Permanent Establishment Risk in India: For Foreign companies

India has signed Double Taxation Avoidance Agreements (DTAAs) with over 90 countries, yet it remains one of the most aggressive jurisdictions globally in asserting permanent establishment (PE). The rules draw from the Income Tax Act 1961, the new Income Tax Act 2025 (effective 1 April 2026), and treaty-level Article 5 definitions, and six Indian tribunal and Supreme Court decisions between July 2025 and March 2026 have redrawn the boundary between a safe India engagement and a taxable presence. Foreign companies that assume a clean structure protects them without verifying the underlying facts against current case law are taking a measurable risk. This article sets out the legal framework, the triggers, the 2025-26 judicial developments, and a practical mitigation structure, so your India strategy starts from an informed position.

What is permanent establishment risk in India?

Permanent establishment risk is the probability that Indian tax authorities will determine that a foreign company has a taxable presence in India, and will then assert the right to tax the share of global profits attributable to that India presence. Under Section 9(1)(i) of the Income Tax Act 1961 and the corresponding provisions in most Indian DTAAs, income is deemed to accrue or arise in India when it flows from a “business connection” in India. Where a DTAA applies, the more favourable provision between domestic law and the treaty governs: but India’s domestic thresholds are themselves narrower than many foreign companies expect.

The term “permanent establishment” is defined in Section 92F(iiia) of the Income Tax Act 1961 and mirrors the standard Article 5 definition from the OECD Model Tax Convention: a fixed place of business through which the business of the enterprise is wholly or partly carried on. Under the Income Tax Act 2025, which replaces the 1961 Act and takes effect from 1 April 2026, the PE concept is carried forward under Section 9, with enhanced drafting on digital nexus and on the attribution of profits to the PE.

Three points distinguish India from many other jurisdictions:

• India does not follow the updated OECD 2025 safe-harbour framework for remote work, meaning foreign companies cannot rely on OECD guidance to assess India-specific exposure without cross-checking against Indian treaty language and domestic law.
• India’s tax authorities have historically taken an assertive position in audits, particularly on the disposal test for fixed-place PE and the habitual exercise test for dependent agent PE.
• The 2025-26 case law has tightened both tests, and the Budget 2026-27 has introduced clarifications for cloud infrastructure that reduce ambiguity in one area while creating new compliance touchpoints.

The financial consequence of a PE finding is substantial: corporate income tax on attributable profits at an effective rate of approximately 38-44% (depending on treaty position and surcharge), full compliance obligations including PAN, TAN, transfer pricing documentation, and ITR-6 filing, and penalties of 100-300% of unpaid tax for non-compliance (under Section 271 of the Income Tax Act 1961).

The four types of PE India recognises

Fixed-place PE

A fixed-place PE arises when a foreign enterprise has a place of business in India at its disposal and uses that place to carry on its business activities. The critical phrase is “at its disposal”: India applies a disposal test that does not require formal ownership, a lease, or an exclusive office. If the foreign company has the right to use premises in India to carry on its own business, that is sufficient.

The list of qualifying premises is broad: offices, branches, factories, workshops, warehouses, mine sites, oil or gas wells, quarries, and any place of extraction of natural resources. A foreign company does not need to have its name on a door or a dedicated room. Regular use of a meeting room in a client’s office for conducting the foreign company’s own business has been held to satisfy the disposal test in certain factual circumstances.

Dependent Agent PE (DAPE)

A dependent agent PE arises under Article 5(4) of most Indian DTAAs when a person in India, who is not an independent agent acting in the ordinary course of business, habitually exercises authority to conclude contracts on behalf of the foreign enterprise. The Supreme Court’s foundational ruling in DIT v. Morgan Stanley & Co. Inc. (2007) framed the test as follows: PE arises where a person “other than an agent of an independent status habitually exercises an authority to conclude contracts on behalf of the assessee.”

The word “habitually” requires more than a one-off transaction but does not require that every contract be concluded in India. Where an India-based person regularly participates in negotiations to a point where the contract is effectively concluded, even if a senior officer overseas signs the final document, Indian courts have been willing to find a DAPE. This is the most commonly triggered PE category for foreign companies operating through remote employees, liaison offices, or local sales teams.

Service PE

A service PE arises when employees or personnel of a foreign enterprise furnish services in India for a period exceeding a specified threshold within a 12-month window. The threshold varies by treaty:

Treaty partner	Service PE threshold (general)	Service PE threshold (associated enterprise)
United States	90 days	30 days
United Kingdom	90 days	30 days
Singapore	90 days (physical presence mandatory per Delhi HC, Dec 2025)	30 days
Germany	183 days	30 days
Netherlands	90 days	30 days
UAE	No service PE article (fixed-place and DAPE apply)	n/a
No DTAA	Domestic law: Section 9(1)(i) business connection	n/a

Day count aggregation is a critical compliance point. India aggregates the presence of all personnel of the foreign enterprise, not only one individual. Three employees each spending 35 days in India in the same 12-month period aggregate to 105 days: above the 90-day threshold under the India-US DTAA.

Construction PE

A construction PE arises when a foreign company carries out a construction, installation, or assembly project in India for a period exceeding the treaty threshold. Most Indian DTAAs set this at 183 days (6 months), though some treaties specify 12 months. The continuity test applies across the project, so temporary interruptions do not reset the clock.

