Section 206AA

Impact on Resident Payee:

In majority of cases, the non-resident supplier or recipient is not able to recover such a high amount in the form of withholding tax and therefore, adds it to the cost of supplies to the resident Indian. This in turn results in discouragement in setting up of businesses in India.

It is possible that Section 206AA is not applicable to residents whose income from rent, salary or professional income is lower than the threshold limit according to the Sections 192 to 194LA of the Income Tax Act. However, there is no authority that can claim that Section 206AA will not apply to residents with income below threshold limits as stated in Chapter XVII B of the IT Act. There has not been much clarity on all TDS provisions and over time, businessmen and the corporate world have come to live with this non-clarity.

Impact on Non-resident Payee:

1. In case of payment from a resident payee to non-resident recipients who are in business with Indian residents, this amendment is very unclear. The difficulty arises mostly when the non-resident insists that the tax should be paid by Indian residents. In such cases, when obtaining the PAN becomes difficult, the Indian resident is forced to deduct higher tax, which is higher than the profit from that transaction or business.
2. According to the Section 90(2) of the Income Tax Act, in cases when the provisions of the Act are expected to provide more benefit than a treaty, the provision overrides. In this case, the Section 206AA provision overrides Section 90(2) of the Income Tax Act.

Anomalies:

Lack of clarity in the provisions of Section 206AA can lead to various anomalies, some of them are:

1. Even when tax is deducted under Section 206AA at a rate of 20%, the deductor still carries a risk of violation of Section 139A. In such cases, penalty under Section 272B cannot be ruled out.
2. If PAN is not provided at the time of filing tax return, it becomes difficult to maintain a list of defaulters who have not provided the PAN. Maintaining and cross-checking with the list of individuals who have later provided the PAN becomes a herculean task for the deductors.
3. Under Section 195A, in case the deductor is liable to pay tax, the amount goes up owing to the rates in force.

Conclusion:

The only option in such cases is to request the non-resident party to furnish the PAN or else the resident Indian is required to pay the taxes which will also include disallowance of expense levied for not deducting taxes. There is an additional risk of penalty and interest.

Most non-residents do not have Permanent Establishment (PE) in India and are not subjected to income tax in India. However, insisting on obtaining a PAN from them may not be an easy task now. Section 206AA may send a discouraging signal to the foreign market wanting to set up businesses in India.