Tax incentive provisions normally have conditions applicable for the period within which the preferred activity should be undertaken and the period for which the tax incentive is available. It may also be necessary to fulfil certain other conditions, such as ‘forming’ of a ‘new’ undertaking.
Tax framework for start-ups in India
With a view to providing an impetus to start-ups and to facilitate their growth in the initial phase of their business, a deduction of 100% of the profits and gains derived by an eligible start-up from a business involving innovation development, improvement of products, processes, or services, or a scalable business model with a high potential of employment generation or wealth creation will be available.
The benefit of 100% deduction of the profits derived from such business will be available for a period of three consecutive years out of ten years beginning from the year the start-up is incorporated.
Eligible start-up companies can carry forward losses and set off against income of a year if they satisfy either of the following two conditions: (i) at least 51% of beneficial shareholders in the year on incurrence of loss continue to hold shares in such start-up in the year of set-off, or (ii) the same shareholders in the year of incurrence of loss continue to hold their shares in such start-up in the year of set-off (irrespective of their percent of holding). Further, only the losses incurred during the period of ten years beginning from the year in which such company was incorporated may be used for set-off.
‘Eligible start-up’ means a company or an LLP engaged in the business mentioned above and which fulfils the following conditions, namely:
- it is incorporated on or after 1 April 2016 but before 1 April 2024
- the total turnover of its business does not exceed INR 1 billion in any tax year(s) prior to which the deduction was claimed, and
- it holds a certificate of eligible business from the Inter-Ministerial Board of Certification as notified in the Official Gazette by the Central Government.
Other reliefs to start-ups
Capital gain exemption to individual/Hindu undivided family (HUF) on investment in start-ups
Currently, the law, subject to certain conditions, provides for capital gains exemption to an individual/HUF on sale of a residential property (a house or a plot of land), provided that the net consideration received is invested for subscription of equity shares of eligible companies (including eligible start-ups) and such funds are utilised by the eligible companies for purchase of new assets.
Compliance with the notification of exemption
Currently, notified companies (start-up companies) are exempted from taxability of consideration received for issue of shares, in excess of the FMV of such shares, subject to fulfilment of certain specified conditions.
Exemption will be withdrawn if the company fails to comply with any of the specified conditions and the income will be liable to tax in the year of such failure.
Real Estate Investment Trusts (REITs)/Infrastructure Investment Trusts (InvITs)
The Securities and Exchange Board of India (SEBI) has enacted regulations relating to two categories of investment vehicles, namely REITs and InvITs.
Pass-through status is provided to REITs in respect of income earned from renting, leasing, or letting out any real estate asset owned directly by the REITs. Thus, rental income is exempt in the hands of REITs. On distribution of rental income, REITs are required to withhold tax at the rate of 10% on income distributed to resident investors and at rates in force on income distributed to non-resident investors. Tax is not required to be withheld by tenants on payment of rent to the REITs.
The interest paid by special purpose vehicles (SPVs) to business trusts (BTs) (where BT holds controlling interest in SPV) is taxable at the investor level (as against the BT itself) when the BT distributes such amounts. Interest income to non-resident investors is taxable at a lower rate of 5% (plus applicable surcharge and cess), whereas residents are taxable at the applicable tax rates.
Dividends distributed by SPVs to the BTs are exempt in the hands of the BTs (where BT holds controlling interest in SPV). Further, dividends distributed to investors by REITs/InvITs are exempt in the hands of the unitholder if the SPV distributing such dividends to the REIT/InvIT does not opt for a lower corporate tax regime (i.e. the 22% tax rate exclusive of surcharge and cess).
Any capital repayment of debt by a BT should be taxable as income from other sources in the hands of unitholders at the applicable rates (with effect from 1 April 2023).
The prescribed mechanism to compute taxable amount (distributions representing capital repayment of debt) is provided below:
Taxable amount = A - B - C
(If taxable amount is negative, it shall be deemed to be zero)
A = Aggregate distributions representing capital repayment of debt (including distributions representing capital repayment of debt in the current year or previous years to existing unitholder or to a unitholder who held the unit in earlier years).
