Doing Business with

European Union

Narayan MehtaFeb 3rd 2006

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Road map

Indian Investments in EU – some statisticsEU investments in IndiaEmerging opportunitiesEntry Vehicles – LO / Branch / Subsidiary

Tax & regulatory overviewCase studies MFN ClauseApproach & caution pointsAbout SKP

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Investments from India to EU

EU is a major destination for Indian investors - approx. 40 % of Indian overseas investment flows into Europe, as compared to 20 % to the USAIndia's FDI inflows into the EU have been increasing and amounted to € 600 million in 2003 (€140 mn in 2002). EU investment has mainly taken place in the power/energy telecommunications and transport sectors. UK has emerged as the No ! destination for Indian Companies setting up in the EU, with investment increasing by nearly 30 percent during the 2004-5 fiscal year During 2004 EU-India trade increased by 17% and has increased with an annual average of 6% between 2000 and 2004.

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Some of the Indian companies in EU

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EU Investments in India

From August 91 to Sept 05 -EU countries accounted for 21.08% of total FDI

Top 10 EU countries accounted for 20.54% of total FDI

Top 10 EU countries accounted for 97.45% of total investments from the EU

Top 10 EU investorsFrom August 91 to Sept 05

Country US$ bn

Netherlands 1.95

UK 1.90

Germany 1.32

France 0.77

Sweden 0.472

Italy 0.467

Denmark 0.15

Belgium 0.14

Cyprus 0.084

Finland 0.043

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Investments from India to EU - Old

From August 91 to Sept 05- Top 10 EU investors % of total investments from EU countries to total FDI-

Growth rate over previous year i.e. Jan-Dec 2004 - % of total investments from TOP 10 EU countries to total FDI - Growth rate over previous year i.e. Jan-Dec 2004 - % of total investments from TOP 10 EU countries to total investments from the EU - Growth rate over previous year i.e. Jan-Dec 2004 -

Country US$ bn

Netherlands 1.95

UK 1.90

Germany 1.32

France 0.77

Sweden 0.47

Italy 0.46

Denmark 0.15

Belgium 0.14

Cyprus 0.084

Finland 0.043

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Emerging opportunities - Sectors

Science & Technology Infrastructure Agriculture Industry Business Process Outsourcing (Eastern Europe)

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Entry strategies

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Liaison/ representative offices

Useful to test the marketsPurchasing offices, collecting information, etc.Wider range of activities could be carried out through

Coordination centersGenerally taxed @ 5-10% of expenses

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Indian Co

EUbranch

Secondment of staff to branch and execution of

the contract off-shore and onsite

…………………………………………………………………………... India

EU

Marketing in EU

Project mgt & sales support

Principal contract for software development

EUcustom

er

Branch

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Branch Office

For initial expenditure (cum limits for all offices)2% of 2 yr average annual sales

For recurring expenditure1% of 2 yr average annual sales

No limits in case of EEFC a/c & STPsIn case of IT Cos - 100% of offsite billing & 30% of onsite billing to be repatriated to India

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Indian Co

EUWOS

EUcustome

r

Contract foroutsourcing

Secondment of staff to subsidiaryand execution of the contract

off-shore and onsite

Principal contract for software development

…………………………………………………………………………... India

EU

Consideration

Marketing in EU

Project mgt & sales support

Consideration

Wholly Owned Subsidiary

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Approval from Authorized Dealer

No monetary limit on investment by Indian CosEquity, debt and guaranteesSubject to 200% of net worth of parent / sub as per last audited balance sheet

Not applicable in case proceeds of EEFC A/c & ADR / GDR are used

Capitalization of goods, services allowed

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Approval from Authorized Dealer

Investment in bonafide business activityInvestment through hold co. also covered!

Step down investments also under the automatic route

Share valn for investment in existing company

By overseas Merchant / Investment Banker for investment above US $ 5 mn By a CA / CPA

Special rules apply for investments in Financial Services Sector Co

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Approval from Authorized Dealer

Even qualification shares can now be acquired by an individual director sub to certain conditions!Recent liberalisations include partnership firms as well!Individuals investments allowed up to US $ 25,000

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Non automatic route - RBI approval

Applies to all cases that do not fulfill automatic route conditionsDetermining factors:

Prima facie viability of projectContribution to external trade & other benefitsFinancial position & track record of Indian & foreign partyExpertise & experience

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Branch v/s Subsidiary

BranchSimplicity of formation and administration Indian Co’s assets exposed to foreign liabilityPayments of Royalties , Interest by Branch to HO not deductible for tax purposes

SubsidiaryEnjoys local credence and patronageSub - stock options possible, more autonomySub - can form branches elsewhereTax Deductible

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Branch v/s Subsidiary

BranchForeign clients may not be comfortable in signing contracts with branch Restrictions on borrowingReporting requirements

SubsidiaryPossible to defer Indian tax liability by not declaring dividends

European holding companies - a useful base for global expansion

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Levels of international tax planning

IndiaIndia

Corporate Tax

Withholding tax on distributions

* Royalty / FTS / Interest / Div etc

Income*Equity / Debt

EU countryEU country

Indian Corp tax on foreign income

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Objectives

To shelter profits of EU co. from Indian taxTo reduce w.tax on dividends in EU countryTo reduce / defer Indian tax on foreign dividendsTo reduce / defer tax in India on capital gains on sale of shares in WOSUsed as an extraction base company for management charges, admin fees, etc.Other objectives:

accumulating profits in stronger currencyuse of Bilateral Investment Protection Treaty

EUEU

IndiaIndia

X Co.X Co.

