UNION Budget 2025 was presented by the Finance Minister Nirmala Sitharaman on the 1st of February, 2025. With this Budget, Ms Sitharaman is now the record holder for a single FM to have presented 8 consecutive budgets in India. She already holds the record for giving the longest speech (2 hours 40minutes) in 2020. This year however, the length of her speech was one of the shortest, lasting only one hour 18 minutes.

Coming towards the end of her speech, the Finance Minister's proposal of nil tax for taxpayers opting for the new tax regime having income (other than from income subjected to special rates of tax such as capital gains, winnings from lotteries etc.) up to INR 12,00,000, has obviously hogged the limelight and was possibly a factor for the ruling party winning the prestigious Delhi Assembly Elections.

To quote from the FM's speech-

"Democracy, Demography and Demand are the key support pillars in our journey towards Viksit Bharat. The <middle class provides strength for India's growth. This Government (…) has always believed in the admirable energy and ability of the middle class in nation building. In recognition of their contribution, we have periodically reduced their tax burden. (…). I am now happy to announce that there will be no income tax payable upto income of Rs. 12 lakh (i.e. average income of Rs. 1 lakh per month other than special rate income such as capital gains) under the new regime. This limit will be ' Rs.12.75 lakh for salaried tax payers, due to standard deduction of Rs. 75,000."

The idea is that the extra income now available to individuals will be spent on consumption which will then spur demand and investment in the economy. However, beyond a temporary spurt in the share prices of some consumption companies, the share markets have only moved downwards and that is despite the massive victory of the ruling party at the Centre in the Delhi Assembly elections. Other factors can put paid to the well laid plan of the government. The tariff war initiated by the US President is only escalating and one is not sure which way the world economies including that of India, will go.

Coming to the income tax provisions in the Budget 2025, most of the discussions and debates ever since the presentation have been primarily concentrated on this aspect of relief in personal taxation. Nevertheless, there are certain provisions in the budget that do affect non-resident taxation that is of primary concern to us here.

Significant economic presence

We note that India has introduced the concept of a significant economic presence through the budget 2018. This amendment arose as a result of the deliberations relating to the BEPS project action point 1 pertaining to challenges posed by digitalisation of the world economy. The connecting factor in India for non-resident business taxation is the concept of business connection which according to the courts cannot be exhaustibly defined. However, under Explanation 1(b) to section 9(1) in the case of a non-resident, no income is deemed to accrue or arise in India through or form operations which are confined to purchase of goods in India for the purpose of export.

A 'significant economic presence' as introduced initially by the Finance Act 2018 and subsequently substituted by the Finance Act, 2020 means: (i) transactions in respect of goods, services, or property carried on by a nonresident in India, including the download of data or software in India, where the aggregate payments in respect of such transactions exceeds a prescribed amount; or (ii) systematic and continuous soliciting of business activities or engaging with a prescribed number of users in India through digital means. Only income which is attributable to such transactions or activities is taxable in India. The two thresholds based on revenue and the number of users were subsequently operationalised by notification of Rule 11UD in 2020.

SEP is only a genre of business connection and therefore should also be governed by the provisions that restrict the applicability of such a business connection. Nevertheless, perhaps in an overcautious mood, a specific exclusion for SEP has again been carved out by the present budget. The Memorandum to the budget, 2025 mentions that suggestions have been received that owing to definition of significant economic presence provided in Explanation 2A, the specific exclusion provided in the case of a non-resident, for income arising through or from operations which are confined to the purchase of goods in India for the purpose of export may be denied and such income may also be treated as income deemed to accrue or arise in India. Accordingly, through a specific proviso, it has been stated that the transactions or activities which are confined to the purchase of goods in India for the purpose of export shall not constitute significant economic presence in India and this has been made effective from 1.4.2026.

The exception in respect of purchase of goods for the purpose of exports exist in the Act from the very beginning and has nothing to do with the increasing digitalisation of business which blurs the difference between goods and services. A legitimate question therefore to consider is whether the exception will also apply to supply of services from India for the purpose of export. Strictly speaking it may not be covered.

The concept of SEP introduced in the domestic law however does not affect transactions with countries that have double taxation avoidance agreements with India unless such treaties also undergo changes. In that sense, the change is not very significant.

Fund managers and business connection

Ever since the setting up of the International Financial Services Centre in the GIFT City, there has been numerous concessions given in almost every budget and the present budget is no exception. Apart from the concession to the IFSC as such, derogations from the general principles have also been provided in respect of fund managers by introducing section 9A by the Finance Act, 2015, effective April 2016. The original provision has been amended in 2016, 2017, 2019, 2020, to relax some condition or the other.