How does the Income Tax Act 2025 change PE analysis from 1 April 2026?

The Income Tax Act 2025 replaces the Income Tax Act 1961 for income arising on or after 1 April 2026. For PE purposes, the substantive rules remain largely consistent with the 1961 Act, but several structural changes are relevant for foreign companies:

The PE definition is carried over from Section 92F(iiia) of the 1961 Act into the new framework. The “business connection” provisions, including the Significant Economic Presence (SEP) rules, are retained under Section 9 of the new Act. The Finance Act 2025 clarified that transactions confined to purchasing goods in India for export are excluded from constituting SEP. This is a welcome carve-out for foreign companies sourcing from India, though it applies narrowly.

For existing PE arrangements, foreign companies with established branches, liaison offices, or project offices in India should review their compliance structure against the new Act’s provisions, particularly on profit attribution and transfer pricing, before the first return filed under the new Act is due.

Significant Economic Presence: the fifth PE category for digital businesses

Significant Economic Presence (SEP) was introduced under Explanation 2A to Section 9(1)(i) of the Income Tax Act 1961 through the Finance Act 2018, became effective from 1 April 2022 after CBDT notified the thresholds in May 2021, and is now codified in the Income Tax Act 2025. Under the new Act (Section 9(8)(d) and Rule 13 of the Draft Income Tax Rules 2026), the thresholds are:

• Revenue threshold: aggregate payments from Indian transactions exceeding Rs 2 crore in a financial year
• User threshold: systematic and continuous interaction with 3 lakh (300,000) or more users in India

SEP covers transactions in goods, services, property, data downloads, and software: and explicitly applies whether or not the foreign company has a physical presence in India, a registered entity in India, or renders services from within India.

The critical limitation of SEP in practice: where a DTAA applies, Section 90(2) of the Income Tax Act provides that the more beneficial provision governs. Most DTAAs continue to use the traditional PE framework under Article 5. A foreign company from a treaty country that has no fixed-place, DAPE, or service PE under its applicable DTAA is therefore generally not subject to Indian corporate tax purely because of SEP. SEP currently has its sharpest practical impact on foreign companies from non-treaty countries and on those that cannot produce a valid Tax Residency Certificate (Form 10F) to claim treaty benefits.

The Finance Act 2025 also abolished both categories of the Equalisation Levy: the 6% levy on online advertising (from 1 April 2025) and the 2% levy on e-commerce operators (from 1 August 2024): aligning India with the OECD Pillar One direction. Foreign digital companies that previously managed India exposure through Equalisation Levy compliance need to reassess whether their activities now trigger a PE or SEP position instead.

Does the 2025-26 case law change anything material?

Yes. Between July 2025 and March 2026, Indian tribunals and the Supreme Court delivered six significant decisions that shifted the analysis on both fixed-place and dependent agent PE. Three deserve detailed attention.

Hyatt International (Southwest Asia) Ltd. v. ADIT (Supreme Court, July 2025)

The Supreme Court held that a Dubai-based hotel management company had a fixed-place PE in India despite having no formal lease, no exclusive office, and no individual employee who exceeded treaty day-count limits. The Court applied the disposal test and found that the foreign company’s “continuous and substantive control” over the day-to-day operations of Indian hotels under a 20-year Strategic Oversight Services Agreement was sufficient to constitute a fixed-place PE. The ruling establishes two principles that extend well beyond the hotel sector: control over business operations conducted from Indian premises can constitute a PE even without physical occupancy, and global losses at the head office level do not insulate the Indian PE from taxation.

CIT v. Clifford Chance Pte Ltd. (Delhi High Court, December 2025)

The Delhi High Court ruled that physical presence in India is a mandatory precondition for a service PE under the India-Singapore DTAA. Virtual or digital service delivery alone does not constitute a service PE. The Court also clarified that vacation days and business development days do not count toward the 90-day service PE threshold: only days on which services are actually performed count. This ruling provides meaningful protection for foreign companies providing services remotely to Indian clients, and directly rejected the revenue department’s push for a “virtual PE” concept under the India-Singapore treaty. Companies from other treaty jurisdictions with similar service PE language should document their reliance on this ruling while noting that its application is treaty-specific.

Major DAPE tribunal order (February 2026)

An Indian tribunal set aside a tax demand of Rs 3,960 crore (approximately USD 475 million) against a Netherlands-headquartered online travel company, which turned entirely on whether the company had a PE in India through its relationships with Indian hotels. The tribunal found that the company’s Indian operations were conducted through independent agents and did not amount to a dependent agent PE, because the Indian hotels were not acting exclusively or predominantly for the foreign principal and retained their independent commercial status. This ruling rewards genuinely arm’s-length distribution and agency arrangements, and confirms that a well-structured relationship with Indian distribution or sales partners, where the Indian party retains independent commercial identity and does not act predominantly for the foreign principal, does not automatically create a DAPE.

Budget 2026-27 clarification on cloud infrastructure

Budget 2026-27 clarified the PE treatment for foreign cloud service providers using Indian data centres. The distinction that emerges: a foreign company using a third-party cloud provider whose servers are physically located in India does not have a PE, because the company does not have those servers at its disposal. A foreign company that owns or leases dedicated server infrastructure in India, over which it has exclusive control and use, risks a fixed-place PE on the disposal test. This clarification reduces the ambiguity that had surrounded SaaS businesses with India data residency obligations under DPDP Act 2023 compliance requirements.

