NEW DELHI: The Center may propose a change in tax laws that will allow Indian companies to apply tax treaty rates while withholding taxes on dividends and interest payable to Foreign Portfolio Investors (FPIs).
The move is expected to make FPIs easier by eliminating the need to claim tax refunds on excess tax withheld by Indian companies while filing their annual income tax returns in India.
Sources said the changes could be proposed in the 2021 budget and are part of the finance law that will change tax laws to bring the proposal into effect.
With effect from April 1, 2020, the dividend distribution tax (DDT) was abolished and the dividend in the hands of the shareholders was made taxable at the applicable rates.
When paying dividends to FPIs, Indian companies withhold taxes at the applicable domestic rates and pass the remaining amount on to foreign investors.
FPIs are then required to claim a refund of corporate withheld tax surpluses while filing their annual income tax returns in India.
The current DDT rate is 15 percent on a gross basis plus surcharge and levy, resulting in a net tax rate of 20.56 percent.
With the changes being considered, FPIs would equate other non-resident investors (e.g. foreign direct investors) currently enjoying tax breaks on their dividends and interest from Indian sources in the withholding stage.
As non-residents, FPIs can also take advantage of applicable bilateral tax treaties when tax rates are typically lower or the transfer is fully tax exempt.
However, under domestic tax law, Indian companies are not allowed to apply lower tax rates under any tax treaty while withholding taxes on dividends and interest payable to FPIs.
According to Deloitte India, this is why the domestic tax law needs to be changed to allow Indian companies to apply tax treaty rates for withholding tax on dividends and interest payments on FPIs as are currently available to other non-resident investors.
The relief from FPIs should also improve the investment climate in the country, as these investors have been very active and maintained their momentum in the Indian market throughout the Covid pandemic.
The activity of the FPIs is one of the reasons Sensex is within reach of its historical level of 50,000 points.