- Dividends are the simplest and the most expensive route: paid out of profits already taxed at 25.17%, then withheld at 20% plus surcharge and cess or a treaty rate of 5%–15%.
- Royalties, service fees and interest are deductible in India, reducing the 25.17% layer, but must be genuine, arm's length and documented — and carry their own withholding and GST reverse charge.
- Buy-backs are taxed as capital gains in the parent's hands from tax year 2026-27 under the Finance Act, 2026, which makes them attractive where the parent's cost base is high relative to current value.
- Most groups combine routes: arm's length charges for what the parent genuinely provides, dividends for the residual, and buy-back or capital reduction for surplus capital.
The two-layer problem
Profit in an Indian subsidiary is taxed once at the corporate level (25.17% for most companies under the concessional regime) and again when it leaves (dividend withholding). A deductible payment — royalty, fee, interest — avoids the first layer on the amount paid but attracts its own withholding, transfer pricing scrutiny and GST reverse charge. The arithmetic for ₹100 of pre-tax profit:
| Route | Indian corporate tax | Withholding (illustrative treaty rate) | Cash to parent | Conditions |
|---|---|---|---|---|
| Dividend (US parent, 10%+ holding) | ₹25.17 | 15% of ₹74.83 = ₹11.22 | ₹63.61 | Distributable profits; Companies Act process |
| Dividend (Singapore / Netherlands / UK parent) | ₹25.17 | 10% = ₹7.48 | ₹67.35 | Beneficial ownership; PPT |
| Dividend (Mauritius parent) | ₹25.17 | 5% = ₹3.74 | ₹71.09 | Substance; PPT; LOB |
| Royalty (US parent) | Nil on the ₹100 paid | 15% = ₹15.00 | ₹85.00 | Genuine IP; arm's length; GST RCM creditable |
| Service fee (US parent, no make-available) | Nil | Nil | ₹100.00 | Services rendered and evidenced; benefit test; no shareholder costs; no PE |
| Interest (German parent ECB) | Nil within 30% EBITDA cap | 10% = ₹10.00 | ₹90.00 | ECB framework; arm's length rate; section 177 |
The table explains why tax authorities scrutinise fees and royalties: the difference between ₹63 and ₹100 is the Indian corporate tax base. The charge must therefore reflect something the parent actually provides at a price independent parties would pay — the whole of Pillar A and the management-fees page are about proving that.
Dividends: when and how
Declared out of profits after depreciation under section 123 of the Companies Act; interim by the board, final at the AGM; paid within 30 days. Withholding under section 393(2) at the section 207 rate (20% plus surcharge and cess) or the treaty rate with a TRC and Form 41 — check the shareholding condition (India–US 15% needs a 10% corporate holding), beneficial ownership and the principal-purpose test. Freely repatriable under FEMA through Form A2 with a CA certificate on tax paid and Forms 145/146. No deduction for the subsidiary; no GST.
Royalties and fees: deductible, if real
A royalty for the parent's technology or brand, or a fee for services the parent genuinely renders, reduces Indian taxable profit. Three tests must be met: transfer pricing (arm's length rate, benchmarked; benefit received; shareholder costs excluded), withholding (classification under the Act and treaty; TRC, Form 41, no-PE; Form 146), and GST (import of services under reverse charge — a cash timing cost, creditable). Fees that the Indian company cannot evidence are disallowed in transfer pricing assessment, which converts a deduction into a tax cost plus interest. Royalties on a brand the Indian customer never sees, or technology the Indian team developed, are the classic failures.
Interest: deductible within limits
Interest on a parent ECB is deductible up to 30% of EBITDA where interest to associated enterprises exceeds ₹1 crore (section 177), at an arm's length rate within the ECB framework (three-year minimum maturity; no all-in-cost ceiling for three-year-plus loans after February 2026). Withholding at the treaty rate — commonly 10% to 15%. Over-leveraging a captive is visible and adjusted.
Buy-back and capital reduction: returning capital
From tax year 2026-27, buy-back consideration is taxed as capital gains in the shareholder's hands — consideration less cost, long-term after 24 months — with the treaty's capital gains article deciding India's right to tax. For a parent that invested at a high valuation, a buy-back can return cash with little or no gain. The Companies Act caps buy-backs at 25% of capital and free reserves in a year; larger returns go through capital reduction via the NCLT, where the distribution is a deemed dividend to the extent of accumulated profits. See buy-back and capital reduction.
How groups sequence it
- Charge arm's length fees and royalties for what the parent actually provides — no more.
- Let the Indian company retain what it needs; dividend the rest annually at the treaty rate.
- When capital is surplus (over-capitalised at setup, business shrinking), buy back within the 25% limit or reduce capital.
- Keep the paper — agreements, benchmarking, board minutes, Forms 145/146, FEMA filings — so that each payment survives the audit that will follow.
Frequently asked questions
What is the cheapest way to take money out of an Indian subsidiary?
Deductible, genuine, arm's length charges for services or IP the parent actually provides have the lowest Indian tax cost; dividends are the most expensive but the simplest. Most groups use both, with buy-back or capital reduction for surplus capital.
What is the dividend withholding tax for a US parent?
15% under the India–US treaty where the US company holds at least 10% of the voting stock (25% otherwise), against 20% plus surcharge and cess under section 207 of the Income-tax Act, 2025.
Can we charge a management fee instead of paying dividends?
Only for services actually rendered that benefit the Indian company, at an arm's length amount, excluding shareholder costs. Fees that cannot be evidenced are disallowed in transfer pricing assessments.
How is a buy-back taxed for the foreign parent in 2026?
As capital gains (consideration less cost) in the parent's hands for tax year 2026-27 onwards under the Finance Act, 2026, with the treaty capital gains article governing India's taxing right and withholding usually fixed by a section 395 certificate.
Is interest on a parent loan fully deductible?
Up to 30% of EBITDA where interest to associated enterprises exceeds ₹1 crore (section 177), at an arm's length rate; the excess carries forward eight years.
Does GST apply to royalties and fees paid to the parent?
Yes — they are imports of services; the Indian company pays IGST at 18% under reverse charge and claims it as input tax credit. Dividends and interest are outside GST.
Sources
Primary sources only. Statutory text is read from the official publication; where a provision has been renumbered, the pre-2026 reference is given alongside so older material can be reconciled.
- Income-tax Act, 2025 and Income-tax Rules, 2026 — Income Tax Department, Tax Laws & Rules
- Double Taxation Avoidance Agreements — Income Tax Department
- Companies Act, 2013 and rules — Ministry of Corporate Affairs
- RBI Master Directions — Reporting under FEMA; External Commercial Borrowings; Overseas Investment; Export of Goods and Services; LRS
Last reviewed on 1 November 2026 by Vidushi Jhunjhunwala, FCA, VMS Jhunjhunwala & Co. Law stated as at that date; the Income-tax Act, 2025 and Income-tax Rules, 2026 apply from 1 April 2026.
