1. Foreign Exchange and Capital Flow
Q1: Is there a foreign exchange control regime in India? Are there any official exchange rate that is different from the market rate? Are there any quotas or other restrictions on foreign exchange?
Foreign exchange is holistically governed under FEMA along with the FDI Policy and NDI Rules. For any investment transaction, typically any mutually decided rates between parties as per the Reserve Bank of India reference rate or National Stock Exchange’s FX rates are applicable to the transactions. The restrictions or quotas for foreign exchange have been mentioned in detail in response to the first question above.
Q2: Will the Chinese investor be free to send money into India to invest in the project companies or to pay the sellers?
Chinese investors may send money into India to invest in the project companies or to pay the sellers of the target company only subject to the Press Note 3 approvals, sectoral approvals, laws, and regulations as mentioned above.
Q3: Will the Chinese investor be free to dividend the profit out of India or receive payment from India for sale of the project, after the payment of relevant taxes?
Subject to the pricing guidelines mentioned in the NDI Rules, regulatory approvals, laws, regulations, and certain filings as mentioned above, Chinese investors are free to dividend the profit out of India or receive payment for sale of the project, after the payment of relevant taxes.
Q1: Could you briefly introduce the main taxes on businesses, business owners and business managers in India?
The two types of taxes in the Indian business tax system are pertaining to direct tax, and indirect tax. Indirect taxes can vary from taxes applicable on trade and supply of goods and services (goods and services tax), imports (customs duty) and employment (professional tax).
The key legislation governing taxation of income in India is contained in the Income Tax Act, 1961 and the rules, notifications, and circulars issued there under (“ITA”). The tax rate which is levied on any income is comprised of the base tax rate, the surcharge, and the cess. Under the ITA, the tax rate applicable to domestic companies for the financial year 2023-2024 ranges from 15% (fifteen percent) to 30% (thirty percent) (plus applicable surcharge and health & education cess) depending on various factors such as incorporation date, nature of business activities, gross turnover / receipts threshold and eligibility of any beneficial tax regime. It is also pertinent to note that, in certain circumstances, a company is also liable to pay Minimum Alternate Tax (“MAT”) at the rate of 15% (fifteen percent) of book profits (plus applicable surcharge, health and education cess) where the tax liability, under normal provisions, is less than 15% (fifteen percent) of book profits.
Foreign companies which are operating without any subsidiary in India are typically taxed at 40% (forty percent) (plus applicable surcharge, health and education cess) on income in India attributable to the foreign company.
Depending upon the nature of income, income will be classified into five major heads, which are income from salary, income from house property, income from business and profession, capital gains (an example being income arising from sale of assets such as securities) and income from other sources (some examples being interest, dividend and royalty).
An Indian company is liable to tax on their total income on net basis (i.e., gross receipts minus eligible expenses). An Indian company is also eligible to opt for certain beneficial tax regimes [such as lower tax rate for certain domestic companies or newly incorporated manufacturing companies, setting up a unit in International Financial Services Centre (IFSC)] under ITA on satisfaction of the prescribed conditions.
Indian tax laws also provide for withholding tax obligations in the hands of Indian entities with respect to any foreign remittances, which are taxable in India in the hands of non-residents. It must be noted that where any income is taxable under the provisions of Indian tax laws in the hands of a non-resident, such a non-resident person/entity will be governed by the provisions of the Indian tax laws or the applicable tax treaty, whichever is more beneficial to such non-resident person/entity. However, to avail beneficial treatment under a tax treaty, such non-resident will inter alia have to fulfil certain preliminary conditions, such as obtaining a tax residency certificate (“TRC”) from their local tax authorities, satisfy the principal purpose test substance requirements, etc.. Consequentially, the relevant withholding tax rate, in case of payment to non-residents, would depend upon the tax rate provided under the Indian tax laws or as per the relevant tax treaty, whichever is more beneficial to such non-resident person/entity.
Furthermore, in cases where international transactions are carried out between two associated enterprises (AEs) (i.e. related parties) and such transactions have a bearing on the capital, profit, income, losses or assets of such enterprises, any income arising from such international transactions shall be computed having regard to the arm’s length price (i.e., fair market value) as per Indian transfer pricing regulations.