B = Amount at which such unit was issued by the BT.
C = Amount charged to tax under this clause in any earlier years.
Cost of acquisition of units of BT shall be reduced by capital repayment of debt that is not chargeable to tax under the heading ‘income from other sources’. Any capital repayment of debt prior to 1 April 2023 shall reduce the cost of acquisition of units of the BT.
Capital gains (e.g. on sale of shares of SPVs) (other than gains chargeable under relevant provisions of the Income-tax Act) are taxable in the hands of BTs at the maximum marginal rate. Any other income is taxable at the maximum marginal rate at the BT level. Onward distributions of such income are exempt in the hands of the investors.
Transfer of units of BTs through stock exchanges are liable to STT, and long-term capital gains (period of holding > 36 months) over and above of INR 100,000 on such sale of units will be chargeable to tax at the rate of 10% (plus surcharge and cess). A lower rate of 15% (plus applicable surcharge and cess) is applicable to short-term capital assets. Taxability of capital gains arising to sponsors on exchange of shares in SPVs with units of BTs is deferred to the time of disposal of such units by the sponsor. The applicability of MAT on gains arising from the swap of shares of the SPV for units of BT is deferred to the stage when the units are transferred by the BT. No capital gains tax exemption is available on the swap of other assets with units of BTs.
If a person receives tax exempt dividend on units of a BT within three months before the record date and transfers these units within nine months after the record date, loss on sale of such units, if any (to the extent of exempt dividend), shall be ignored for the purpose for computing income.
If a person receives bonus units of a BT within three months before the record date and transfers these units within nine months after the record date, loss on sale of such units, if any, shall be ignored for the purpose for computing income. Further, the loss ignored shall be considered as the cost of acquisition for the bonus units received.
Tax incentives for undertakings other than infrastructure development undertakings
If certain conditions are met, a tax holiday is permitted on the profits earned by an undertaking engaged in any of the following:
- Integrated business of handling, storage, and transportation of food grains.
- Commercial production or refining of mineral oils.
- Processing, preservation, and packaging of fruits or vegetables.
- Operating and maintaining a hospital in a rural area.
The tax holiday periods range from five to ten years, and the percentage of the rebate is 30%, 50%, or 100% in initial years and 30% in the later years. The number of years constituting ‘initial’ and ‘later’ years varies from sector to sector.
Tax incentives for development of affordable housing projects
A developer is eligible to claim 100% of deduction of the capital expenditure incurred wholly and exclusively for the purpose of development of projects qualifying as affordable housing projects as per specified criteria. However, the said deduction can be availed only on fulfilment of certain conditions. Some of the key conditions are:
- The developing company should not be formed by way of splitting-up or reconstruction of an existing business.
- The developer should invest in new plant and machinery only, provided up to 20% of total plant and machinery can be previously used machinery.
- Deduction will be allowed on all capital expenditure except for land, goodwill, and financial instruments.
- Deductions in respect of specified capital expenditure will not be allowed if incurred for the purpose of acquisition of asset for payment (individual or aggregate) exceeding INR 10,000 per day unless such payment was made by an account payee cheque/draft or through an electronic clearing system through a bank account.
- Depreciation will not be allowed if deduction is claimed in respect of expenditure on specified business.
- Specified deductions and lower tax regime as per the Income-tax Act will not be allowed.
Tax incentives for infrastructure development undertakings
Enterprises engaged in the business of power generation, transmission, or distribution; developing or operating and maintaining a notified infrastructure facility*, industrial park, or SEZ; or substantially renovating and modernising the existing network of transmission or distribution lines (between specified periods) are eligible for a tax exemption of 100% of profits for any ten consecutive years covered within the first 15 years of operation. Infrastructure projects, except for ports, airports, inland waterways, water supply projects, and navigational channels to the sea, will be eligible for a tax exemption of 100% of profits for any ten consecutive years covered within the first 20 years of operation.
