Taxation of Permanent Establishment (PE) in India

Article 5 (1) of the Income Tax of India talks out the Permanent Establishment stating it is a fixed place from where business enterprises wholly or partly carry out their operations to generate revenue.

The permanent Establishment is considered the most crucial financial instrument in international fiscal law. The world is speeding its business activities under the garb of globalization, where it is necessary for all the nations to implement taxation rules for smooth functioning. The Organization for Economic Co-operation and Development (OCED), United Nations (UN), and United State of America (USA) have agreed to pursue Permanent establishment as the conventional model for taxation.

India is a developing country and has been carrying out various economic activities in domestic and international environments. The economic activities also include international collaborations, where foreign entities have made investments in India to generate revenues. Unlike other nations, the Indian government also levies taxes on such economic activities via permanent establishment.

Permanent establishment (PE) was thus formulated to levy taxes on the income generated. There are two major grounds for Permanent Establishment taxation –

• Residential taxation – The permanent establishment rule under residential taxation says that if an individual in India is earning revenues by carrying out business activities globally, they are liable to pay taxes under residential taxes.
• Sourced Taxation – The permanent establishment rule under sourced taxation mentions that if a foreign business or entity is partially or wholly operating any economic activities in India to generate income, they are bound to pay taxes under sourced taxation.

Types of Permanent Establishments (PE) in India

There are various types of permanent establishments in India according to the nature and operational activities of a business entity. For example –

1. Fixed Place Permanent Establishment – The Fixed Place permanent establishment for a  foreign business entity is based on sourced taxation. However, there are certain parameters that need to be confirmed before labelling it as Fixed Place permanent establishment.

• The company must have a physical office for its operations, the property can be owned, rented, or leased by the company depending upon their choice.
• In case, if the foreign business operational activities are carried out from the residence of the foreigners or the natives of the country, the residential place will be regarded as the Fixed Place permanent establishment.
• The company must have operated for a specific time period, a short-term or casual financial transactions do not come under permanent establishment.
• Office, factory, workshop, Sales Outlet, warehouses, mines, quarry, etc come under permanent establishment.

2. Construction Permanent establishment– India is a part of the tax treaty with various nations worldwide under which a foreign enterprise is liable to pay permanent establishment taxes for constructional activities only when the project has extended the prescribed time. The company mentions a specific time period required for construction activities during approval. When the company extends the time period, they are levied taxes and charges. In most of the tax treaties, if the below-mentioned activated are carried for more than six months, charges are implied upon the company. The treaties also mentioned a threshold limit for the completion of a project.

• The Tax treaty is deciding factor whether the planning period spent by the supervisory team in the country should be taken into the account and charged under Construction permanent establishment.
• For constructional and installation activities, foreign companies can also outsource local labor and contractor for the completion of the project.
• Constructional activities include bridges, roads residential societies, etc 
• The installations projects of machinery, pipelines, technical network, etc come under Construction permanent establishment.

3. Dependent Agency Permanent Establishments (DAPE) – DAPE recognizes native citizens acting or representing foreign businesses as foreign entities. International companies hire Indians as their representatives in India to eliminate taxation on the permanent establishment, however, the Income Tax clearly specifies that –

• If an individual is economically dependent on a foreign enterprise, acts as the representative of the company with an authority to enter into contracts and regulate its terms and conditions on behalf of the foreign enterprises, the foreign enterprise will be charged under Dependent Agency permanent establishment (DAPE)

4. Subsidiary permanent establishment – The word subsidiary means a branch from the main or the parent company. Any foreign parent company that carries out its operational activities via a subsidiary company by fulfilling the provisions of permanent establishments will be taxed under Subsidiary PE.

Major Concerns with PE establishment in India

There are various concerns that business entities have to contemplate upon before the establishment of PE in India –

• After establishing a PE in India, the company is liable to pay taxes according to the revenue generation and profit acquisition. Article 7 of the Tax Treaty terms permanent establishment taxation as the ‘business income’ of the country.
• The profit margins of foreign enterprises reduce in permanent establishment comparatively from independent operations. The enterprise has to mandatorily maintain books of accounts and records.
• The foreign enterprise will have to register themselves for PAN card, TAN, and other Indirect Taxes
• The Net Profit of the foreign enterprises operating in India is liable for taxation under permanent establishment. The Net Profit also excludes the tax-deductible expenses.
• The foreign enterprise will also have to take care of the Retention Tax popularly known as Withholding Tax (WHT) 

Conclusion

Permanent establishment taxation is one of the most crucial instruments for the financial growth of a nation. The concept promotes globalization and individual growth by contributing to the financials of the countries. This taxation scheme provides exposure to the foreign enterprises in the sourced countries, helping them to strategize their investment model and goals accordingly.