How does the India subsidiary affect PE risk for the foreign parent?

This is the most frequently misunderstood aspect of India PE analysis. A foreign company that incorporates an Indian wholly owned subsidiary (WOS) or private limited company does not automatically create a PE. The subsidiary and the parent are separate legal entities under the Companies Act 2013 and Indian company law. The subsidiary’s offices, assets, and employees belong to the subsidiary, not to the parent.

The parent creates a PE in India when its employees or officers use the subsidiary’s premises to carry on the parent’s own business: not the subsidiary’s business. This typically manifests in three fact patterns:

• Senior executives of the foreign parent who visit India and use the subsidiary’s office to conduct global management activities (deal negotiation, client meetings for the parent’s contracts, strategy functions) over extended or recurring periods
• The foreign parent’s employees working out of the subsidiary’s office on contracts or projects that belong to the parent entity
• The subsidiary’s employees acting as dependent agents for the parent: concluding contracts on the parent’s behalf, negotiating deals, or habitually playing the principal role in bringing parent contracts to completion

Documenting the distinction between activities conducted for the subsidiary and activities conducted for the parent is the core of PE risk management in a subsidiary context. Transfer pricing documentation, role descriptions, service agreements, and board records all contribute to this distinction.

What are the tax and compliance obligations when a PE exists?

Once a PE is established in India, the foreign company faces the following obligations:

Tax on attributable profits

Scenario	Applicable rate
Foreign company with no DTAA benefit	40% base rate plus applicable surcharge and 4% health and education cess
Foreign company with DTAA benefit (treaty rate applies)	As per applicable Article 7 and transfer pricing analysis
Minimum Alternate Tax (MAT)	9% of book profit (if the PE’s book profit triggers MAT under Section 115JB, though applicability to foreign PE is subject to ongoing judicial discussion)

The effective combined rate (base rate plus maximum surcharge at 5% on Rs 10 crore-plus income, plus cess) runs between 38.22% and 43.68% depending on income level and applicable surcharge slab.

Compliance obligations

• Obtain a Permanent Account Number (PAN) for the PE
• Obtain a Tax Deduction and Collection Account Number (TAN) for TDS obligations
• File income tax return in Form ITR-6
• Maintain books of account in India for the PE
• Obtain a tax audit under Section 44AB if PE turnover exceeds Rs 1 crore (or Rs 10 crore for a predominantly digital business with low cash transactions)
• Comply with transfer pricing provisions under Sections 92-92F and maintain a Master File, Local File, and Country-by-Country Report where applicable
• Withhold TDS under Section 195 on payments to non-residents where applicable

Penalties for non-filing or under-reporting range from 100% to 300% of the tax shortfall under Sections 270A and 271 of the Income Tax Act 1961. Interest applies separately under Sections 234A, 234B, and 234C.

What are the common mistakes that create inadvertent PE in India?

1. Treating the EOR as a complete shield

Employer of Record (EOR) arrangements place employees on an Indian payroll entity, which is helpful for employment law compliance. The EOR does not, however, change the PE analysis if the foreign company’s own employees in India habitually conclude contracts or negotiate deals on its behalf. What matters for DAPE is what the person in India actually does, not whose payroll they sit on. Several foreign companies discovered this after their India-based sales heads were found to have been habitually concluding contracts: the EOR arrangement provided no protection because the DAPE test is activity-based, not employment-relationship-based.

2. Ignoring aggregate day counts for service PE

Companies often track individual employee days but not aggregate days for all personnel. The India-US DTAA service PE threshold of 90 days applies to the combined presence of all personnel of the foreign enterprise in India in a 12-month period. A project staffed by three rotating engineers, each present for 35 days, breaches the threshold in aggregate. A travel tracking system covering all India-bound personnel: not just long-term assignees: is a basic compliance requirement.

3. Assuming the subsidiary office is off-limits to the parent

Executives of the foreign parent who visit India and use the Indian subsidiary’s office to conduct global functions create a PE risk that many companies do not account for. The Hyatt ruling makes clear that substantive control exercised from Indian premises: even informally: can satisfy the disposal test. Board resolutions, meeting records, and expense allocation practices should distinguish parent-level activities from subsidiary-level activities clearly.

4. Letting the liaison office operate beyond its permitted scope

A foreign company can operate a liaison office (LO) in India under Reserve Bank of India (RBI) approval under FEMA 1999. The LO is permitted only to conduct liaison activities and is explicitly prohibited from earning income in India or concluding contracts on behalf of the foreign entity. Liaison offices that drift into commercial activity: arranging contracts, negotiating terms, managing Indian clients: cross the threshold and simultaneously breach FEMA compliance and create a PE. The RBI reviews LO renewal applications and income tax authorities cross-check LO activities against PE assertions.

5. Using the Indian manufacturer as a PE without recognising it

If a foreign company controls the manufacturing process of an Indian contract manufacturer, owns the raw materials, specifies the product entirely, and bears the inventory risk, Indian tax authorities can treat the Indian manufacturer’s facility as the foreign company’s fixed-place PE. The economic reality test: who bears the risk and controls the assets: governs more than the contractual label.