An investment-linked deduction will be available to Indian companies or their consortium engaged in the business of developing or operating and maintaining of a new infrastructure facility. The taxpayers should have entered into an agreement with the Central or State Government or local authorities in respect of such activities relating to specified infrastructure facilities.
Since now there are investment-linked deductions, the profit-linked deduction available for infrastructure facilities have a sunset clause of 31 March 2017 for commencement of the operations. Thereafter, deduction of 100% of capital expenditure incurred on setting-up of the said infrastructure facility is available with effect from 1 April 2017.
* 'Infrastructure facility' means roads, including toll roads, bridges, rail systems, highway projects, water supply projects, water treatment systems, irrigation projects, sanitation and sewerage systems or solid waste management systems, ports, airports, inland waterways, inland ports, or navigational channels to the sea.
Tax incentives for exports
Export profit from a new undertaking, satisfying prescribed conditions and set up in an SEZ, is eligible for tax exemption of 100% for the first five years, from the year in which manufacturing commences, followed by a partial tax exemption of 50% for the next five years. A further tax exemption of 50% of the export profit for five years is also available after that, subject to an equal amount of profit being retained and transferred to a special reserve in the books of account. The said exemption is available on commencement of eligible business between 1 April 2006 and 31 March 2020.
The Government has further extended the above due date of 31 March 2020 to 30 June 2020, provided that the letter of approval is issued by the SEZ authorities on or before 31 March 2020.
Tax incentives for offshore banking units in an SEZ
A scheduled bank, or any bank incorporated by or under the laws of a country outside India, that has an offshore banking unit in an SEZ with a specified income that is subject to prescribed conditions is eligible for a tax exemption of 100% of the specified income for five consecutive years beginning from the year in which the permission under the Indian Banking Regulation Act, 1949 or permission or registration under the Securities and Exchange Board of India Act, 1992 (15 of 1992) or any other relevant law was obtained and of 100% of the specified income for five consecutive years thereafter for the tax year commencing on or after 1 April 2023.
International Financial Services Centre (IFSC) tax incentives
The following tax incentives are provided under the Indian domestic tax laws for units set up in the IFSC:
- A unit in the IFSC with specified income and subject to prescribed conditions is eligible for a tax exemption of 100% of the specified income for 10 years (at the option of the unit) out of 15 years beginning from the year in which the permission under the Indian Banking Regulation Act, 1949, permission/registration under the Securities and Exchange Board of India Act, 1992, or permission/registration under the International Financial Services Centres Authority Act, 2019 was obtained.
- MAT/AMT at 9% of book profits applies to company/others set up as a unit in the IFSC. MAT is not applicable to companies in the IFSC opting for lower corporate tax rates of 17.16%/25.17%.
- Capital gains earned by a non-resident on transfer of capital assets, being bonds, GDRs, derivatives, rupee-denominated bonds of Indian company issued outside India, and notified securities, such as foreign currency denominated bond, units of mutual funds, etc., undertaken on a recognised stock exchange located in any IFSC, and where the consideration for such transfer is received or receivable in foreign currency will not be taxable. Further, the requirement of payment of STT will not apply to transactions on stock exchange located in any IFSC. See Capital gains in the Income determination section for a description of the capital gains tax.
- Income earned by a non-resident from transfer of non-deliverable forward contracts, offshore derivative instruments, or over-the-counter derivatives, or on distribution of income on offshore derivative instruments entered into with a banking branch unit located in an IFSC that fulfils specified conditions, is exempt from tax.
- Income earned from transfer of an aircraft or a ship is eligible for exemption under the ten-year tax holiday for an IFSC unit.
- Income of a non-resident by way of royalty or interest paid by an IFSC unit, on account of lease of an aircraft or a ship, is exempt from tax.
- Income earned from transfer of equity shares of IFSC units (engaged primarily in the aircraft leasing business) by non-residents and IFSC units (engaged primarily in the aircraft leasing business) is exempt from tax, subject to satisfying the prescribed conditions.
- Dividend income issued by an IFSC unit (engaged in the aircraft leasing business) to another IFSC unit (engaged in the aircraft leasing business) is exempt from tax.
