Every business that pays money out of India eventually meets section 195. It applies to software licences, professional fees, group recharges, royalties, interest, commission, dividends and a long list of other payments. It is also one of the provisions where a mistake is expensive in two directions at once: the payer loses the deduction for the expenditure, and separately becomes liable for the tax it should have withheld.
The difficulty is rarely the rate. It is the analysis that precedes the rate.
The question that comes first
Section 195 requires deduction from any sum paid to a non-resident which is chargeable to tax in India. Those five words carry the whole provision. If the sum is not chargeable to tax in India, there is nothing to deduct.
Chargeability is determined by reading the domestic law and the applicable tax treaty together. A payment for the purchase of goods from an overseas supplier is ordinarily not chargeable to tax in India in the supplier’s hands, and no deduction arises. A payment characterised as royalty or fees for technical services may be chargeable even though the recipient has no presence in India at all. A payment that would be business profits under a treaty is generally taxable in India only if the recipient has a permanent establishment here.
So the sequence is:
- Characterise the payment. What is actually being paid for — goods, services, the use of a right, the use of equipment, interest, a reimbursement?
- Test chargeability under domestic law. Does it accrue or arise in India, or is it deemed to?
- Test chargeability under the treaty, if one applies and is beneficial. The taxpayer may adopt whichever of the domestic law and the treaty is more favourable.
- Only then, determine the rate and whether surcharge and cess apply.
Skipping to step four is the most common error we see in this area. Our note on how a DTAA operates sets out the treaty framework in more detail.
What section 195 actually requires
Deduction is required at the time of credit of the sum to the account of the payee or at the time of payment, whichever is earlier. Credit to a suspense account or any other account is treated as credit to the payee’s account, which means an accrual entry at year end can trigger the obligation even though no money has moved.
The person responsible for paying is the deductor. There is no turnover threshold and no minimum amount; an individual remitting a taxable sum abroad is within the section just as a company is.
The rate is the rate in force for the relevant category of income, as modified by the treaty where the treaty is beneficial and the conditions for claiming it are satisfied. Where the recipient has not furnished a PAN, the provision dealing with failure to furnish PAN can apply, subject to the relief available where the prescribed alternative details and documents are furnished.
Unlike most other withholding provisions in Indian income tax compliance, section 195 has no threshold and no minimum amount.
Form 15CA and Form 15CB
These two forms are the reporting mechanism that sits around section 195. They are frequently described as though they impose the tax. They do not — they report a remittance and record the basis on which withholding was or was not applied.
Form 15CA is furnished by the remitter on the e-filing portal. It has four parts, and the part that applies depends on the amount and on whether an order or certificate has been obtained:
| Part | When it is used |
|---|---|
| Part A | The remittance is chargeable to tax and the aggregate of such remittances in the financial year does not exceed five lakh rupees. |
| Part B | The remittance is chargeable to tax, exceeds five lakh rupees, and an order under Section 195(2) or 195(3) or a certificate under Section 197 has been obtained. |
| Part C | The remittance is chargeable to tax, exceeds five lakh rupees, and no such order or certificate has been obtained — an accountant’s certificate in Form 15CB is required. |
| Part D | The remittance is not chargeable to tax under the provisions of the Act. |
Form 15CB is a certificate from a chartered accountant recording the nature of the remittance, the provision under which it is taxable, the treaty article relied on if any, the rate applied and the basis for it. It is required where Part C applies.
The authorised dealer bank will ordinarily not process the remittance without the relevant acknowledgement. That commercial gatekeeping is why these forms attract so much attention, but it is worth keeping the hierarchy straight: the withholding obligation arises from section 195; the forms record how it was discharged.
When no form is required
Rule 37BB prescribes a list of remittances for which Form 15CA and Form 15CB are not required. The list runs to a number of specified purposes and includes categories such as indemnity payments, imports in specified circumstances, remittances by individuals under the Liberalised Remittance Scheme for certain purposes, payments for travel and education in specified cases, and remittances by the Government.
