How to set up an IT firm in India

IT Industry is the fastest growing industry in India. It yields the highest rate of returns and hence is attractive to foreign investors. This article gives an overview of procedures that a foreign investor has to comply with before he sets up his own unit in India.

Incentives for Indian citizen / company

An Indian citizen can set up IT software and services operations in India as an individual/ proprietor, as a partnership/ firm/ trust or as a company registered under the Companies Act, 1956. No permission of the government is required. To encourage units in this sector, the Government of India has announced many schemes:

Domestic Tariff Area:When the focus is to sell in the domestic market, the unit can be set up anywhere in India. All normal laws apply. No concession is available on import duties. Exports are permitted. A special Export Promotion Capital Goods (EPCG) scheme of the Ministry of Commerce can be availed of which allows import of capital goods against export obligations at a concessional duty rate.

Special Economic Zones:SEZs are areas where export production is freed from the plethora of rules and regulations governing imports and exports. They have full flexibility of operations and can import duty free capital goods and raw material. The movement of goods to and from ports and SEZ is unrestricted. The units in SEZ have to export the entire production. Section 10A of the Income Tax Act provides for a 100% tax-holiday for the first five years and 50% tax holiday subsequently (upto financial year 2009-2010).

100% Export Oriented Unit (EOU):There is no need to be physically located at SEZ. All other incentives are the same as provided to SEZ units. Tax holiday similar to that provided to units located in SEZ is provided under Section 10B of the Income Tax Act.

Software Technology Park (STP):This is a very special scheme under the Ministry of Information Technology offering zero import duty on import of all capital goods, availability of infrastructure facilities like high-speed data communication links, etc. Tax holiday under Section 10A of the Income Tax Act is also provided to such units.

Overseas company

A foreign company or an individual planning to set up business operations in India can do so

1. as a foreign company through a liaison office, representative office, project office or branch office.

2. as an Indian company through a joint venture or a wholly owned subsidiary

A foreign company is one that has been incorporated outside India and conducts business in India. These companies are required to comply with the provisions of Companies Act, 1956 as stipulated by sections 592 to 602, such as maintenance of books of accounts, filing of returns with the Registrar of Companies, registration of charges etc.

Liaison office/ representative office

A liaison office is not allowed to undertake any business activity in India and earn any income. Its role is limited to collecting information about possible market opportunities and providing information about the company and its products to prospective Indian customers.

The Foreign Exchange Management Act (FEMA) and the Reserve Bank of India regulate the opening and operation of such offices. These offices have to ensure that expenses are met entirely through inward remittances of foreign exchange from head office abroad. Such offices should not charge any commission or receive other income from Indian customers for provision of liaison services. Liaison/ representative offices are required to furnish an annual compliance certificate from their auditors with the RBI.

Project office

Foreign companies planning to execute specific projects in India can set up temporary project/site offices in India with the approval of the RBI. Such approval is generally accorded to projects approved by authorities or projects financed by an Indian bank/ financial institution or a multilateral/bilateral international financial institution. The tenure of the office is dependent upon the duration of the project and normally approval is not accorded for more than three years. Further, a separate approval is required for each project proposed.

 
Branch office

Foreign companies may set up branch offices in India with the permission of the RBI for the following purposes:

1. To represent the parent company/other foreign companies in various matters in India, e.g. acting as buying/ selling agents in India.

2. To conduct research in the area in which the parent company is engaged, provided the results of the research are made available to Indian companies.

3. To undertake export and import trading.

4. To promote possible technical and financial collaborations between Indian companies and parent/overseas group companies.

5. Rendering professional or consultancy services or services in Information Technology and development of software in India.

6. Rendering technical support to products supplied by the parent/overseas group companies.

A branch office is not permitted to carry out manufacturing activities on its own. A branch office is required to file an annual compliance letter from their auditors with the RBI. Remittance of profits of the branch office is permissible by furnishing requisite documents with an authorized dealer
(i.e., bank).

As an Indian company

A foreign company can commence operations in India through incorporation of a company under the provisions of Indian Companies Act, 1956. Foreign equity in such Indian companies can be up to 100% depending upon the business plan of the foreign investor, and prevailing investment policies of the government.

Joint venture with an Indian partner

Foreign companies can set up their operations in India by forming strategic alliances with Indian partners. Setting up of operations through joint venture may entail the following advantages to a foreign investor:

1. Established distribution/marketing set up of the Indian partner.

2. Available financial resources of the Indian partner.

3. Established contacts of the Indian partner that help smoothen operations.

Foreign investments are approved through two routes as under:

Automatic route:Approvals for foreign equity up to 26%, 50%, 51% and 74% are given automatically subject to fulfilment of parameters in certain industries as specified by the government. The RBI accords automatic approval to all such cases.

Government approval:Approval in all other cases where the proposed foreign equity exceeds 26%, 50%, 51% or 74% in the specified industries or if the industry is not in the specified list, it requires approval from the Foreign Investment Promotion Board (FIPB).

Wholly owned subsidiary

The foreign investor has the option of setting up a wholly owned subsidiary (WoS), where the foreign company owns 100% shares of the Indian company. As above, foreign investments may be approved through the automatic route or through government approval. Automatic route is available for establishing WoS in the Information Technology sector.

Best Praktizes does financial and statutory outsourcing for startups and MNC firms. Contact Prakash at bestpraktizes@businessgyan.net or 98450 64830

Issue BG42 Sept04