Company Under Person: Income Tax Implications in India

Understanding the nuances of income tax laws in India can be complex, especially when dealing with entities structured as companies controlled by individuals. This article delves into the concept of "Company Under Person" (often referred to as personal service companies or one-person companies with intricate ownership structures) and explores the income tax implications for both the company and the individual involved. We will examine various aspects, including definition, taxability, compliance requirements, and potential pitfalls to avoid.

What Constitutes a "Company Under Person"?

The term "Company Under Person" isn't a formally defined legal term in the Income Tax Act, 1961. However, it generally refers to a private limited company, often structured as a One Person Company (OPC) or a small private limited company, where a single individual or a very small group of individuals (often family members) exerts significant control and ownership. These companies are typically formed to carry out the business or profession of the individual, with the individual often being the primary (or only) employee, director, and shareholder.

The primary reason for establishing such a structure is usually to avail the benefits of limited liability, separate legal entity status, and potentially, certain tax advantages (although this is becoming increasingly scrutinised by the tax authorities).

Taxability of the Company

A company, irrespective of its size or ownership structure, is treated as a separate legal entity under the Income Tax Act, 1961. This means the company's income is taxed separately from the income of its shareholders or directors.

• Applicable Tax Rates: Private limited companies are subject to corporate tax rates as prescribed by the Finance Act each year. These rates generally vary based on the company's turnover. Companies with a turnover of up to INR 400 crore (as defined in the relevant Finance Act) may be eligible for a concessional tax rate (currently 25% plus applicable surcharge and cess), provided they meet specific conditions. Other companies are generally taxed at a higher rate (currently 30% plus applicable surcharge and cess).

• Deductions and Allowances: Companies are eligible for various deductions and allowances under the Income Tax Act. These include deductions for business expenses (subject to limitations under sections such as 40A), depreciation on assets, scientific research expenditure (Section 35), and deductions under Chapter VI-A (such as deductions under Section 80G for donations).

• Minimum Alternate Tax (MAT): Even if a company's taxable income is low due to various deductions and allowances, it may be liable to pay Minimum Alternate Tax (MAT) under Section 115JB of the Income Tax Act. MAT is calculated at a specified percentage of the company's book profit. The purpose of MAT is to ensure that companies pay a minimum amount of tax, regardless of the deductions claimed. MAT credit can be carried forward and adjusted against future tax liabilities.

• Dividend Distribution Tax (DDT): While DDT was abolished in recent years, dividends received by shareholders are now taxable in their hands at applicable slab rates. The company is required to deduct tax at source (TDS) on dividend payments exceeding a specified threshold (currently INR 5,000).

Taxability of the Individual Controlling the Company

The individual controlling the "Company Under Person" is also subject to income tax on their personal income, which may include salary, dividends, and other forms of remuneration received from the company.

• Salary Income: If the individual is an employee of the company, the salary received is taxable as salary income under Section 17 of the Income Tax Act. This includes basic salary, allowances, perquisites, and other benefits. The individual is eligible for deductions under Section 16 (standard deduction and entertainment allowance, if applicable) and other relevant deductions under Chapter VI-A.

• Dividend Income: As mentioned earlier, dividends received by the individual are taxable in their hands at their applicable slab rates.

• Director's Remuneration: If the individual receives remuneration as a director of the company, it is taxable as profits and gains of business or profession under Section 28 of the Income Tax Act, provided it is not considered salary income.

• Loans and Advances: Any loans or advances received by the individual from the company may be considered deemed dividend under Section 2(22)(e) of the Income Tax Act if the company has accumulated profits and the individual is a beneficial owner of shares carrying at least 10% of the voting power. This can have significant tax implications.

Key Compliance Requirements for the Company

Companies, including those structured as "Company Under Person," are subject to various compliance requirements under the Income Tax Act and other relevant laws.

• Filing of Income Tax Returns: Companies are required to file their income tax returns electronically on or before the due date specified in Section 139 of the Income Tax Act. The due date varies depending on whether the company is subject to audit.

• Tax Audit: Companies exceeding a specified turnover threshold (currently INR 1 crore, or INR 10 crore if specific conditions are met as per Section 44AB) are required to get their accounts audited by a chartered accountant.

• Advance Tax Payments: Companies are required to pay advance tax in installments throughout the financial year if their estimated tax liability exceeds INR 10,000.

• Tax Deducted at Source (TDS): Companies are required to deduct tax at source (TDS) on various payments made by them, such as salary, interest, rent, and professional fees. TDS is deducted as per the rates prescribed in the Income Tax Act and deposited with the government within the specified time limits.

• Goods and Services Tax (GST): In addition to income tax, companies are also required to comply with the provisions of the Goods and Services Tax (GST) Act, if applicable. This includes registration, filing of returns, and payment of GST.

Potential Pitfalls and Considerations

Structuring a business as a "Company Under Person" can offer certain advantages, but it also presents potential pitfalls that need to be carefully considered.

• Scrutiny by Tax Authorities: Tax authorities often scrutinize transactions between the company and the controlling individual to ensure that they are at arm's length and not intended to evade taxes. Transfer pricing regulations may apply if the company engages in transactions with related parties.

• Personal Guarantees: Lenders often require personal guarantees from the controlling individual for loans taken by the company. This can expose the individual to personal liability if the company defaults on its obligations.

• Separate Legal Entity: It's crucial to maintain the separate legal entity of the company. Mixing personal and company finances can lead to legal and tax complications. Transactions should be properly documented and accounted for.

• Reasonable Compensation: The salary and other remuneration paid to the controlling individual should be reasonable and justifiable, considering the individual's skills, experience, and the services provided to the company. Excessive compensation may be disallowed as a deduction.

• Documentation: Maintain proper documentation of all transactions, agreements, and financial records. This is essential for compliance with tax laws and for defending against potential tax audits.

• Benefit or Perquisite: If a director or a person who is substantially interested in the company has been allowed to use the company's assets for free or at concessional rate, the difference will be regarded as benefit or perquisite and charged to tax.

Benefits of Structuring as a Company

Despite the complexities, structuring a business as a company under person can offer several benefits:

• Limited Liability: The personal assets of the shareholders are protected from business debts and liabilities.

• Separate Legal Entity: The company is a separate legal entity from its shareholders, which provides legal protection.

• Ease of Raising Capital: It may be easier to raise capital through loans or investments compared to a sole proprietorship or partnership.

• Perpetual Succession: The company continues to exist even if the shareholders or directors change.

• Brand Image: A company structure can enhance the credibility and brand image of the business.

Conclusion

The "Company Under Person" structure presents a unique set of income tax implications in India. While it can offer advantages such as limited liability and a separate legal entity, it also requires careful planning and compliance with tax laws. Understanding the taxability of both the company and the individual, adhering to compliance requirements, and avoiding potential pitfalls are crucial for minimizing tax liabilities and ensuring smooth operations. Seeking professional advice from a qualified chartered accountant or tax advisor is highly recommended to navigate the complexities of income tax laws and make informed decisions. The Income Tax Act, 1961, along with circulars, notifications, and case laws, continues to shape the tax landscape in India, making it essential to stay updated on the latest developments.