Section 115BAB of the Income Tax Act defines a different tax regime for new domestic companies operating in the manufacturing sector that manufacture or produce goods in India. Manufacturing companies contribute significantly to the Indian economy as they manufacture products that Indian citizens use and are for export to foreign countries. The Indian government realises how important the manufacturing sector is in India and, hence, created section 115BAB to allow new domestic companies to pay a lower tax on their income.
If you are a business owner or are looking to create a company in the manufacturing sector, it is important that you know about the specifics of section 115BAB. This blog will help you understand everything you need to know about section 115BAB and how you can be eligible under the section to save a significant amount of tax.
What is the 115BAB of the Income Tax Act?
Section 115BAB is a special provision introduced into the Income Tax Act of 1961 by the Indian government. This section was established as part of the Taxation Laws (Amendment) Ordinance, 2019, enacted on September 20, 2019.
Section 115BAB allows newly registered manufacturing entities, established on or after October 1, 2019, to avail themselves of a reduced corporate tax rate of 15% (excluding surcharge and cess). To qualify for this scheme, these companies must have commenced their manufacturing operations by March 31, 2024.
However, under section 115BAB of the Income Tax Act, companies choosing to pay tax at the concessional rate can not claim any other government breaks or incentives. If a company fulfils the eligibility of section 115BAB, the Ministry of Finance (MoF) gives them the option to choose or reject paying taxes at the concessional rate.
What does Section 115BAB of the Income Tax Act deal with?
Section 115BAB of the Income Tax Act allows companies to opt for a reduced corporate tax rate, but they forfeit the ability to claim deductions or exemptions, including minimum alternate tax (MAT). This provision was introduced to incentivize new manufacturing firms to establish operations in India. The goal is to stimulate economic growth, generate employment, boost industrial investments, and support initiatives like the ‘Make in India’ program by providing a more attractive tax framework for businesses.
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Characteristics of section 115BAB
Here are the characteristics of section 115BAB :
- The Indian government, under its investment and support initiatives for the ‘Make in India’ program, passed the Taxation Laws Ordinance 2019 on September 20, 2019, inserting section 115BAB into the Income Tax Act of 1961. The section and its provisions came into effect from the 2019–2020 fiscal year.
- Any domestic company that makes a manufacturing investment and has its incorporation date on or after October 1, 2019, has the option to pay taxes at a lower tax rate of 15% (plus 10% surcharge and 4% education cess) under section 115BAB.
- Businesses or companies starting production before March 31, 2024 that are ineligible for any incentives or exemptions can utilise the provisions of section 115BAB.
- Companies eligible to pay taxes at a concessional rate under section 115BAB are excluded from the Minimum Alternate Tax (MAT).
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Benefits of Section 115BAB
Section 115BAB offers a concessional corporate tax rate of 15%, significantly lower than the usual 25%, leading to substantial tax savings for qualifying domestic companies. This reduced rate enhances business competitiveness and aligns with the government’s efforts to make it easier to operate in India. Additionally, eligible companies can benefit from initiatives like the Production Linked Incentive (PLI) scheme, which offers incentives for expanding manufacturing output and easier access to financing. These benefits together aim to boost India's manufacturing sector and overall economic growth.
Eligibility criteria to opt for a lower income tax rate under section 115BAB of the Income Tax Act
Here are the eligibility criteria to opt for a lower income tax rate under section 115BAB of the Income Tax Act:
- The company should have its incorporation date on or after October 1, 2019, and must have started production on or before March 31, 2014.
- The company should not have been created as a result of reconstructing or splitting up an existing business, except in the case of reorganisation listed under section 33B.
- The company should not use any plant or machinery that it has used before for any purposes, except in the case that machinery is imported and the plant has not been used domestically in India previously.
- The company should not use any building for manufacturing purposes that has previously been used as a convention centre or a hotel, as defined under section 80-ID.
- The company's total annual income must have been calculated without claiming any exemptions or deductions listed under Chapter VI-A (except sections 80JJAAand 80M) or section 10AA, which is related to SEZ.
- The total income of a company seeking to pay tax under section 115BAB will be computed without claiming the following deductions:
- Any deduction or exemption available for companies established in Special Economic Zones (SEZs) under section 10AA of the Income Tax Act 1961.
- Investment allowance under section 32AD and additional depreciation under section 32 for new plant and machinery. However, the plant and machinery must have been made in notified backward areas in the states of Bihar, Telangana, Andhra Pradesh, and West Bengal.
- Deductions by coffee, rubber, and tea manufacturing companies under section 33AB.
- Deductions for deposits made for site restoration funds by companies operating in producing and extracting natural gas or petroleum under section 33ABA.
- Deductions for expenses made towards scientific research or payments made to a research association, national laboratory, university, or IIT under section 35.
- Deductions by companies for capital expenditure under section 35AD.
- Deductions on the expenditure made towards agriculture extension projects under section 35CCC or skill development projects under section 35CCD.
- Deductions for incomes listed under chapter VI-A that are allowed under sections 80IA, 80IAB, 80IAC, 80IB, etc., apart from deductions listed under section 80JJAA.
- Offset of any loss that is carried forward or depreciation from previous years if such losses were incurred regarding the deductions mentioned above.
- Deduction for depreciation, as listed under section 32, apart from the additional depreciation mentioned above.
- A company can not withdraw from filing taxes under section 115BAB once it chooses to file taxes at the concessional rate in an assessment year.
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Which companies are covered under section 115BAB?
