Section 195 of the Income Tax Act: TDS on Payments to Non-Residents

Section 195 of the Income Tax Act, 1961, is a pivotal provision governing the deduction of Tax Deducted at Source (TDS) on payments made to non-residents (including Non-Resident Indians or foreign companies). Its primary objective is to ensure that income accruing or arising in India to non-residents is subject to Indian tax at the source itself, thereby preventing tax evasion and facilitating efficient tax collection on cross-border transactions.

Applicability of Section 195

Section 195 applies when:

• Payer (Deductor): Any person (can be a resident or a non-resident, an individual, HUF, partnership firm, foreign company, etc.) who is responsible for paying any sum to a non-resident.
• Payee (Recipient): A non-resident (not being a company) or a foreign company.
• Nature of Payment: The payment must be "any interest or any other sum chargeable under the provisions of this Act." This broadly covers income earned by non-residents in India, such as:
  • Interest income (excluding those specifically covered by Sections 194LB, 194LC, and 194LD).
  • Dividends (though Section 115-O previously dealt with Dividend Distribution Tax, which has changed).
  • Royalties.
  • Fees for Technical Services (FTS).
  • Capital Gains (e.g., from sale of immovable property in India by an NRI).
  • Rental income from property located in India.
  • Any other income taxable under the Income Tax Act.
• Exclusions: Salary income paid to non-residents is covered under Section 192, not Section 195.

Key Principle: Taxability in India
TDS under Section 195 is only required if the payment made to the non-resident is considered taxable in India as per the provisions of the Income Tax Act, or as per the applicable Double Taxation Avoidance Agreement (DTAA).

TDS Rate under Section 195

Unlike many other TDS sections with fixed rates, the rate under Section 195 is not uniform. It depends on:

• Nature of Income: Different types of income have different prescribed rates.
• Provisions of the Finance Act: The rates specified in the annual Finance Act for the relevant financial year.
• Double Taxation Avoidance Agreement (DTAA): If there is a DTAA between India and the payee's country of residence, the lower of the rate specified in the Income Tax Act or the DTAA will apply. For DTAA benefits, the payee must furnish a Tax Residency Certificate (TRC) and Form 10F.

Common Illustrative Rates (may vary as per latest Finance Act and specific conditions):

• Interest income (general): 20%
• Royalty and Fees for Technical Services (FTS): 10%
• Long-term Capital Gains: 10% or 20% (depending on asset type)
• Short-term Capital Gains (Section 111A): 15%
• Any other income: 30%

Higher Rate for Non-PAN: If the non-resident payee does not provide a valid Permanent Account Number (PAN), TDS will be deducted at the rate prescribed in the Income Tax Act or **20%**, whichever is higher, as per Section 206AA.

Application for Lower/Nil Deduction Certificate (Section 195(2) and 195(3))

• By Payer: If the payer believes that the whole sum paid to a non-resident is not taxable in India, they can apply to the Assessing Officer (AO) to determine the sum on which TDS is to be deducted.
• By Payee: The non-resident payee can apply to the AO in Form 13 for a certificate authorizing a lower or nil deduction of tax, if their actual tax liability is lower than the prescribed TDS.

Threshold Limit for TDS Deduction

Section 195 does not specify any minimum threshold limit for deducting TDS. If the payment is taxable in India, TDS is required to be deducted irrespective of the amount.

Time of Tax Deduction

The deductor must deduct TDS under Section 195 at the earliest of the following two events:

• At the time of credit of such income to the account of the payee (this includes crediting to a "Suspense Account" or "Interest Payable Account").
• At the time of actual payment in cash, by cheque, draft, or any other mode.

However, for interest payable by the Government or a public sector bank or a public financial institution, TDS is to be deducted only at the time of payment.

Forms and Responsibilities of the Deductor

The person making the payment to a non-resident must comply with the following:

• Obtain TAN: Obtain a Tax Deduction and Collection Account Number (TAN).
• Verify Payee's PAN: Ensure the payee provides their PAN. For DTAA benefits, obtain TRC and Form 10F.
• Deduct Tax: Deduct TDS at the correct applicable rate.
• Deposit Tax: Deposit the deducted TDS to the credit of the Central Government by the 7th of the following month (for payments other than March, which is April 30th).
• File TDS Returns: File quarterly TDS returns in Form 27Q (for payments to non-residents).
• Issue TDS Certificates: Provide a TDS certificate in Form 16A to the non-resident payee as proof of deduction.
• Reporting Foreign Remittances: For remittances to non-residents, the payer is also required to submit information in Form 15CA and Form 15CB (certified by a Chartered Accountant for certain limits) via the income tax e-filing portal before making the remittance.

Penalties for Non-Compliance: Failure to comply with Section 195 provisions can attract severe consequences:

• Disallowance of Expense: If TDS is not deducted or not deposited, the expenditure may be disallowed under Section 40(a)(i).
• Interest: Interest at 1% per month for delay in deduction and 1.5% per month for delay in deposit (Section 201(1A)).
• Penalty: Penalty equal to the amount of TDS not deducted or not paid (Section 271C).
• Late Filing Fees: Fees for delay in filing TDS returns (Section 234E).

Taxability for the Non-Resident (Payee)

The income received by the non-resident, from which TDS has been deducted under Section 195, remains taxable in India. The non-resident must report this income in their Income Tax Return (ITR) if they are required to file one.

The TDS deducted can be claimed as a credit against their final tax liability in India. The payee can verify the TDS credit in their Form 26AS and reconcile it with the Form 16A provided by the deductor. This credit helps offset the final tax payable or may lead to a tax refund.

Conclusion

Section 195 is fundamental to India's international tax framework, ensuring that income earned by non-residents in India is brought under the tax net at the earliest point. Its broad applicability, varying rates, and stringent compliance requirements necessitate careful attention from any person making payments to non-residents. Proper understanding and adherence to these provisions are crucial for both payers and non-resident recipients to avoid penalties and ensure smooth cross-border financial transactions and tax compliance.