Case study: restructuring a dependent agent PE risk before it crystallised

Situation: A US-headquartered B2B SaaS company, Series B stage, with 11 India-based employees under an EOR arrangement. The India team included two account executives who managed renewals and upsells for South Asia enterprise accounts.

Challenge: A PE risk assessment flagged that the two account executives were (a) attending client negotiation meetings in India, (b) agreeing on commercial terms subject to US sign-off, and (c) habitually leading deals to a near-final stage. The company’s India-US DTAA provided a 90-day aggregate threshold, already exceeded in the prior year by the combined travel of three US-based executives visiting India for client work.

What Treelife did: Restructured the account executive roles to separate support activities (onboarding, technical assistance, customer success) from revenue-closing activities (commercial negotiation, proposal authority). US-based account executives retained formal authority over all commercial terms. Documented the change through updated role descriptions, engagement letters, and an internal policy on India-based commercial authority. Ran an aggregate day-count audit for all US personnel and established a travel tracking protocol.

Outcome: PE risk assessment cleared for the current and prior year on the DAPE front. The day-count protocol identified that the company had already exceeded 90 days in aggregate in the previous year for service PE: separate remediation was initiated for the prior period to address the unrecognised tax liability before it became subject to penalty.

How are profits actually attributed to a PE in India, and why is this the real dispute?

Finding that a PE exists is only the first battle. The second, and often more costly, battle is determining how much profit is attributable to the PE and therefore taxable in India. This is where most international PE litigation becomes protracted, sometimes running for six to twelve years before final resolution.

India’s profit attribution framework is governed by Rule 10 of the Income Tax Rules 1962, read with Section 9(1)(i) of the Income Tax Act 1961. Rule 10 permits the assessing officer to attribute profits “on any reasonable basis”, without mandating a specific formula or objective standard. In practice, officers have applied global profit ratios, function-asset-risk (FAR) analysis, turnover-based apportionment, and ad-hoc cost-plus methods inconsistently across assessments. The result is that two foreign companies with nearly identical India operations have faced materially different attribution outcomes depending on which officer assessed them.

India formally rejects the OECD’s Authorised OECD Approach (AOA), which treats a PE as a fully independent enterprise and attributes profits based purely on supply-side FAR analysis. India’s preferred approach mixes supply-side factors (functions performed, assets used, risks assumed by the PE) with demand-side factors (the value of Indian sales and the Indian consumer base contributing to global profits). This mixed approach has no settled formula, which is precisely the source of the uncertainty.

The NITI Aayog OPTS proposal (October 2025)

In October 2025, the National Institution for Transforming India Aayog (NITI Aayog) released a working paper proposing an Optional Presumptive Taxation Scheme (OPTS) for PE profit attribution. Under OPTS, a foreign company with a PE in India could elect to pay tax on a fixed, industry-specific margin applied to Indian gross receipts, instead of fighting attribution in assessment. Indicative margins for sectors such as financial services, technology services, and manufacturing are under consultation with the Ministry of Finance. The scheme is not yet enacted, but its existence signals two things: the government has acknowledged that the current Rule 10 framework is producing disputes rather than revenue, and a simplified settlement path may be available for foreign companies with historic PE exposure who want to regularise their position without protracted litigation.

For any foreign company that suspects it may have an unacknowledged PE from prior years, the OPTS proposal makes voluntary disclosure before enactment more attractive: early resolution at a settled margin is almost always preferable to facing an assessing officer’s unconstrained Rule 10 discretion after being detected in audit.

What this means in practice

When structuring or reviewing a PE position, the attribution analysis must run alongside the PE existence analysis. A foreign company that acknowledges a limited PE (say, a service PE for three months of employee presence) but can demonstrate that the functions performed were purely support activities with no India-specific revenue generation may be able to contain attributable profits to a small fraction of global income. The key documents are: a functional analysis separating India-PE activities from head-office activities, arm’s-length pricing support for any services the PE receives from or provides to the head office, and Indian books of account that reflect only the PE’s own transactions. Companies that do not maintain this documentation give assessing officers wide latitude under Rule 10 to apply a global profit ratio to Indian revenues, which routinely produces an attribution far in excess of what the India operations economically justify.

The preparatory and auxiliary activities exception, and why the MLI anti-fragmentation rule matters

Indian DTAAs, following Article 5(4) of the OECD Model Tax Convention, list activities that are explicitly excluded from PE status even where a fixed place of business exists. These include:

• Maintaining a facility solely for storage or display of goods
• Maintaining a stock of goods solely for storage, display, or delivery
• Maintaining a fixed place solely for purchasing goods or collecting information
• Maintaining a fixed place solely for advertising, supply of information, scientific research, or any other preparatory or auxiliary activity

Foreign companies have historically used these exclusions to argue that liaison offices, warehouses, and small India teams engaged in market research or pre-sales activity do not constitute a PE. Indian courts have generally respected this exclusion where it is applied genuinely. In UAE Exchange Centre v. Union of India, the Supreme Court confirmed that liaison office activities of a strictly preparatory or auxiliary character are excluded from PE status, and that the test is not whether the activities contributed to completing a transaction, but whether they are marginal and incidental to the enterprise’s overall business.