Domestic companies fulfilling the prescribed criteria outlined below are eligible to avail the benefits under Section 115BAB. The term domestic company encompasses companies incorporated and registered within India. This benefit is applicable from the financial year 2019-20 (Assessment Year 2020-21).
Can a corporate taxpayer opt for section 115BAB?
A newly established manufacturing enterprise may elect to be taxed under Section 115BAB of the Income Tax Act. This election must be made by the due date for filing the company's income tax return, typically September 30th of the assessment year, unless extended. If the company chooses Section 115BAB for a given financial year, this election is irrevocable for subsequent assessment years.
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Applicability of section 115BAB
Here is the applicability for various types of companies under section 115BAB when compared to the normal tax rate:
Companies with annual income less than Rs. 1 crore:
| Components | Not choosing section 115BAB | Choosing section 115BAB |
| Tax rate | 25% | 15% |
| Surcharge | NA | 10% |
| Education cess | 4% | 4% |
| Effective tax rate | 26% | 17.16% |
Companies with income exceeding Rs. 1 crore and up to Rs. 10 crore:
| Components | Not choosing section 115BAB | Choosing section 115BAB |
| Tax rate | 25% | 15% |
| Surcharge | 7% | 10% |
| Education cess | 4% | 4% |
| Effective tax rate | 27.82% | 17.16% |
Companies with income of more than Rs. 10 crore:
| Components | Not choosing section 115BAB | Choosing section 115BAB |
| Tax rate | 25% | 15% |
| Surcharge | 125 | 10% |
| Education cess | 4% | 4% |
| Effective tax rate | 29.12% | 17.16% |
Furthermore, companies not choosing section 115BAB also have to pay MAT at 15%.
Tax Rate as per Section 115BAB of the Income Tax Act
Here is the tax liability for a company choosing to file taxes under section 115BAB:
| Base tax rate | Surcharge applicable | Education cess | Effective tax rate |
| 15% | 10% | 4% | 15x1.1x1.04=17.16% |
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Applicability of transfer pricing provisions
Here is the applicability of section 115BAB with regard to the transfer pricing provisions:
- Imagine if a business has outperformed the estimates and earned profits higher than the forecasted earnings because of a bond it has with a different business or for any other specific reason. In such a case, the assessing officer has the right to disregard such profits. The assessing officer will also consider the profits reasonably made by a company without any external reason.
- The gains of a business arising from a ‘designated domestic transaction’ as defined under section 92BA will be calculated in relation to the arm’s length price.
Also read: Section 112A of Income Tax Act
How to avail the benefit of a low corporate tax rate?
To benefit from the lower corporate tax rate under Section 115BAB, a company must fulfill the following criteria:
- Establishment and Production Timeline:
- The company must be incorporated and registered on or after October 1, 2019.
- Manufacturing operations must commence by March 31, 2024.
- No Reconstruction of Existing Businesses:
- The company should not be formed by splitting or restructuring an existing business, except in cases of business reorganization under Section 33B.
- Prohibition on Certain Building Use:
- Buildings previously utilized as hotels or conference centers, as defined under Section 80-ID, cannot be used by the company.
- Limitations on Plant and Machinery:
- The company must not use second-hand plants or machinery, except for imported equipment that has never been used in India.
- Restrictions on Deductions:
- Total income must be calculated without claiming deductions under Chapter VI-A (except Sections 80JJAA and 80M) or Section 10AA for SEZ units.
- Deductions like additional depreciation (Section 32(1)(iia)), investment allowance (Section 32AD), and various allowances under Sections 33AB, 33ABA, 35, 35CCD, and 35AD are not permitted.
- Treatment of Losses:
- Losses related to deductions under Chapter VI-A (excluding Section 80JJAA) or Section 10AA cannot be set off against income. Carry-forward losses or unabsorbed depreciation from earlier years are also not allowed.
- Mandatory Declaration:
- The company must file its income tax return for the relevant assessment year along with the prescribed form to opt for this section. Once chosen, this option cannot be withdrawn in subsequent
Also read: Section 111A of Income Tax Act
Transfer pricing rules for companies opting for Section 115BAB of the income tax act
Section 115BAB of the Income Tax Act offers a significant tax benefit to newly incorporated domestic manufacturing companies. The provision allows for a concessional tax rate of 15%, substantially lower than the standard corporate tax rate in India.
However, there is a risk of tax avoidance through the misuse of this provision. Some entities might attempt to artificially transfer profits or goods to a newly formed manufacturing company to benefit from the lower tax rate.
To counteract this practice, the Income Tax Department (ITD) is empowered to scrutinize related-party transactions. These transactions must adhere to the arm's length principle, ensuring that they are conducted at fair market value. Any deviation from this principle can result in severe consequences. Excess income derived from non-arm's length transactions is subject to a tax rate of 30%, excluding surcharge and cess.
To mitigate risks and ensure compliance, companies must strictly adhere to the transfer pricing provisions under Sections 92BA and 92F of the Income Tax Act of 1961. All related-party transactions should be conducted at arm's length, avoiding artificially favourable terms.
Conclusion
The Indian government inserted section 115BAB into the Income Tax Act 1961 in 2019 to boost the new domestic companies that were created to produce and manufacture goods in India. Such companies incorporated on or after October 1, 2019, and starting manufacturing activities on or before March 31st, 2024, are eligible to file taxes under section 115BAB. This section allows eligible companies to pay taxes at a lower rate of 15% (plus a 10% surcharge and 4% education cess), resulting in a significantly lower effective tax rate of 17.16%. Paying a lower tax can allow new manufacturing companies to have a higher business revenue, which they can use to expand.
