Startups stare at compliance nightmare, possible short-term cash flow crunch over 20% TCS rule

The Finance Ministry recently amended rules under the Foreign Exchange Management Act (FEMA) to bring international credit card spending under the Liberalised Remittance Scheme (LRS).

Indian startups and businesses that allow their employees to use corporate credit cards for international payments are staring at a long compliance process and a possible short-term cash flow crunch amid the Central Government’s new amendment to deduct Tax Collected at Source (TCS) of 20 percent on international credit card transactions.

“There will definitely be an immediate cashflow impact. This is not a new levy, TCS was at 5 percent and now it is 20 percent. The only problem is the money will come back only after a year and this money is stuck till then. Even after applying for a refund, it will take some time,” said Ajay Rotti, CEO of Tax Compaas.

Startups and businesses generally allow employees to use corporate credit cards for business travel, international travel expenses, including accommodation and food and other foreign spending like subscriptions. These payments will usually be reimbursed by the companies after collecting the bills and transaction invoices.

“The question that should be asked now is whether international projects that Indian companies undertake will get costlier… Many companies’ cost of compliance is going to go up,” said another chartered accountant on the condition of anonymity.

While this is not a final tax liability it might create a short-term working capital issue of the TCS money getting parked with the government for more than a year.

“Imagine you are building software or providing an international service out of India as an individual. Your input costs are foreign software and services. TCS kills your business completely,” said Suhas Baliga, entrepreneur and a corporate lawyer wrote on Twitter on May 18.

The Finance Ministry recently amended rules under the Foreign Exchange Management Act (FEMA) to bring international credit card spending under the Liberalised Remittance Scheme (LRS).

This means that credit card spending in a foreign currency will now be a part of LRS's annual limit of $2,50,000 per person, per year.  Further, it will be subject to tax collected at source (TCS) of 20 per cent.

Before the Union Budget 2023, TCS under the LRS was at 5 per cent for remittances that exceeded Rs 7 lakh. However, with the new hike of 20 percent everyone will have to pay this amount, except those engaging in transactions related to medical treatment or education.

Corporate card expenses

Startups across sectors use corporate credit cards both under the companies' Permanent Account Number and Employees’ Permanent Account Number for business spending.

“Only a couple of startups reimburse the international office spends along with Tax payments, otherwise it is only the expenses excluding the TCS… We will have to claim the TCS at the end of the financial year. This is if the card is in the employee’s name,” said a marketing head of a top SaaS firm on the condition of anonymity.

“Some companies do reimburse along with TCS, however many don’t. I guess one possible solution is to go to the bank and change the corporate credit card under your (employee’s) name to the company’s name so TCS will be deducted only for the company,” said Deepak Shenoy Founder and CEO of CapitalMind while addressing queries on the topic at a Twitter Spaces.

Companies will have to make a policy soon if the proposal turns into a rule, Shenoy added.

Cumbersome compliance process ahead

While TCS can be claimed at the end of the financial year, experts believe there will be cumbersome compliance processes.

“The compliance process is going to get cumbersome… there are many employees travelling, the refund should be tracked, whether the employee applied for a refund should be tracked and much more and if companies do away with credit cards and give a cheque then that will be a long process too,” Rotti, a tax expert, said.

Banks and fintechs handling corporate credit cards will also have to bear the increased cost of compliance to provide transaction and refund details to companies.

More clarity is needed on business subscriptions

Subscriptions that are undertaken by startups will not attract TCS, however, an individual employee using it will have to pay TCS and claim a refund at the end of the financial year.

“Whether subscriptions or purchases by companies through like an Amazon US or a Dropbox subscription is chargeable or not is unclear. It depends on whether it comes under LRS, according to me it doesn’t attract TCS if a company undertakes it,” Rotti of Tax Compass said.

However, an individual employee who subscribes to any international software service for professional use using credit cards may face an issue.

“It is not like the credit card transactions for forex payments were cheaper there is also tax, forex charges, etc it just didn’t fall under LRS… I think subscriptions under individual’s names, which we used to get reimbursed will be affected,” said a startup founder on the condition of anonymity.

Startups exploring ways of transferring money through GIFT-City

“If the government has decided to tax the mode of payment or mode of transfer is not a bar at all. And GIFT-city is not a viable option anyway,” said a startup founder.

“The whole point of this move is that the government wants to make sure the credit card users are not exceeding the LRS limit… So, if this is the intent I don’t think any other workaround is possible,”  Rotti said.

Rotti also added that while UPI transactions on TCS rules are still unclear, the penetration is restricted so far to only Singapore and Dubai.

Several founders and investors are awaiting more clarity on the proposed rule.

"The finance experts I have spoken to say that bringing international credit card spending outside India under the Liberalised Remittance Scheme (LRS) is only applicable to those spends made abroad for travel and related transactions. This should not affect some SaaS startups… However, it would be good if the government can clarify this,” said Arvind Parthiban, CEO and co-founder of SaaS firm SuperOps.