At its introduction in 2015, it was explained that In the case of off-shore funds, under the existing provisions, the presence of a fund manager in India may create a business connection in India even though the fund manager may be an independent person. Similarly, if the fund manager located in India undertakes fund management activity in respect of investments outside India for an off-shore fund, the profits made by the fund from such investments may be liable to tax in India due to the location of fund manager in India and attribution of such profits to the activity of the fund manager undertaken on behalf of the off-shore fund.

It was argued that apart from taxation of income received by the fund manager as fees for fund management activity, income of off-shore fund from investments made in countries outside India may also get taxed in India due to such fund management activity undertaken in, and from, India and thereby constituting a business connection.

There was a further apprehension that the presence of the fund manager under certain circumstances may lead to the off shore fund being held to be resident in India on the basis of its control and management being in India. All these apprehensions had to be addressed in order to make the international financial service centre attractive to the fund managers.

The argument was that a large number of fund managers are of Indian origin and are managing the investment of offshore funds in various countries due to the above factors and hence In order to facilitate relocation of such fund managers to the IFSC, a specific regime has been proposed in the Act, apparently in line with international best practices with the objective that, subject to fulfillment of certain conditions by the fund and the fund manager,- (i) the tax liability in respect of income arising to the Fund from investment in India would be neutral to the fact as to whether the investment is made directly by the fund or through engagement of Fund manager located in India; and (ii) that income of the fund from the investments outside India would not be taxable in India solely on the basis that the Fund management activity in respect of such investments have been undertaken through a fund manager located in India.

As mentioned earlier, Section 9A, underwent amendments almost every year to bring it in line with the so-called international best practices. But it seems that the demands form such prospective managers or of those lobbying for them are never satisfied. As a result, even in the present budget, we find some further changes.

It has been explained that one of the conditions at clause (c) of sub-section (3) of section 9A provides that the eligible investment fund shall fulfil the condition that the aggregate participation or investment in the fund, directly or indirectly, by persons resident in India does not exceed five per cent of the corpus of the fund. The provision is necessary to prevent round tripping. Apparently, monitoring the indirect participation of Indian residents is difficult to monitor on a continuous basis.

Sub-section (8A) of section 9A already provides that the Central Government may by notification specify that any one or more of the conditions specified in sub-section (3) or sub-section (4), shall not apply or shall apply with such modifications, in case of an eligible investment fund and its eligible fund manager, if such fund manager is located in an IFSC and has commenced its operations on or before the 31st day of March, 2024.

The memorandum explains that It was represented that there is a need to provide a specific simplified regime for IFSC based fund managers, managing funds situated in other jurisdiction so that fund managers in IFSC are at par with the fund management entities in competing foreign jurisdiction.

As explained in the Memorandum, the Finance Bill, 2025 has proposed to amend the provisions of section 9A so that -

(I) the condition at clause (c) of sub-section (3) of section 9A is rationalised for all the eligible investment funds whether or not their eligible fund managers are based in IFSC, by determining the aggregate participation or investment in the fund on a semi-annual basis, that is as on the 1st day of April and the 1st day of October of the previous year and in case the said condition at clause (c) is not satisfied on either of the said days, it shall be provided that it will satisfy the same condition within four months of the said days;

(II) In view of the rationalisation above, the condition at clause (c) of sub-section (3) of section 9A shall not be modified for any eligible investment fund and its eligible fund manager; and

(III) The other conditions (a) to (m) can be relaxed for an eligible investment fund where the date of commencement of operations by its eligible fund manager located in IFSC for the purposes of sub-section (8A) of section 9A is on or before 31st day of March, 2030.

Other amendments relating to IFSC

Apart from the above, there are a number of other amendments trying to make the IFSC regime more attractive. To this effect, the sunset clauses in various other provisions connected to the IFSC that were expiring on 31st March 2025 have been uniformly extended up to 31st March 2030. These include relocation of funds to IFSC, investment divisions of offshore banking units, exemption of royalty or interest from leasing of ships or aircraft etc.

Other changes include, exemption of life insurance policy from IFSC insurance offices for non-residents by doing away with the limits of 10(10D) that was earlier introduced for resident investors; extension of the exemption in respect of capital gains, earlier available to aircrafts to ships also by amending section 10(4H), as also exemption of dividend income from leasing units in IFSC to a unit in the IFSC by amending section 10(34B). In other words, tax treatment of aircraft leasing and ship leasing in IFSC are brought at par.

Further, relaxation has also been given from the provision of deemed dividends in respect of borrowing by corporate treasury centres in IFSC from group entities by amending section 2(22).

Presumptive tax in respect of electronic Manufacturing facility

The Ministry of Electronics and Information Technology (MeitY) has schemes to promote Electronic system design and Manufacturing in India. There is a PLI scheme for players in this important sector that includes production of chips and semi-conductors. Non-residents may also obviously provide support in setting up of such electronics manufacturing facilities by deploying the technology and providing support services.