India chose Option A under the MLI

The Multilateral Instrument (MLI), which entered into force in India on 1 October 2019, modifies India’s covered tax agreements. Under Article 13 of the MLI, India adopted Option A, which means: every activity on the Article 5(4) exclusion list must independently satisfy the “preparatory or auxiliary” character test before the exclusion applies. An activity that falls within the listed categories but is core to the enterprise’s overall business in India no longer automatically escapes PE status.

The more significant change is the anti-fragmentation rule in Article 5(4.1) of covered treaties (MLI Article 13(4)). It provides that where a foreign enterprise or its closely related enterprises carry on activities at multiple places in India, and the combined activities constitute complementary functions that are part of a cohesive business operation that is not merely preparatory or auxiliary in nature, the exclusions do not apply. The entire combination is assessed as one PE.

What the anti-fragmentation rule means for distributed India operations

A foreign company that operates through an India liaison office (for market development), an Indian subsidiary (for technology delivery), and Indian freelance contractors (for sales support) cannot argue that each component, viewed in isolation, falls within the preparatory and auxiliary exceptions. If the combined activity amounts to carrying on the enterprise’s core business in India, the revenue can aggregate all three and assert a PE. The anti-fragmentation rule essentially closes the strategy of splitting a cohesive India business into small, individually-exempt fragments.

Delhi HC confirmed in January 2025 (preparatory and auxiliary activities ruling for a US company’s liaison office) that activities limited to training, market research, and support functions remain protected. The line is: support functions that are genuinely incidental to the enterprise’s main activity are safe; functions that are integral to how the enterprise earns revenue in India are not, regardless of whether they are formally labelled support.

Secondment of employees: the dual PE and payroll tax exposure

When a foreign company seconds its employees to an Indian subsidiary, two distinct tax risks arise simultaneously and are often treated as one, which causes both to be underestimated.

Risk 1: Service PE of the foreign parent

If the seconded employees remain on the foreign parent’s payroll (or the cost is recharged to the parent after the subsidiary initially bears it), and those employees direct operations for the parent company’s benefit while physically present in India, the parent may have a service PE. The fact that the individuals are seconded to the subsidiary does not by itself shift their functional allegiance. Indian courts look at who the employees are economically working for, not who has the formal employment contract.

The Morgan Stanley ruling (2007) addressed secondment directly: where the secondees were found to be functionally performing services for the foreign parent rather than for the Indian subsidiary, the foreign parent had a PE. Morgan Stanley was ultimately protected because the ITAT found that the Indian entity was adequately remunerated at arm’s length for the stewardship functions. The lesson: if the subsidiary is compensated at arm’s length for what the secondees do, and the secondees are genuinely working to build the subsidiary’s own capabilities rather than to serve the parent’s client base, the PE risk is contained.

Risk 2: Deemed salary income taxable in India

Where a secondment arrangement provides that the Indian subsidiary recharges salary costs to the foreign parent (because the secondee is technically providing stewardship or oversight services to the parent), the recharge can be characterised as fees for technical services under Section 9(1)(vii) or salary income under Section 9(1)(ii), making it taxable in India with TDS obligations on the payer. This is independent of whether a PE exists. Even where no PE is established, the individual secondee’s India-source salary may be taxable in India under the relevant DTAA’s employment article if the economic employer test is satisfied.

The practical requirement for secondment arrangements: document clearly whether the secondee is working for the subsidiary or for the parent. If for the subsidiary, the subsidiary pays the salary directly with no recharge to the parent, and the secondee has a local employment agreement. If there is any recharge, assess the TDS obligation under Section 195 and the PE implications before the secondment commences.

POEM versus PE: when both assertions can apply simultaneously

Place of Effective Management (POEM) and PE are frequently confused but address different questions. POEM determines the tax residency of the foreign company itself: if the place where key management and commercial decisions for the company as a whole are made is in India, the foreign company becomes a tax resident of India and is taxed on its global income. PE determines whether a non-resident foreign company has a taxable presence in India, with tax applying only to profits attributable to the Indian operations.

The critical point that most articles miss: a foreign company can face both assertions simultaneously, and they are additive, not alternatives.

When POEM becomes live

Finance Act 2017 introduced POEM rules under Section 6(3)(ii) of the Income Tax Act 1961. A foreign company is treated as India-resident if its place of effective management in any year is in India. POEM is the place where the board of directors or executive management of the company as a whole routinely makes key management and commercial decisions. CBDT Circular 6/2017 provides that if a majority of board meetings are held in India, or if the de facto decision-making for the whole enterprise sits with a person physically located in India, POEM may be in India.

This has become a real enforcement risk for foreign founders and executives who have relocated to India while continuing to manage their overseas entity. A US-registered holding company whose sole decision-maker has been resident in India for two or more years, and whose board meetings are conducted from India, faces a POEM assertion that would make the US company a deemed Indian resident, taxable on its worldwide income under Section 5(1) of the Income Tax Act.