Indian tax laws recognize a broad range of taxable persons, including individuals, Hindu undivided families, companies, partnership firms (including limited liability partnerships), associations of persons or bodies of individuals, whether incorporated or not, local authorities and all artificial legal persons that do not fall within any of the specified categories. Different tax rates are prescribed for each category of taxpayer. For example, partnership firms and limited liability partnerships are taxed at the rate of 30% (thirty percent) (plus applicable surcharge, health and education cess), whereas companies are taxed at the rate, which ranges from 15% (fifteen percent) to 30% (thirty percent) (plus applicable surcharge, health and education cess). Additionally, it is pertinent to note that dividend distributed by Indian companies are liable to tax in India in the hands of shareholders whereas share of profit from a partnership firm and limited liability partnerships are exempt from tax, assuming that tax has been paid at the partnership level.
Q2: What are the taxes that will be levied upon investment in or acquisition of the target?
Acquisition of the target
At the outset, it is pertinent to note that no income tax is levied, under Indian tax laws, on acquisition of any securities in India. However, there could be certain income-tax implications in India if the acquisition of such securities does not take place at fair market value (computed as per prescribed guidelines under Indian tax laws).
Primary Infusion: ITA provides that if an unlisted private limited company issues shares to a resident as well as foreign investor at a premium, and if the aggregate consideration for such issuance exceeds the fair market value of the said shares, then such excess amount received over the fair market value of the shares would be taxable in the hands of the company issuing shares, as income from other sources. However, these provisions inter alia may not be applicable to qualifying ‘start-up companies’ registered with Department for Promotion of Industry and Internal Trade or where such consideration is received from a venture capital company or a venture capital fund or a Category I or a Category II Alternative Investment Fund registered with the Securities and Exchange Board of India.
Secondary Acquisition: Where any person acquires any shares or securities from any person for a consideration, which is lower than the fair market value by more than a specific threshold, then difference between the fair market value and such consideration would be taxable in the hands of acquirer as well as the transferor.
Further, a foreign investor may be liable to withhold tax at source as per applicable rate and discharge the same to the Indian exchequer on acquisition of such securities from another foreign investor.
Transfer of Securities
Transfer of securities of an Indian entity by a foreign investor would be primarily chargeable to tax under the head of capital gains. Depending upon the period of holding for which the securities are held, the gains would be characterized as long-term capital gains or short-term capital gains. The applicable capital gains tax rate would typically depend upon the nature of gains, type of security, holding period, nature of entity holding such security and eligibility to claim tax treaty benefits. Generally, in case of foreign investors, long term capital gains are taxed at 10% (ten percent) (without indexation benefit) and short-term capital gains are taxed at 40% (forty percent) or the applicable income tax slab rates in case of individuals, excluding applicable surcharge and cess.
If a foreign investor earns any dividends from an investee company, such income would be subject to tax at the rate of 20% (twenty percent) (plus applicable surcharge and cess) subject to beneficial tax rate, if any, under the relevant tax treaty. For instance, as per India-China tax treaty, the dividend income shall be taxable in India at a lower rate of 10% (ten percent) if the recipient is the beneficial owner of such dividends.
The ITA also requires that a person making payment to a non-resident, which is chargeable to tax in India, must withhold appropriate tax on such income. Accordingly, any payment received by a foreign investor on alienation of shares of an Indian company may be liable to withholding tax in India at the statutory rates prescribed under the ITA, as discussed in the previous paragraph.
Q3: Are there any tax haven jurisdictions with a favourable tax treaty with India that are often used for acquisition of targets? What would the tax rates be for the acquisition if such tax haven is used?
There are several jurisdictions, which have tax treaties with India. However, in using intermediate holding companies set up in such jurisdictions, the foreign investor must also evaluate whether it would be eligible to claim the tax treaty benefits under their specific investment scenario. An indicative list of such parameters to determine eligibility to claim tax treat benefits would be availability of TRC, satisfaction of ‘Limitation of Benefits’ clause, principal purpose test and substance requirement, etc.
With respect to capital gains on transfer of securities, most tax treaties do not provide for any specific tax rate but grant the right to levy tax either to the source country or the country of residence, as per their respective domestic tax laws. Further, the type of security (i.e., equity or debt) that is used to invest into an Indian company may also determine which country gets the taxing rights. Accordingly, the capital gains tax implications on transfer of securities may have to be examined on a case-by-case basis, to ascertain the taxability.
Further, incomes such as dividends, interest, and royalty may also be eligible for lower tax rates under relevant tax treaties. This may also potentially impact the decision of investors to invest through a specific jurisdiction.
Q1: Are there any requirement for local directors? Are there any requirement to hire local workers or restrictions on hiring foreign workers?