- Dividend income received by non-residents from an IFSC unit is taxable at a rate of 10% (plus applicable surcharge and cess).
- Income accruing or arising to a non-resident outside India and received by it in an account maintained with a banking branch unit located in an IFSC that fulfils specified conditions from a portfolio of securities or financial products or funds, managed or administered by any portfolio manager acting on behalf of such non-resident or such activity carried out by such person, as may be notified by Central Government in the Official Gazette, is exempt from tax.
- The income of a specified fund in an IFSC that fulfils certain prescribed conditions, attributable to units held by non-residents (not being the PE of a non-resident in India) or to the investment division of banking branch unit in an IFSC, is exempt from tax:
- Income from transfer of capital assets, being bonds, derivatives, rupee-denominated bonds of Indian company issued outside India, foreign currency denominated bond, units of mutual funds, etc. undertaken on a recognised stock exchange located in any IFSC, and where the consideration for such transfer is received or receivable in foreign currency.
- Income from transfer of securities (other than shares in an Indian company).
- Income from securities issued by non-resident (not being a PE of a non-resident in India) and where such income otherwise does not accrue or arise in India.
- Income from securitisation trust chargeable under the heading ‘profits and gains of business or profession’.
- Surcharge and health and education cess is not levied on specified income earned (such as dividend, interest, etc.) by certain specified funds (certain non-corporate entities only).
- Interest income paid to non-residents on:
- monies lent to IFSC units is not taxable, and
- long-term bonds and rupee-denominated bonds listed on IFSC stock exchanges is taxable at the following lower rates, subject to fulfilment of prescribed condition:
- Bonds issued before 1 July 2023: 4% (plus applicable surcharge and cess).
- Bonds issued on or after 1 July 2023: 9% (plus applicable surcharge and cess).
Tax Incentives for specified fund
The following incomes received by a specified fund (which refers to a specified Category III Alternative Investment Fund and investment division of a banking unit of a non-resident located in an IFSC) are exempt from tax:
- Income earned on transfer of specified capital assets, on a recognised stock exchange located in any IFSC, and where the consideration for such transaction is paid or payable in convertible foreign exchange.
- Income earned as a result of transfer of securities (as defined in SCRA or as notified by the Central Government) other than shares in a company resident in India.
- Income from securities issued by a non-resident (not being a PE of a non-resident in India) that does not accrue or arise in India.
- Income from a securitisation trust chargeable under the heading 'profits and gains of business or profession', to the extent such income is attributable to units held by a non-resident (not being the PE of a non-resident in India).
Safe harbour for offshore funds managed from India
To encourage the location of offshore fund managers in India, a specific regime has been laid down. In the case of an eligible investment fund, fund management activity carried out through an eligible fund manager acting on behalf of such fund will not constitute a business connection in India. An eligible investment fund will not be treated as resident in India merely because the eligible fund manager undertakes fund management activities in India. Offshore funds and fund managers are required to satisfy certain conditions to be eligible for the regime. Certain conditions are not applicable to funds set up by the government of a foreign state or the Central Bank of a foreign state, a sovereign fund, or such other funds as may be notified by the Government of India and subject to fulfilment of conditions as may be specified. Further, the special regime will be applied in accordance with guidelines and in such manner as the administrative board may prescribe. Further, in respect of eligible investment fund and eligible fund manager located in an IFSC, the Central Government may relax one or more conditions in the future by way of a notification.
Patent Box Regime
To encourage companies to locate high-value jobs associated with the development, manufacture, and exploitation of patents in India, the government has introduced a concessional taxation regime for income from patents. Accordingly, income by way of royalty in respect of a patent developed and registered in India earned by an eligible taxpayer will be subject to tax at the rate of 10% (plus surcharge and cess) on a gross basis with no allowance of expenditure incurred on royalty income.
An eligible taxpayer means a person resident in India, who is the true and first inventor of the invention, and whose name is entered on the patent register as the patentee.
Foreign tax credit
See Foreign income in the Income determination section for a description of the foreign tax credit regime.