New Delhi: Indian call centres and back-office operations of foreign banks and other overseas companies could end up having to shell out as much as Rs1,200 crore in extra taxes if the Supreme Court decides that such businesses are liable to be taxed under domestic rules, potentially eroding a big cost advantage for such outfits.
The apex court has completed hearings in a case that pits the income-tax department against the Authority for Advance Rulings, a quasi-judicial body whose rulings are binding on taxpayers and the government. The AAR had ruled against the department in a case involving the Indian back-office processing unit of Morgan Stanley.
At dispute is whether the Morgan Stanley operation, Morgan Stanley Advantage Services, can be considered a “permanent establishment” or not. Income-tax rules define such an establishment as a foreign-owned entity carrying out any business for at least six months in India. Such an entity can be a company—joint venture or a 100% unit of a foreign company—registered under Indian company law and will not include branch or liaison offices.
Such permanent establishments are taxed at 41.82%, as are other foreign companies operating in India. Meanwhile, domestic companies pay 33.66% tax. But almost all call centres and BPO firms operating in India are already exempt from corporate taxes under Section 10A and 10B of the Income-tax Act, as part of the Centre’s incentives to the booming sector. But this concession expires in March 2009.
In the case of Morgan Stanley, the AAR, formed last March, did rule that Morgan Stanley was indeed a permanent establishment but then said it still couldn’t be taxed as such because its local employees were paid ‘arms-length’ wages or compensated fairly under global trade laws.
The Court, which has heard arguments of the department as well as the local unit of the US investment bank, has reserved judgement and is now expected to make a final judgement in two weeks.
The I-T department has argued that the AAR has overlooked the fact that Morgan Stanley wouldn’t be able to provide securities services to clients without its Indian back office and thus a portion of Morgan’s income ought to be taxed in India. If the Court were to uphold the AAR ruling, it would help settle the BPO industry's concerns on whether the income generated by operations of foreign-owned call centres and tech support units in India can be taxed.
But, if its judgement goes in favour of the I-T department, the cost advantage foreign-owned call centres and tech companies currently enjoy in India could come under pressure. “If that were to happen, India would lose important clients to other outsourcing destinations,” said Vijay Iyer, partner at consultancy firm Ernst &Young.
So-called “permanent establishments” comprise 40% of India’s non-resident or international taxation income, which for the current fiscal year is projected at Rs11,700 crore or slightly more. If software and call centre units of foreign companies are taxed, the levies from permanent establishments could rise by a fourth, equivalent to Rs1,170 crore, said Sam Chopra, president of the Business Process Industry Association of India.
Software and BPO services, which are expected to earn $31.3 billion (Rs1,38,033 crore) through exports in fiscal 2007, are projected to reach $60 billion in exports by March 2010.