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Selecting a holding company site

Tax rateTax exemption for foreign dividends and capital gainsCan funds be parked?Exchange controlPolitical stabilityTax treaty networkAny withholding taxes?Anti-treaty shopping regime

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Austria Belgium Denmark GermanyLuxembourg

Netherlands

Spain UK

Dividends Exempt 95% Exempt Exempt Exempt Exempt Exempt CreditParticipations

10% 10% 20% - 10% 5% 5% 10%

Holding Period

1 year - 1 year - 1 year - 1 year -

Capital Gain Exempt Exempt Exempt Exempt Exempt Exempt Credit ExemptParticipations

10% - - - 10% 5% - 10%

Holdoing Period

1 year - 3 years - - - - -

European Holding Companies -Comparison

European holding company - a comparison

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MFN Clause

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MFN Clause- India- Netherlands Treaty

Particulars90-91 91-96 96-97 97-98 98 onwards

Royalties for copyrights, patents, etc- Rate 20 20/15 15 10 10

- Scope Broad Broad Broad BroadChange in Definition

Use of equipment - rate20 20/15 15 10 10

Technical services- Rate 20 20/15/10 20/15 10 10

Payments for royalties / technical services made during

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MFN Clause- India- Belgium Treaty

Particulars Original treaty 1st April 98 onwardsRoyalties for copyrights, patents, etc- Rate 20 10- Scope Broad Change in DefinitionUse of equipment - rate

20 Not taxableTechnical services- Rate 20 10

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MFN Clause- India- France Treaty

ParticularsOriginal treaty 95-96 96-97 97-98 98 onwards

Royalties for copyrights, patents, etc- Rate 20 20/15 15 10 10

- Scope Broad Broad Broad BroadChange in Definition

Use of equipment - rate

20 10 10 10Not

taxableTechnical services

- Rate 20 20/15/10 20/15 10 10- Scope Broad Restricted Restricted Restricted Restricted

Payments for royalties / technical services made

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MFN Clause- India- Sweden Treaty

Particulars Original treaty 98 onwardsRoyalties for copyrights, patents, etc

- Rate 10 10- Scope Restricted Restricted

Use of equipment - rateNot taxable Not taxable

Technical services- Rate 10 10

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MFN Clause- India- Spain Treaty

Particulars

As per Original treaty 96-97 97-98 98 onwards

Royalties for copyrights, patents, etc- Rate 20 15 10 10

- Scope Broad Broad BroadChange in Definition

Use of equipment - rate10 10 10 Not taxable

Technical services- Rate 20 15/10 10 10

- Scope Broad Restricted Restricted Restricted

Payments for royalties / technical services made during

Case studies

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Acquisition – equity swap

Indian Co

Indian Co

UK CoUK CoUK Share holders

Indian Share holders

100%

100%

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Acquisition – equity swap

100%

Indian Co

Indian Co

UK CoUK Co

49% equity

UK shareholdersExempt Capital Gains

Indian shareholders51% equity

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Acquisition – equity swap

Valuations –coordination between UK & Indian valuersFIPB approvalRBI approvals after FIPB permissionRollover relief for capital gains available to UK shareholders!

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Outbound investments into EU / Non-EU countries

Indian co establishing subs in Mauritius, HK, UK, Philippines & Thailand – thru direct holdingIf held directly – the Indian tax rate on dividends was 35%

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One of the options – OHQ structure

Indian coIndian co Sing OHQSing OHQ

Philip coPhilip co

UK coUK co

Thai coThai coNeth coNeth co

HK coHK co

Mau coMau co

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Tax effect !

Tax rate on divs from Mauritius & HK dropped to 9% from 35%Tax rate on other divs routed via Netherlands dropped to 15% from 35%This model could be used for large Indian software cos

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To conclude

Spending more time at the drawing board saves costs!!Tying up commercial, tax and non-tax considerations in selection of branch v/s subsidiaryChanging legislationTreaty interpretations – can be varied

Don’t leave anything open to interpretationIntermediate entity must have substance

Anti-avoidance rules

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To conclude

Billing methodology especially for IT companiesPlanning employee secondment Formulating a transfer pricing policy

Based on a functional analysis Considering EU and Indian regulations

Needs coordination with local tax advisers

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ContactNarayan MehtaTel: +91 22 2282 1141Mobile: +91 98205 44495E-Mail: narayan.mehta@skparekh.com

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