India is undertaking a comprehensive review of all withholding tax provisions, aligning with the nation’s broader effort to streamline the tax framework. The objective is to enhance business ease and minimize disputes.

Major Tax Overhaul in the Works: Simplification of Withholding Tax Regime Anticipated

In a significant development, the Indian government is actively considering a revamp of the complex tax deducted at source (TDS) provisions. The existing structure, marked by various thresholds and diverse rates, has led to frequent disputes and hindered working capital flow for businesses.

“There is a pressing need to streamline the regime due to the complexities that have emerged over time,” stated a government official, emphasizing the rationale behind the proposed review.

The anticipated cleanup of the withholding tax framework could find its way into the interim budget on February 1 if the review process is completed in a timely manner.

The Income Tax Act currently encompasses around 33 sections addressing TDS rates, ranging from 0.1% to 30%. Notably, certain categories like fees for technical services (FTS) and fees for professional services (FPS) witnessed a reduction in TDS rates, triggering classification challenges and ensuing legal disputes.

These issues have been a cause for concern within the industry in recent years.

“While the earlier elevated rates made sense in the pre-digital tax administration era, the current landscape calls for a reevaluation. Elevated rates are burdening MSMEs and escalating compliance challenges,” remarked an industry expert.

Given the advancements in digital payments and sophisticated data analytics within the tax department, there is a compelling case for moving towards lower TDS rates (1-5%) across fewer categories. This shift, it is argued, would maintain effective transaction tracking without unduly pressuring compliance and working capital.

The concept of TDS was introduced to ensure tax collection directly from the income source, aiding in expanding the tax base. Over time, TDS and tax collected at source (TCS) provisions have broadened, accompanied by an increase in rates.

Under the TDS framework, individuals making specified payments deduct tax at source and remit it to the central government’s account. The recipient of the income, subject to TDS, is entitled to credit for the deducted amount, which can be adjusted against the final tax liability.

A reduction in TDS rates is expected to alleviate immediate financial burdens for recipients, particularly benefiting working capital requirements, as the credit for deductions can be claimed sooner.