CA 2013 does not place any specific restrictions with respect to appointing directors who are not Indian nationals, apart from the conditionalities which are applicable to all directors appointed on the Board, or conditionalities under certain regulated sectors like insurance etc. Having said that, in terms of the CA 2013: (i) every company must have at least one director who is an Indian resident (i.e. who has stayed in India for a total period of not less than 182 days during the relevant financial year); (ii) foreign nationals can only be appointed as a whole time director or as a managing director of an Indian entity if they are resident in India (i.e. those who have been staying in India for a continuous period of at least 12 months immediately preceding the date of appointment, and have the requisite employment visa).
Hiring Local workers
There could be certain state and/or industry specific rules or incentives which require a certain percentage of workforce to be engaged from those who are domiciled in a particular area. However, these requirements are often challenged and may not be enforced very strictly.
Hiring Foreign Workers
Indian labour and employment laws do not bar foreign nationals from working for Indian entities. Once foreign nationals become employees of Indian entities, they will be subject to all key employment legislations such as:
(i) the Industrial Disputes Act, 1947, which addresses disputes between workmen and employers;
(ii) the Employees Provident Fund Act, 1952, which is a key social security legislation. Here a separate set of rules apply to foreign nationals who are employed by Indian entities;
(iii) the Sexual Harassment of Women at Workplace (Prevention, Prohibition and Redressal) Act, 2013;
(iv) the Maternity Benefit Act, 1961 which provides for maternity and other benefits;
(v) State-specific Shops and Commercial Establishments Act, which regulates the conditions of work; and
(vi) the Payment of Gratuity Act, 1972, which is a form of retirement benefit provided for employees who continuously serve an organization for a specified duration.
Q2: Could you briefly introduce how labour unions function in India and how it affects businesses and business owners?
In India, labour/trade unions are governed under the provisions of the Trade Unions Act, 1926 (“TU Act”) and Industrial Disputes Act 1947 (“ID Act”). Depending on the industry and the state in question, there would be additional central and state specific legislations and rules that would have to be looked into. Historically, labour/trade unions operated in the more traditional industrial sectors such as manufacturing, estates, mills, etc., however, today there are unions in the IT sector as well.
The TU Act provides for the formation and registration of trade unions, and describes their rights, obligations and liabilities. It is to be noted that an establishment can have more than one registered union. In practice, some of the registered unions are affiliated with larger unions who often have political backing. This can result in business disruptions in certain instances.
The ID Act, on the other hand, addresses matter such as collective bargaining, entering into settlement agreements with unions, unfair labour practices, involvement of unions in employee disputes, manner in which strikes must take place, etc. If in a particular establishment the workforce is unionized, the following would (among others) require union involvement, and would therefore have to be handled in accordance with a carefully calibrated strategy : (i) industrial disputes; (ii) fixing and/or altering work conditions, employee benefits and allowances; (iii) framing internal policies / certifying ‘standing orders’; (iv) entering into and implementing settlement agreements; (v) implementing any downsizing / reduction in force exercise.
Q3: If the Chinese investor needs to send certain management employees, engineers, from China or other countries to India to manage the target. What types of visas do these employees need and how long will that entitle them to stay in India? Are there any difficulties in getting or renewing these visas?
Broadly, two types of visas may be considered in such a scenario. A Business Visa (“B -Visa”) or an Employment Visa (“Emp-Visa”). Other visas such as Project Visas can also be explored, depending on specific facts and circumstances.
Emp-Visas are granted to foreigners desiring to come to India for the purpose of execution of projects or contracts, for working as employees / consultants on fixed remuneration, for providing technical support services, among other things. Such foreign nationals must typically draw an annual salary of USD 25,000 (INR 16.25 Lakhs) or more and should be highly skilled or a qualified professional engaged by a company or organization in India. Emp-Visa shall not be granted (i) for jobs for which qualified Indians are available and (ii) for routine, ordinary or secretarial/clerical jobs.
Subject to fulfilment of requisite conditions, Emp-Visas can be issued for a time period between 2 (two) to 3 (three) years. If an Emp-Visa is granted for a period of more than 180 days, the visa holder shall be required to register with the Foreigners Regional Registration Office (FRRO)/ (Foreigners Registration Office) FRO concerned within 14 days of arrival in India.
The Emp- Visa can be extended by the concerned authorities for up to a total period of 5 (five) years from the date of issue of the initial Emp- Visa, on a year-to-year basis.
