable long-term capital gains and short-term capital losses may be offset against
both long term and short-term taxable capital gains.

Personal Income tax

Personal income tax is levied by Central Government and is administered by Central Board of Direct taxes under
Ministry of Finance in accordance with the provisions of the Income Tax Act. The rates for personal income tax are as
follows:-

Income range (Rupee) Tax Rate (%)

0-100,000 Nil

1,00,000-1,50,000 10

1,50,000-2,50,000 20

2,50,000 and above 30

Surcharges of 10% on total tax is levied if income exceeds Rs. 8,50,000

Current rates for withholding tax for payment to non-residents are:-

(i) Interest 20%

(ii) Dividends paid by domestic companies: Nil

(iii) Royalties 10%

(iv) Technical Services 10%

(v) Any other services Individuals: 30% of the income

Companies: 40% of the net income

The above rates are general and are applicable in respect of countries with which India does not have a Double
Taxation Avoidance Agreement (DTAA).

Tax Incentives

Government of India provides tax incentives for:-

• Corporate profit

• Accelerated depreciation allowance

• Deductibility of certain expenses subject to certain conditions.

These tax incentives are, subject to specified conditions, available for new investment in

• Infrastructure,

• Power distribution,

• Certain telecom services,

• Undertakings developing or operating industrial parks or special economic zones,

• Production or refining of mineral oil,

• Companies carrying on R&D,

• Developing housing projects,

• Undertakings in certain hill states,

• Handling of food grains,

• Food processing,

• Rural hospitals etc.

Double Tax Avoidance Treaty

India has entered into DTAA with 65 countries including the US. In case of countries with which India has Double tax
Avoidance Agreement, the tax rates are determined by such agreements. Domestic corporations are granted credit on
foreign tax paid by them, while calculating tax liability in India.
In the case of the US, dividends are taxed at 20%, interest income at 15% and royalties at 15%.

Indirect Taxes:

Excise Duty

Manufacture of goods in India attracts Excise Duty under the Central Excise act 1944 and the Central Excise Tariff
Act 1985. Herein, the term Manufacture means bringing into existence a new article having a distinct name, character,
use and marketability and includes packing, labelling etc.

Most of the products attract excise duties at the rate of 16%. Some products also attract special excise duty/and an
additional duty of excise at the rate of 8% above the 16% excise duty. 2% education cess is also applicable on the
aggregate of the duties of excise. Excise duty is levied on ad valorem basis or based on the maximum retail price in
some cases.

Customs Duty

The levy and the rate of customs duty in India are governed by the Customs Act 1962 and the Customs Tariff Act
1975. Imported goods in India attract basic customs duty, additional customs duty and education cess. The rates of
basic customs duty are specified under the Tariff Act. The peak rate of basic customs duty has been reduced to 15%
for industrial goods. Additional customs duty is equivalent to the excise duty payable on similar goods manufactured
in India. Education cess at 2% is leviable on the aggregate of customs duty on imported goods. Customs duty is
calculated on the transaction value of the goods.

Rates of customs duty for goods imported from countries with whom India has entered into free trade agreements such
as Thailand, Sri Lanka, BIMSTEC, south Asian countries and MERCOSUR countries are provided on the website of
CBEC.

Customs duties in India are administrated by Central Board of Excise and Customs under Ministry of Finance.

Service Tax

Service tax is levied at the rate of 10% (plus 2% education cess) on certain identified taxable services provided in
India by specified service providers. Service tax on taxable services rendered in India are exempt, if payment for such
services is received in convertible foreign exchange in India and the same is not repatriated outside India. The Cenvat
Credit Rules allow a service provider to avail and utilize the credit of additional duty of customs/excise duty for
payment of service tax. Credit is also provided on payment of service tax on input services for the discharge of output
service tax liability.

Securities Transaction Tax

Transactions in equity shares, derivatives and units of equity-oriented funds entered in a recognized stock exchange
attract Securities Transaction Tax at the following rate:-

• Delivery base transactions in equity shares or buyer and seller

each units of an equity-oriented fund – 0.075%

• Sale of units of an equity-oriented fund to the seller mutual fund – 0.15%

• Non delivery base transactions in the above – 0.015%

• Derivatives (futures and options) seller – 0.01%

Sales Tax Acts of various State Governments and Central Sales Act governed the application of Sales Tax/VAT.
Sales Tax/VAT

Sales tax is levied on the sale of movable goods. Most of the Indian States have replaced Sales tax with a new Value
Added Tax (VAT) from April 01, 2005. VAT is imposed on goods only and not services and it has replaced sales tax.
Other indirect taxes such as excise duty, service tax etc., are not replaced by VAT. VAT is implemented at the State
level by State Governments. VAT is applied on each stage of sale with a mechanism of credit for the input VAT paid.
There are four slabs of VAT:-

• 0% for essential commodities

• 1% on bullion and precious stones

• 4% on industrial inputs and capital goods and items of mass consumption

• All other items 12.5%

• Petroleum products, tobacco, liquor etc., attract higher VAT rates that vary from State to State

A Central Sales Tax at the rate of 2% is also levied on inter-State sales and would be eliminated gradually.

Municipal/Local Taxes

• Octori/entry tax: – Some municipal jurisdictions levy octori/entry tax on entry of goods

Other State Taxes

• Stamp duty on transfer of assets

• Property/building tax levied by local bodies

• Agriculture income tax levied by State Governments on income from plantations

• Luxury tax levied by certain State Government on specified goods