The Authority for Advance Ruling (AAR) has recently concluded that employers are not required to withhold tax from salary paid in India for non-residents working overseas. The AAR also confirmed that for resident employees where the employer continues to withhold taxes, a credit in respect of taxes paid overseas may be provided by the employer.
This ruling provides the much-awaited relief and clarity in respect of employees being deputed overseas where the payroll is continued in India. Such employees are generally subject to initial double taxation since taxes are withheld from salary paid in India and the salary is taxable in the overseas jurisdiction as well. Relief under the Double Taxation Avoidance Agreements (Treaty) were claimed in the tax return. The outcome had significant cash flow issues and administrative challenges in tracking the tax refunds which arose in the tax return.
Impact on non-residents
The AAR ruled that as long as the non-resident employee renders services overseas, the income does not accrue in India and hence is not taxable in India. Accordingly no tax withholding is required by the Indian employer. Hence, the relief is available not only for cases covered under a tax treaty but also in situations where no treaty is available, or where the employee does not meet the specific conditions under the treaty (e.g. where the employee does not meet the conditions of residency in the overseas country as per treaty). To sum up, for a non-resident the requirement to withhold taxes on salary paid in India does not arise if services are rendered overseas.
Impact on residents
Residents and ordinarily residents in India are taxable on their global income. Hence the employer is mandated to withhold taxes on the salary paid in India. Further, where any benefit or allowance is paid overseas, the same is required to be considered in estimating the salary income. However, the AAR has held that in such cases the employer may consider the credit for foreign taxes paid at the time of withholding the taxes, thereby minimizing the impact of double taxation.
How does it impact the employer?
Many companies “tax equalize” their employees, meaning that any additional tax cost or benefit on account of the deputation does not impact the employee. The employer picks up the additional tax cost arising on account of deputation. Employers may leverage on the principles arising out of this ruling and put in place suitable processes that will require their employees to continue “bear the stay at home taxes”. With no requirement to follow up for tax refunds, employers can save significantly on the cash flow costs and minimise administrative hassles.
On the other hand, where employees are not tax equalized, the benefit of cash flow will be to the employee, resulting in a higher take home pay.
While the AAR ruling is binding only on the applicant, it does have a persuasive value to others. Hence, companies with outbound mobile population need to revisit their tax payment and settlement mechanisms for their employees.
(By Saraswathi Kasturirangan, Partner, Deloitte India, and Vijay Bharech, manager with Deloitte Haskins and Sells LLP)