Two cautions apply. First, the list is by purpose code, and the purpose code has to genuinely describe the payment. Second, exemption from the reporting requirement is not exemption from section 195. A remittance may fall outside the form requirement and still be a sum chargeable to tax from which deduction was required.
The treaty documents that decide the rate
Where a beneficial treaty rate is claimed, the documents matter as much as the analysis. The department’s position, and the position taken in assessments, is that the conditions for treaty entitlement must be established at the time of the remittance rather than reconstructed later.
The usual set is:
- Tax Residency Certificate issued by the tax authority of the other country, for the relevant period.
- Form 10F, which supplies the particulars not contained in the TRC. This is now filed electronically on the e-filing portal, and a non-resident without a PAN follows the prescribed route for registration and filing.
- A no permanent establishment declaration, where the treaty article relied on requires the absence of a PE — typically for business profits, and often for fees for technical services under treaties with a make-available or PE-linked condition.
- Beneficial ownership confirmation, where the treaty article for interest, royalties or dividends conditions the reduced rate on beneficial ownership.
A file that contains the analysis but not the documents tends to fail at assessment. A file that contains the documents but no analysis tends to fail on characterisation. Both are needed.
Characterisation and treaty entitlement are among the most frequently contested issues in cross-border tax litigation.
The certificate route under sections 195(2), 195(3) and 197
Where the whole of a payment is not income, or where the appropriate rate is lower than the rate that would otherwise apply, waiting for a refund is a poor outcome. Three routes exist:
Section 195(2) allows the payer to apply to the Assessing Officer for a determination of the appropriate proportion of the sum chargeable to tax. This is the route where, for example, a composite payment includes a substantial non-taxable element.
Section 195(3) allows the recipient, in prescribed circumstances, to apply for receipt without deduction.
Section 197 allows the recipient to apply for a certificate authorising deduction at a lower rate or nil rate. The application is made electronically and is supported by computations, the return history and the basis on which the lower rate is justified.
These applications take time and are best initiated well before the payment is due. A certificate obtained after the remittance does not cure a failure to deduct at the time of the remittance.
Grossing up
Where a contract provides that the non-resident is to receive a sum free of Indian tax, the tax borne by the payer is itself treated as income, and the amount is grossed up so that the net receipt equals the contracted figure. The effect is that the cost to the payer is higher than the headline rate suggests.
This is a contracting point as much as a tax point. A withholding clause that says “all payments shall be made free and clear of any deduction” transfers the entire Indian tax cost to the payer, often without either party having priced it. Where a treaty rate is available but the documents are not produced, the payer bears the difference. Contracts are better drafted to make the treaty documents a condition of the beneficial rate, with the recipient bearing the consequence of not producing them.
The drafting point belongs as much to corporate law compliance as to tax, because it is settled in the contract rather than in the return.
What goes wrong
Disallowance of the expenditure. Failure to deduct, or to pay over what was deducted, on a payment to a non-resident results in the expenditure being disallowed in computing business income. For a substantial payment this is often a larger number than the tax itself.
Assessee-in-default proceedings. The payer becomes liable for the tax not deducted, along with interest running from the date deduction was due.
Characterisation disputes. The recurring battlegrounds are software payments, group cost allocations described as reimbursements, and payments for services said not to make technology available. These turn on the contract, the invoices and what was actually supplied.
Reimbursements assumed to be outside the section. A payment described as a reimbursement is not automatically outside section 195. The question is whether it carries an income element, and that depends on the underlying arrangement and on evidence of the actual cost incurred.
Year-end accruals. Provisions created at year end for services received from a group entity attract the section on credit, even though the invoice and the remittance follow months later.
Each of these is a routine part of business taxation services work, and each is avoidable with a file built at the time of the payment rather than afterwards.
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