Context
The Finance Ministry made public the final guidelines on the Place of Effective Management (POEM), underlining the government’s intent to target shell companies created to keep income out of India even when real management is taking place within the country
What is a shell company?
According to nasdaq.com, a shell company is:
“An incorporated company with no significant assets or operations, often formed to obtain financing before beginning actual business, or as a front tax evasion.”
Operation of a shell company
Multinational businesses have been known to set up shell companies in countries with super-low corporate tax rates.
- They do their international operations through their shell, thus not having to report to the country (where their operations are taking place) the sums involved, and considerably reduce their tax bill
Read More: Please visit this page to know more about shell companies
What is POEM?
The Place of Effective Management is defined in the Income Tax Act to mean
“a place where key management and commercial decisions that are necessary for the conduct of the business of an entity as a whole are, in substance, made”
Guidelines
According to the guidelines,
- A company will be deemed to be engaged in active business outside India if the passive income is not more than 50% of its total income and less than 50% of its total assets are situated in India, less than 50% of the total number of employees are situated in India or are resident in India, and the payroll expenses on such employees is less than 50% of the total payroll expenditure
What is Passive income?
Under the guidelines, ‘Passive income’ is,
- “income from the transactions where both the purchase and sale of goods is from/to its associated enterprises and income by way of royalty, dividend, capital gains, interest or rental income”
- Exception: This definition, however, will not apply in the case of a banking company or public financial institution
- Targeting only shell companies: This clarifies that the intent is not to target Indian multinationals which are engaged in business activity outside India, but to target shell companies and companies which are created for retaining income outside India although real control and management of affairs is located in India
What is a Head office?
As per the guidelines,
- Head Office’ of a company would be the place where the company’s senior management and their direct support staff are located or, if they are located at more than one location, the place where they are primarily or predominantly located
- A company’s head office is not necessarily the same as the place where the majority of its employees work or where its board typically meets