Through this budget, a new section 44BBD providing a presumptive income has been introduced for those non-residents that are engaged in the business of providing services or technology, to a resident company that operates electronics manufacturing facility or a connected facility for manufacturing or producing electronic goods, article, or thing in India, under a scheme notified by the Central Government in MeitY and satisfies the conditions as prescribed in the rules.

Section 44BBD, will deem twenty-five per cent of the aggregate amount received/ receivable by, or paid/ payable to, the non-resident, on account of providing services or technology, as profits and gains of such non-resident from this business. The memorandum states that this will result in an effective tax payable of less than 10% on gross receipts, by a non-resident company.

While the scheme is simple and hassle free, it is to be seen if the non-residents will be entirely happy with this scheme in all circumstances, particularly in situations where the said company is in a loss.

In her speech, the FM has also promised- "I further propose to introduce a safe harbour for tax certainty for non-residents who store components for supply to specified electronics manufacturing units." The details are yet to be prescribed or notified.

Rationalisation of taxation of capital gains on transfer of capital assets by non-residents

Finance (No2), Act 2024 brought in extensive changes to the taxation of capital gains. In respect of long-term capital gains from shares in excess of INR 125000, the rate of tax was fixed at 12.5% across all categories of taxpayers and amendments were made in section 112 and section 112A. Corresponding amendments were also made in sections 115 AD,115AB, 115AC, 115ACA and 115E. However, due to the convoluted language, the change in section 115AD that relates to the taxation of FIIs did not manifest itself properly and long-term capital gains for assets other than those referred to in section 112A continued to be taxed at 10%. This has now been corrected by making an amendment in section 115AD to make it clear that the rate of tax for LTCG in the hands of FIIS is also 12.5%. The amendment has however been made prospectively.

Sovereign Wealth Funds and Pension funds and market linked debentures

In terms of section 10(23FE), Sovereign Wealth Funds and Pension Funds that provide long-term capital for the infrastructure sector are granted exemption in respect of their income from dividend, interest, long-term capital gains or certain other incomes subject to conditions as may be notified by the government in respect of their investments made between April 2020 and March 2025. This sun set clause has now been extended up to March 2030.

In the Budget 2023 and 2024, the taxation of market linked debentures were altered and the capital gains arising from the transfer of all unlisted debt securities were deemed to be short-term capital gains always irrespective of the holding periods. This was apparently to prevent the misuse of such instruments by HNIs. However, the result of the amendment through the insertion of section 50AA was that the sovereign wealth funds also lost the exemption otherwise granted through section 10(23FE) since the long-term capital gains from such instruments would always be treated as short-term. This has now been rectified by providing that long-term capital gains of such sovereign wealth funds etc., even if deemed as short-term under section 50AA, will be exempt under section 10(23FE). This is a somewhat round-about way of going about things. The better alternative would perhaps have been to carve out an exception for SWFs in section 50AA.

Transfer pricing- Introduction of the concept of a block of 3 years

Transfer pricing adjustments in respect of international transactions between associated enterprises is a hotly disputed subject. Most of the disputes in tax matters in India these days relate to transfer pricing. Although India's transfer pricing legislation is broadly in line with the OECD guidelines, there are differences. Taxpayers are required to declare their international transactions in the return of income and the AO has the discretion to refer the determination of the ALP to a TPO after obtaining approval of the superior authorities. The TPO then determines the ALP and informs the AO and the taxpayer. The exercise is carried out from year to year.

In the budget 2025, the memorandum states : in reference under section 92CA for computation of arm's length price, in many cases, there are similar international transactions or specified transactions for various years, same facts like enterprises with whom such transaction is done, proportionate quantum of transaction, location of associated enterprises etc., and same arm's length analysis are repeated every year, creating compliance burden on the assessee as well as administrative burden on the TPOs.

In that view of the matter, the budget 2025 proposes to introduce a block of year concept whereunder the arm's length price will be determined for one year and the methodology will then apply to next two financial years. Of course, the taxpayer is to be given an option and the same will have to be accepted by the TPO. The block concept already exists in India in the case of APA which is a relative success story. But, unlike under the APA programme, under the newly amended provisions of section 92CA, there is no roll back of the same methodology for earlier years, only two forward years are covered.

Apart from the above, the Finance Minister in her budget speech for Finance (No 2) bill, 2024 had announced: "With a view to reduce litigation and provide certainty in international taxation, we will expand the scope of safe harbour rules and make then more attractive. We will also streamline the transfer pricing assessment procedure."

The streamlining that the Minister referred to is probably the provision of the block concept for transfer pricing assessment as described above.

Further measures promised:

In this year's budget speech too, under Ease of doing Business, the FM has again promised - "With a view to reduce litigation and provide certainty in international taxation, the scope of safe harbour rules is being expanded." Perhaps these will be notified later.