The simultaneous exposure scenario

Consider a Singapore holding company whose founder is India-resident, whose Indian subsidiary carries out software development for global clients, and whose India-based employees attend client calls and negotiate contract renewals for the Singapore entity. The Indian tax authorities can simultaneously assert: (a) POEM in India for the Singapore holding company, making it a deemed resident taxable on all global income; and (b) a dependent agent PE of the Singapore holding company in India through the India-based employees who habitually conclude contracts. If both are sustained, the Singapore company faces India tax twice on overlapping income: once as a deemed resident on all global profits, and separately on the attributable PE profits. While credit mechanisms and treaty provisions should prevent pure double counting, resolving the overlap in assessment requires careful treaty analysis and robust documentation.

The mitigation: if a foreign founder is India-resident, the overseas holding company’s board should include non-India directors who genuinely participate in decision-making, board meetings should be held outside India with records confirming substantive decisions were taken at those meetings, and the India subsidiary’s operational scope should be clearly delineated from the overseas entity’s global management functions.

How Advance Pricing Agreements interact with PE risk: what most foreign companies discover too late

An Advance Pricing Agreement (APA) under Sections 92CC and 92CD of the Income Tax Act 1961 is a bilateral or unilateral agreement between a taxpayer and the Indian tax authority (and, for bilateral APAs, the competent authority of the treaty partner) that determines the transfer pricing methodology and arm’s-length price for covered transactions for up to five years, extendable by a five-year rollback.

Many foreign companies with India subsidiaries have APAs in place that cover the remuneration of the Indian subsidiary for services rendered to the foreign parent on a cost-plus basis. These companies operate under the reasonable assumption that a cost-plus APA provides full India tax certainty for their India structure. That assumption is narrower than most companies realise.

What an APA does not cover

An APA determines the transfer price for covered transactions. It does not determine whether the foreign parent has a PE in India. If the foreign parent’s employees use the Indian subsidiary’s premises for the parent’s business, or if the subsidiary’s employees habitually conclude contracts for the parent beyond what the APA-covered services contemplate, a PE of the foreign parent may exist independently of the APA. The revenue can assert the PE and tax the attributable business income under Article 7 of the applicable DTAA , without the APA providing any protection on that income.

The MLI’s impact on existing APAs

The MLI, in force from 1 October 2019, modified India’s covered tax agreements. APAs negotiated before the MLI’s entry into force may have been structured on the assumption that certain India-based activities were protected by the preparatory and auxiliary exception or the independent agent exclusion under the pre-MLI treaty text. Post-MLI, the anti-fragmentation rule and the tightened dependent agent PE definition apply to those same treaties. An APA that was commercially sound under the pre-MLI treaty text may leave the foreign parent exposed to a PE assertion under the modified treaty, because the APA covers transfer pricing, not PE existence.

Foreign companies that have APAs covering India arrangements should run a PE health check against the post-MLI treaty text, specifically checking whether the Indian subsidiary’s activities, combined with any other India-based presence of the foreign parent, aggregate to a PE under the anti-fragmentation rule. Where the APA was negotiated with the assumption that the Indian subsidiary is adequately remunerated to absorb all India-attributable profit (making the PE’s attributable profit notionally nil), that assumption should be formally tested against the current treaty language.

FAQs on PE Risks for Foreign Companies in India

Q: Does having an Indian subsidiary automatically create a PE for the foreign parent?
A: No. An Indian subsidiary is a separate legal entity. The subsidiary’s office, employees, and assets belong to the subsidiary. A PE of the foreign parent arises only when the parent’s personnel use the subsidiary’s premises to conduct the parent’s business, or when the subsidiary’s employees act as a dependent agent for the parent: habitually concluding contracts or playing the principal role in bringing parent contracts to closure.

Q: What is the tax rate on profits attributable to a PE in India?
A: The base corporate income tax rate for foreign companies is 40% under the Income Tax Act. Adding the applicable surcharge (12% on income above Rs 10 crore) and the 4% health and education cess, the effective rate can reach approximately 43.68% at higher income levels. Where a DTAA applies and profit attribution is governed by the treaty’s Article 7, the rate and basis of taxation will follow the treaty framework.

Q: How does an Employer of Record arrangement affect PE risk?
A: An EOR places India-based employees on an Indian payroll entity’s books, which satisfies employer-of-record obligations under Indian labour law. It does not, by itself, eliminate PE risk. The DAPE test is activity-based: if the India-based person habitually concludes contracts or plays the principal role in bringing contracts to conclusion for the foreign company, a DAPE exists regardless of the EOR structure. An EOR is a useful risk management tool when combined with a careful role definition that keeps commercial authority with the foreign entity’s home jurisdiction.

Q: Can a foreign company operate in India through a liaison office without creating a PE?
A: Yes, subject to strict activity limits. A liaison office approved by the Reserve Bank of India under FEMA 1999 can only conduct liaison activities: communicating, collecting information, and promoting the foreign company’s products and services. It cannot earn income in India, conclude contracts, or conduct any commercial activity. Breach of these limits simultaneously creates a FEMA compliance issue and a PE risk. LO approval is granted for three-year periods and must be renewed.

Q: What is service PE and how are the days counted?
A: A service PE arises when employees or personnel of a foreign enterprise provide services in India for more than the threshold period specified in the applicable DTAA: typically 90 days for unrelated enterprises and 30 days for associated enterprises, within a 12-month period. Days are counted in aggregate across all personnel of the foreign enterprise, not per individual. Days spent on vacation, transit, or business development (as clarified by the Delhi High Court in Clifford Chance, December 2025) do not count, but days on which services are actively performed do.

