Setting Up a Foreign Subsidiary in India: Tax Implications

When a foreign company decides to establish a physical presence in India—whether to hire local engineers, tap into the domestic market, or set up a manufacturing base—the most common and robust structure is a Wholly Owned Subsidiary (WOS) registered as an Indian Private Limited Company.

From a tax perspective, it is crucial to understand that an Indian subsidiary is treated exactly like any other domestic Indian company. It is a separate legal entity from its foreign parent, subject to Indian corporate tax rates, GST, and strict Transfer Pricing regulations.

1. Corporate Income Tax (CIT) Rates

Historically, corporate tax rates in India were complex and high. However, recent reforms have made India highly competitive.

The Concessional Regime (Section 115BAA): Almost all newly incorporated subsidiaries opt for the concessional tax regime under Section 115BAA.

• Base Rate: 22%
• Surcharge: 10%
• Health and Education Cess: 4%
• Effective Tax Rate: 25.17%

To avail of this 25.17% rate, the company must forego certain tax holidays, exemptions, and additional depreciation benefits. Furthermore, companies opting for this regime are completely exempt from the Minimum Alternate Tax (MAT).

2. Transfer Pricing (TP) Regulations

The most heavily scrutinized area of international taxation in India is Transfer Pricing.

Because the foreign parent and the Indian subsidiary are “Associated Enterprises” (AEs), any transaction between them is an “International Transaction.” The Indian Income Tax Department wants to ensure that profits are not artificially shifted out of India to low-tax jurisdictions by overcharging the subsidiary for services or underpricing the subsidiary’s output.

Common Parent-Subsidiary Transactions:

• The parent charges the Indian subsidiary a “Management Fee” or “Royalty” for brand usage.
• The Indian subsidiary acts as a captive software development center, billing the parent for the cost of its engineers plus a markup (typically 15-20%).

The Arm’s Length Principle: All such transactions must be conducted at an Arm’s Length Price (ALP)—the price that would have been charged if the two entities were completely unrelated competitors.

Compliance Burden:

• Form 3CEB: The subsidiary must file an annual accountant’s report certifying that international transactions were conducted at arm’s length.
• TP Study Report: A detailed transfer pricing study must be maintained, documenting the functional, asset, and risk (FAR) analysis and the benchmarking methods used to determine the ALP.

3. GST (Goods and Services Tax)

An Indian subsidiary must register for GST and charge it on domestic sales (usually 18% for services).

However, if the subsidiary’s primary purpose is to act as a captive development center providing IT services exclusively to the foreign parent, these services qualify as the “Export of Services.”

• Exports are “zero-rated” under GST.
• The subsidiary does not charge GST on the invoices raised to the parent.
• The subsidiary can claim a refund of the GST paid on its local inputs (e.g., office rent, laptops).

4. Repatriation and Dividend Distribution

Once the subsidiary has paid its 25.17% corporate tax on its profits, the post-tax profits belong to the company. If the subsidiary wishes to send those profits back to the foreign parent, it usually does so by declaring a dividend.

Dividends paid to a foreign parent are subject to Withholding Tax (TDS) under Section 195. While the standard domestic rate is 20%, the subsidiary can usually apply a lower rate (e.g., 10% or 15%) if India has a Double Taxation Avoidance Agreement (DTAA) with the parent’s country.

For a deep dive into how to move money out of India, read our guide on Repatriation of Profits & Dividends from India.

Setup Your Subsidiary

Batchwise coordinates end-to-end incorporation, RBI/FEMA compliance, and ongoing tax filings for foreign parent companies expanding into India. See our Foreign Subsidiary Incorporation Service for complete details.