NITI Aayog Proposes widening of Presumptive Tax to boost FDI

In a significant move to accelerate foreign direct investment (FDI), NITI Aayog released a working paper on Friday proposing an optional presumptive taxation system. This proposed regime, featuring sector-specific benchmarks, is designed to mitigate the long-standing uncertainties around the creation of a Permanent Establishment (PE) and the subsequent attribution of profits for overseas investors in India.

The paper, titled ‘Enhancing Certainty, Transparency, and Uniformity in Permanent Establishment (PE) and Profit Attribution for Foreign Investors in India’, outlines a multi-faceted strategy.

Apart from its presumptive tax model, its recommendations encompass achieving broader legislative clarity, enhancing administrative efficiency, forming robust dispute resolution mechanisms, and aligning India’s policies with international best practices.

The paper asserts that this “multi-pronged approach is anticipated to dramatically reduce litigation, boost investor confidence, improve administrative efficiency, and secure India’s tax base by attracting higher quality, sustainable FDI.”

Details of the Proposed Presumptive Tax Regime

The presumptive taxation model would permit foreign companies to choose a simplified method of calculating taxable income as per a predefined percentage of their gross receipts. For instance, it is advised that profit attribution percentages could be at 5% of gross receipts for offshore supply and 20% for onshore services could be benchmarked.

A crucial provision of this proposal is that if a foreign enterprise elects for presumptive taxation for a specific activity, the tax authorities would be barred from separately litigating the existence of a PE for that very activity. This offers a clear path forward for investors by effectively sidestepping the protracted and complex PE threshold debate.

The proposal is particularly relevant given that major PE disputes in India often take between 6 to 12 years to reach a final resolution, consuming significant resources and escalating compliance costs and interest liabilities for foreign firms.

Emphasis on Legislative Clarity and Efficient Dispute Resolution

To foster a more predictable tax environment, the NITI Aayog report emphasizes the crucial need to codify clear principles for PE and profit attribution directly into domestic tax law. These definitions should be harmonized with internationally accepted interpretations from the OECD and UN Models, while also strategically preserving India’s source-based taxing rights where necessary to protect its revenue base.

Furthermore, the paper calls for a significant infusion of resources to expand the capacity of the Advance Pricing Agreement (APA) and Mutual Agreement Procedure (MAP) programs. This investment is aimed at drastically cutting down the resolution timelines for both prospective certainty (through APAs) and existing cross-border disputes (through MAPs).

Next Steps and Industry Perspective

The report delineates the potential next steps, which would involve the Ministry of Finance considering these recommendations. This could include constituting a working group to draft the required legal provisions, consulting with key stakeholders such as industry bodies, tax professionals, and treaty partners, and ultimately incorporating the final proposals into an upcoming Finance Bill. The paper notes that the present time is opportune for implementing such a comprehensive presumptive regime.

Echoing the report’s intent, Vishwas Panijar, Partner at NangiaNXT, commented on the dual benefits of the proposal. “For foreign investors, the advantages are clarity in compliance, reduction in litigation risk, lower costs of doing business, and improved ease of operations in India,” he said. Panijar added that for the Indian economy, it translates into attracting foreign investment that is “rooted in genuine economic activity rather than facilitating tax arbitrage.”