Q: Does remote service delivery from outside India create a service PE?
A: No, under the Delhi High Court ruling in CIT v. Clifford Chance Pte Ltd. (December 2025), physical presence in India is a mandatory precondition for a service PE under the India-Singapore DTAA. Virtual or digital service delivery alone does not constitute a service PE. This ruling is treaty-specific to the India-Singapore treaty, so companies under other treaties should verify whether the same language applies.

Q: What is Significant Economic Presence and does it affect companies from DTAA countries?
A: SEP is a domestic law nexus rule under Section 9(1)(i) of the Income Tax Act 1961 (now Section 9(8)(d) of the Income Tax Act 2025). It deems a non-resident to have a business connection in India if Indian transactions exceed Rs 2 crore or Indian user engagement exceeds 3 lakh users in a year. For companies from DTAA countries, the DTAA’s PE article generally overrides SEP under Section 90(2). SEP has its sharpest practical impact on companies from non-treaty jurisdictions or those unable to produce a valid Tax Residency Certificate.

Q: What compliance obligations does a PE create in India?
A: A foreign company with a PE in India must obtain a PAN, obtain a TAN, file Form ITR-6, maintain Indian books of account, comply with tax audit requirements if applicable, and maintain transfer pricing documentation (Master File, Local File, CbCR). Interest and penalties for non-compliance run from 100% to 300% of the tax shortfall.

Q: How does the Hyatt International Supreme Court ruling affect the fixed-place PE test?
A: The July 2025 ruling expanded the disposal test significantly. The Court found a fixed-place PE even though the foreign company had no formal lease, no exclusive office, and no individual exceeding treaty day limits. What satisfied the test was “continuous and substantive control” over operations conducted from Indian premises. This means management services agreements, oversight roles, and technical direction contracts that give a foreign company effective control over operations conducted in India should now be evaluated carefully under the disposal test.

Q: Does the India-specific PE analysis apply to digital businesses differently?
A: The Budget 2026-27 clarification on cloud infrastructure introduced a useful distinction: using a third-party cloud provider with Indian servers does not create a PE because the foreign company does not have those servers at its disposal. Owning or leasing dedicated server infrastructure in India, over which the foreign company has exclusive control, may constitute a fixed-place PE under the disposal test. For digital businesses, the SEP framework (not PE) remains the primary digital nexus rule: but SEP is largely overridden by DTAAs for treaty-country companies.

Q: How should a foreign company conduct a PE health check?
A: A PE health check covers five areas: mapping all individuals in India who act in any capacity for the foreign enterprise (employees, contractors, agents, liaison office staff), reviewing their actual activities against the DAPE and fixed-place PE tests, aggregating day counts for all personnel against the applicable DTAA service PE threshold, reviewing use of any Indian premises including subsidiary offices and client sites, and reviewing contractual arrangements with Indian distributors and agents for independence and commercial substance. The health check should be run annually and triggered additionally by any material change in India-based headcount, role scope, or commercial activities.

Q: What happens if a PE is found retroactively?
A: The Indian income tax department can issue a notice for up to six assessment years under Section 148 for escaped assessments, extendable in certain cases. If a PE is found to have existed in prior years and tax was not paid, the foreign company faces tax on attributable profits for each open year, interest under Sections 234A, 234B, and 234C, and penalties of 50% to 200% of the under-reported income under Section 270A of the Income Tax Act 1961. Early voluntary disclosure and a clean structure going forward typically yields a better outcome than being found in audit.

Q: How does India calculate the profits attributable to a PE?
A: India uses Rule 10 of the Income Tax Rules 1962, which allows assessing officers to attribute profits on “any reasonable basis” without mandating a specific formula. India rejects the OECD’s Authorised OECD Approach and instead applies a mixed analysis combining supply-side factors (functions, assets, risks of the PE) with demand-side factors (value of Indian sales). In practice this produces inconsistent outcomes across assessments. The NITI Aayog released a working paper in October 2025 proposing an Optional Presumptive Taxation Scheme with industry-specific fixed margins as an elective settlement mechanism; it is not yet enacted but signals the government’s acknowledgment that Rule 10 discretion needs reform.

Q: What are preparatory and auxiliary activities, and do they protect a foreign company from PE?
A: Most Indian DTAAs exclude from PE status activities such as maintaining a facility for storage, purchase of goods, collection of information, advertising, and other preparatory or auxiliary functions. Post the Multilateral Instrument (MLI) entering force for India on 1 October 2019, India chose Option A under MLI Article 13, meaning every such activity must independently satisfy the “preparatory or auxiliary” character test. The MLI also introduced an anti-fragmentation rule: if a foreign company splits a cohesive India business across multiple entities or locations to keep each part within an exclusion, the revenue can aggregate them and treat the whole as a PE. The exclusion remains valid for genuinely incidental activities, such as market research, limited pre-sales support, and training, but not for functions that are integral to how the enterprise earns revenue in India.

