Source: Financial Express, Feb 29, 2012
With multinationals spreading their arms across global frontiers, the concept of tax residency is gaining momentum and playing pivotal role in structuring their business models. The introduction of Place of Effective Management (POEM) concept in the much-debated Direct Taxes Code (DTC) reinforces its significance in re-designing the laws of residency, since Poem determines the scope of income. The Poem test takes leapfrog from the test of residency under the extant income tax legislation, which provides that a foreign company is resident in the taxable territories, ie in India in any year, if during that year the control and management of its affairs is situated wholly in the taxable territories.
The qualification for the company residency under the prevailing income tax laws is significantly restricted and requires ‘whole of the control and management’ to be situated in India. Part control located outside India at any time during the year is cushion against trigger of residency in India.
The ‘Residency Test’ proposed in draft DTC of 2009, had wide implications due to its skeletal threshold limit provided for foreign companies and could have perplexed the taxation of foreign companies in India, according to which almost every foreign company would have fallen into the Indian tax net, maimn their global income to be taxed. In the revised plan of 2010, Section 4(3) of DTC provides a company to be resident in India if it is an Indian company or its Poem, at any time in the year, is in India.
The revised DTC defines Poem to be the place where the Board of Directors (BoD) of the company or its Executive Directors (ED), make their decisions; or in a case where the BoD routinely approve the commercial and strategic decisions made by the ED or officers of the company, the place where such ED or officers of the company perform their functions.
Although, introduction of Poem test in Indian legislation is an attempt to adopt internationally accepted principles, it is likely to have an impact on companies having Indian branches, foreign subsidiaries of Indian parents, overseas companies having global reporting structure in India, to name a few. Furthermore, the India-headquartered companies having outbound operations should gain grass root understanding of the Poem test and keep their management apprised of all developments to dilute the propensity of risk. Such companies should preempt repercussions of the Poem concept on their transactions that are likely to have an India connection and should take steps to insulate themselves from any uncertain tax positions. Dearth of a proactive approach could act as deterrent at the implementation stage of transactions and can prove to be fatal in terms of interest and penalties.