B-Visa is typically granted to a foreign national who meets certain conditions to visit India such as (i) to establish an industrial/business venture or to explore possibilities to set up industrial/business venture subject to certain conditions; (ii) visiting India for technical meetings/discussions, attending board meetings or general meetings for providing business services support; (iii) those who are partners in the business and/or functioning as directors of the Indian company. Further, for Chinese nationals, provisions as available in the bilateral agreements/ policy guidelines will be applicable as regards the duration for which such visas are granted.
There are also special conditions to grant B-Visa to Chinese nationals. For example: (i) 6 (six) months multiple entry B-visa is granted to Chinese nationals who can produce a letter of invitation from a ‘recognized Indian organization’ with the stipulation that the period of stay shall be less than 90 (ninety) days on each visit; (ii) 60(sixty) days single entry visa is granted to Chinese nationals who cannot produce any invitation letter from a recognized Indian organization but produce a letter of request from a duly authorized Chinese organization (this is also defined);(iii) short-term (not exceeding 60 (sixty) days) single-entry B-visa is granted to Chinese nationals who are unable to produce any documentary proof referred to above.
Further, the B-visa granted to Chinese nationals may be extended by the concerned authorities for a period between 60 (sixty) days to 180 (one hundred and eighty) days depending on the initial duration for which it was granted and certain other conditionalities.
It is to be noted that as per the information provided on the official website of the Consulate General of India, Guangzhou, travel to India on e-visas has currently been suspended temporarily for Chinese passports and applicants of other nationalities residing in the People’s Republic of China.
Q4: Are there any mandatory requirements on working conditions , working hours or other aspects of the business that may significantly affect the costs of labour for a foreign investor?
In India, the Central and State Governments have co-equal powers to make laws governing working conditions of employees. Various State Governments have enacted the Shops and Establishments legislation (“S&E Act”) which regulates working hours, conditions, leaves, holidays, etc. of the persons employed in shops or commercial establishments operating in that particular State. The Factories Act, 1948 regulates the working conditions of the employees working in factories. There are elaborate requirements prescribed herein, in terms of welfare facilities and working conditions.
While the provisions of the S&E Act varies from State to State, some common conditions are: (i) one day off in a week at the minimum; (ii) categorisation of leaves into annual, sick and casual leaves; (iii) working hours range from 8-9 hours a day and 40-48 hours a week (iv) requirement to pay overtime at double wages, if working hours extend beyond prescribed limits; (v) requirement to provide national and festival holidays as mandated by the concerned State Governments, and compensatory offs if employees are required to work on those days.
In addition to S&Es, employers would also have to comply with other wage and payments related legislation such as Minimum Wages, Act, 1948, Maternity Benefit Act, 1961 (in terms of which women employees are entitled to 26 weeks of paid maternity leave for the first two children), Payment of Bonus Act, 1965, Payment of Gratuity Act, 1972, Payment of Wages Act, 1936. Each of these legislations have separate eligibility criteria and other requirements.
Q5: Are there any other points that you would like to bring to the attention of Chinese investors looking to invest or acquire targets in India?
One of the important aspects for any foreign investor including Chinese investors looking to invest or acquire targets in India is to note the growing shareholder activism in India. Shareholder activism in India is slowly growing into an effective tool. Most cases of activism arise when the majority shareholders move forward with a deal that leaves the minority shareholders unfairly prejudiced. The CA 2013 provides for the institution of class action suits against any mismanagement or misconduct in the affairs of a company. Furthermore, if the affairs of a company are being conducted in a manner prejudicial to the public interest, the interest of any member or depositor of the company, or if any person or group of persons are affected by any misleading statement or the inclusion or omission of any matter in the prospectus, then proceedings may be instituted according to the provisions of the CA 2013.
Another important aspect to consider for a Chinese investor intending to appoint a director in an Indian company is the role directors play in an Indian company and the duties such investor nominated directors have on the board of Indian companies. The generally accepted principle under company law and in Indian jurisprudence, is that a director has a fiduciary duty to act in good faith for the benefit of its members as a whole and in the best interest of the company. The law mandates directors to act in good faith in the best interest of the company, its employees and shareholders, and the wider community, as well as to consider protection of the environment. Separately, Indian law mandates that directors disclose their interests in other entities annually and update such disclosures timely. Furthermore, directors are required to ensure that their interests do not conflict with those of the company and any interested director is not allowed to participate in meetings or vote on matters in which they have an interest.