Q: Does seconding employees to an Indian subsidiary create a PE for the foreign parent?
A: It can, on two separate grounds. First, if the seconded employees are functionally performing services for the foreign parent rather than building the subsidiary’s own capabilities, a service PE of the parent may arise regardless of the secondment label. Second, if the subsidiary recharges salary costs to the parent, that recharge can attract TDS obligations as fees for technical services or salary income under Section 9(1)(vii) or 9(1)(ii). Morgan Stanley (2007) established that where the Indian entity is adequately remunerated at arm’s length for the secondees’ work, and the secondees are genuinely working for the subsidiary, the PE risk is contained. The documentation requirement is a clear functional separation between what the secondees do for the subsidiary versus any residual work for the parent.

Q: What is POEM and how is it different from PE?
A: Place of Effective Management (POEM) under Section 6(3)(ii) of the Income Tax Act 1961 determines whether a foreign company becomes a tax resident of India. If the key management and commercial decisions for the foreign company as a whole are made in India, the company is treated as India-resident and taxed on its worldwide income. PE determines whether a non-resident foreign company has a taxable presence in India, with tax limited to profits attributable to Indian operations. Both can apply simultaneously: a foreign company whose global decision-making is in India (POEM) and whose India-based employees also habitually conclude contracts for the foreign entity (DAPE) faces both assertions. Mitigation requires non-India directors genuinely participating in board decisions, board meetings held and minuted outside India, and clear delineation between the overseas entity’s global management and the Indian subsidiary’s operational scope.

Q: Does an Advance Pricing Agreement protect against a PE assertion?
A: No, not directly. An APA under Sections 92CC and 92CD of the Income Tax Act determines the transfer pricing methodology and arm’s-length price for covered transactions between the foreign parent and the Indian subsidiary. It does not determine whether the foreign parent has a PE in India. If the parent’s employees use the subsidiary’s premises for the parent’s business, or if subsidiary employees conclude contracts for the parent beyond the APA-covered services, a PE can arise independently. APAs negotiated before the MLI’s entry into force in India (1 October 2019) may also have been structured on pre-MLI treaty assumptions that the anti-fragmentation rule and tightened DAPE definition now override. Foreign companies with existing APAs should run a PE health check against the current post-MLI treaty text.

Q: Can a foreign company challenge a PE assertion in India?
A: Yes. A foreign company can file objections before the Dispute Resolution Panel (DRP) under Section 144C of the Income Tax Act, appeal to the Income Tax Appellate Tribunal (ITAT), and appeal further to the High Court and Supreme Court on questions of law. Where a DTAA exists, the Mutual Agreement Procedure (MAP) under the treaty’s Article 25 provides a bilateral resolution mechanism between the two contracting state tax authorities. MAP is increasingly used for PE disputes and avoids the need for parallel domestic litigation in both countries.

Regulatory references

• Income Tax Act 1961, Section 9(1)(i): Income deemed to accrue or arise in India, business connection, and significant economic presence
• Income Tax Act 1961, Section 92F(iiia): Definition of permanent establishment
• Income Tax Act 1961, Sections 90, 90A: Relief and avoidance of double taxation under DTAA
• Income Tax Act 1961, Section 195: TDS on payments to non-residents
• Income Tax Act 1961, Section 271, Section 270A: Penalty provisions for non-disclosure and under-reporting
• Income Tax Act 1961, Sections 234A, 234B, 234C: Interest for default in furnishing return and payment of advance tax
• Income Tax Act 2025, Section 9(8)(d): Significant Economic Presence under the new Act (effective 1 April 2026)
• Income Tax Act 2025, Rule 13 of Draft Income Tax Rules 2026: SEP thresholds
• Finance Act 2018: Introduction of SEP under Explanation 2A to Section 9(1)(i)
• Finance Act 2024: Withdrawal of 2% Equalisation Levy on e-commerce operators (effective 1 August 2024)
• Finance Act 2025: Abolition of 6% Equalisation Levy on online advertising (effective 1 April 2025); exclusion of export purchase transactions from SEP
• CBDT Notification dated 3 May 2021: Prescribed thresholds for SEP: Rs 2 crore revenue and 3 lakh users
• Foreign Exchange Management Act 1999: Liaison office provisions and FEMA compliance for foreign companies
• Income Tax Act 1961, Sections 92CC, 92CD: Advance Pricing Agreements
• Income Tax Act 1961, Section 6(3)(ii): Place of Effective Management (POEM) for foreign companies
• CBDT Circular 6/2017: Guidance on POEM
• Income Tax Rules 1962, Rule 10: Profit attribution to PE
• MLI Articles 12, 13, 14: Artificial avoidance of PE status, anti-fragmentation, and contract splitting, in force for India from 1 October 2019
• MLI Article 13, Option A: India’s position on preparatory and auxiliary activities under covered tax agreements
• NITI Aayog Tax Policy Working Paper Series-I (October 2025): Optional Presumptive Taxation Scheme for PE profit attribution
• Hyatt International (Southwest Asia) Ltd. v. ADIT, 2025 SCC OnLine SC 1506 (Supreme Court, July 2025)
• CIT v. Clifford Chance Pte Ltd. (Delhi High Court, December 2025)
• DIT v. Morgan Stanley & Co. Inc. (Supreme Court, 2007): foundational DAPE test and secondment PE analysis
• Formula One World Championship Ltd. v. CIT (Supreme Court, 2017): fixed-place PE for event-based presence
• Union of India v. UAE Exchange Centre (Supreme Court): preparatory and auxiliary activities of liaison office excluded from PE