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Tds on interest paid on late payment client at germany

Sachin Waje (Taxation Executive) (102 Points)

22 July 2013

Dear Sir,

Our Germany base client raised us debit note of Interest for late payment dues.

Please confirm what TDS to be decducted on interest paid to germany base client?

Regards

Sachin Waje

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3 Replies

Rakesh Prasad.H.R (Partner) (26 Points)
Replied 22 July 2013

Dear Sachin

Please clarify whether it is an interest for late payment or a Penalty for Late Payment of Dues, i.e are you generally or specifically allowed to make late payment alongwith Interest.

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Sachin Waje (Taxation Executive) (102 Points)
Replied 23 July 2013

Dear Sir,

They are raised separate debit note for interest on late payment.

Regards

Sachin waje

Rakesh Prasad.H.R (Partner) (26 Points)
Replied 24 July 2013

To Determine the Chargability of Tax let us First Consider Indo German DTAA, Article 11 of the DTAA states about Interest and reads as below

Interest - 1. Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State.

2. However, such interest may also be taxed in Contracting State in which it arises and according to the laws of that State, but if the recipient is the beneficial owner of the interest the tax so charged shall not exceed 10 per cent of the gross amount of the interest.

3. Notwithstanding the provisions of paragraphs 1 and 2—

(a) interest arising in the Federal Republic of Germany and paid to the Government of the Republic of India, the Reserve Bank of India, the Industrial Finance Corporation of India, the Industrial Development Bank of India, the Export-Import Bank of India, National Housing Bank and Small Industries Development Bank of India shall be exempt from German tax;

(b) interest arising in the Republic of India and paid to the Government of the Federal Republic of Germany, the Deutsche Bundesbank, the Kreditanstat fur Wiederaufbau or the Deutsche Investitions-und Entwicklungsgesellschaft (DEG) and interest paid in consideration of a loan guaranteed by HERMES-Deckung shall be exempt from Indian tax.

4. The term “interest” as used in this Article means income from debt-claims of every kind, whether or not secured by mortgage and whether or not carrying a right to participate in the debtor’s profits, and in particular, income from Government securities and income from bonds or debentures, including premiums and prizes attaching to such securities, bonds or debentures. Penalty charges for late payment shall not be regarded as interest for the purpose of this Article.

5. The provisions of paragraphs 1, 2 and 3 shall not apply if the beneficial owner of the interest, being a resident of a Contracting State, carries on business in the other Contracting State in which the interest arises, through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the debt-claim in respect of which the interest is paid is effectively connected with such permanent establishment or fixed base. In such case, the provisions of Article 7 or Article 14, as the case may be, shall apply.

6. Interest shall be deemed to arise in a Contracting State when the payer is that State itself, a land or political sub-division, a local authority or a resident of that State. Where, however, the person paying the interest, whether he is a resident of a Contracting State or not, has in a Contracting State a permanent establishment or a fixed base in connection with which the indebtedness on which the interest is paid was incurred, and such interest is borne by such permanent establishment or fixed base, then such interest shall be deemed to arise in the State in which the permanent establishment or fixed base is situated.

7. Where, by reason of a special relationship between the payer and the beneficial owner or between both of them and some other person, the amount of the interest, having regard to the debt-claim for which it is paid, exceeds the amount which would have been agreed upon by the payer and the beneficial owner in the absence of such relationship, the provisions of this Article shall apply only to the last-mentioned amount. In such case, the excess part of the payments shall remain taxable according to the laws of each Contracting State, due regard being had to the other provisions of this Agreement.

The DTAA provides for taxing Interest, now the further questions that arise are

Are any of the parties Government authorities of any kind? – Assumed No
Is the Recipient the Beneficial owner? – Assumed Yes
Is it Interest or penalty? – Generally Penalties are Fixed and not determined based on the no. of days of delay, but Interest are arrived based on the period of delay. As the Germany client has raised separate debit note and you are telling that it is interest, I assume that the amount has been arrived after considering the period of delay and a certain Rate hence not penalty and it is Interest
Is there any Permanent Establishment of the Germany client in India and is the Debt due connected to their Establishment in India? – Assumed No
Is there any special relationship apart from being Debtor and Creditor between the parties – Assumed No

Addressing the above questions we can say that the Interest is chargeable to Tax. The next question arising would be at what Rate? For that we shall look into the Provision of Income Tax Act, 1961

Section 195(1) reads as below

(1) Any person responsible for paying to a non-resident, not being a company, or to a foreign company, any interest [(not being interest referred to in section 194LB or section 194LC)] [or section 194LD] or any other sum chargeable under the provisions of this Act (not being income chargeable under the head "Salaries" ) shall, at the time of credit of such income to the account of the payee or at the time of payment thereof in cash or by the issue of a cheque or draft or by any other mode, whichever is earlier, deduct income-tax thereon at the rates in force.

Income tax Act provides for charging tax at the rates in force but DTAA puts a cap of 10% as the tax rate, hence TDS at the rate of 10% has to be made on the Interest payable to the foreign company.