India: Regional Head Quarters (RHQs)

Recently India’s Prime Minister Dr. Manmohan Singh, during his visit to UN, invited business enterprises in UK and USA to invest in India.

Economies world over including India have opened doors for capital investment in their countries.

FDI investment in India grew from USD 129 m in 1991 to $ 3557 m in 1997, and under the revised norms, to $ 4.66 b in 2002/03. However this was 24% less than 2001/02, which attracted USD 6.131 b.

Under the FDI Performance Index of UNCTAD, released in their World Investment Report of 2003, China ranked 54th and India was 122^nd. FDI flows to China grew by leaps and bounds from $ 3.5 b in 1990 to USD 52.7 b in 2002.

80% of Fortune 500 companies have presence in China, while only 37% of these firms outsource to India.

The FDI gives a huge boost to the economy of the host country, generates tremendous employment growth, gives comfortable foreign exchange reserves, quality goods and services.

Over the last few years major MNCs, taking advantage of lower costs and better productivity, have shifted their manufacturing bases to developing countries. Better equipped countries have attracted higher FDI capital. This, in turn, has induced other countries to improve their infrastructure to attract FDI capital.

Along with, the service sector is also witnessing a big change. MNCs have been setting up Regional Head Quarters (RHQs) in other countries / regions. This is done for better control of regional operations, saving on costs, taking advantage of tax incentives and overall better group management.

Edna Carew, in the Language of Money, describes RHQs as the base chosen by a company operating in several countries. The country or capital city chosen benefits in terms of increased employment and spin off demands for services.

MNCs look out for many factors before deciding on the location of their RHQ, which include:

RHQs, being a service office, create work for consultants, administrative staff and connected organizations. They bring along a tremendous leverage and status to the host country, and this in turn attracts more MNCs / RHQs and more funds.

Income tax is not the only criteria or a substantive issue on which MNCs take strategic decisions. But tax does play an influencing role and realizing this, countries are offering various incentives.

Countries like Singapore, Malaysia, Thailand, Philippines, China and Australia have all incorporated RHQ tax incentives / concessions in their tax laws and overall packages to attract RHQs.

Singapore announced a new and enhanced tax incentive programme that offers 15% or even lower tax to companies having Regional or International HQs in Singapore. There are more than 7000 MNCs in Singapore, and more than 4000 of them manage regional responsibilities. Of these, 280 Companies which have key decision making responsibilities of their Company’s global operations have been awarded the Headquarter status by the Economic Development Board of Singapore. An International HQ may even qualify for a tax rate, which could be as low as zero. GAIL has set up a subsidiary Company in Singapore as also has Ushacomm belonging to the Usha Martin group. Scandent group and Tata Consultancy Services also conduct their global business from Singapore.

The Malaysian Budget for 2003 exempted "Operational Headquarters" from Income Tax for ten years. Moreover dividends paid by OHQs from their exempt income would not be taxable to the receiving shareholders. Similar are the benefits for "Regional Distribution Centers".

Organon, with a worldwide turnover of more than USD 2 billion has set up its Asia Pacific RHQ near Kuala Lampur in Malaysia. This office will manage its activities in 14 countries of the region.

RHQs of multinationals set up in Phillipines are exempt from income tax and value added tax. They are also exempt from all kinds of local licenses, fees, dues, imports or any other local taxes or burdens. For alien employees, income tax is charged at a reduced rate of 15% of their gross compensation.

Instead of the usual 30% corporate income tax rate, Thailand announced a reduced corporate income tax rate of 10% on net profits of Regional Operating Headquarters of MNCs set up in Thailand. Subject to conditions, even personal income tax rate on taxable salaries derived from employment with the ROH was reduced to flat 15% from the usual personal tax rates ranging up to 37%.

Ford Motors has made Thailand the base for its Regional Operations Headquarters to support all its manufacturing activities in Southeast Asia.

The new regulations announced by Shanghai make it easier and attractive for foreign multinationals to establish RHQs in Shanghai. The new rules reflect the Shanghai government’s commitment to compete with other countries in Asia. Sabre Holdings, an S&P 500 Company, Fed Ex and General Motors have all relocated their Asia Pacific Regional Headquarters in Shanghai.

The Chairman of the Board of Taxation of Australia, at the 2nd Annual Australian Taxation Summit held on 10th February, 2004, commented about the business tax reforms introduced by Australia and the modernization of business tax arrangements which included reduction in the Company tax rate to an internationally competitive 30%.

In addition, international tax reforms were announced which would encourage the establishment in Australia of RHQ for foreign groups.

Few years back, Cathay Pacific shifted its office to Sydney where the cost of real estate was reported at 2% of Hong Kong costs.

Hongkong, the financial centre and one of the most favoured destinations, is an ideal location, more so because of easy access to mainland China.

Tax incentives apart, globalization is making it harder for governments to overtax, because it is easy for taxpayers to shift their productive activities to lower tax environments. Governments are caught in a dilemma as tax incentives to RHQs have a negative impact on resident, domestic taxpayers.

RHQs are a service office not generating manufacturing profits. Manufacturing units accelerate and multiply all round growth. This is not associated with service offices.

Moreover, for taking benefit of tax incentives, MNCs could designate their office as RHQs. These tax benefits could also see transfer of profits to these countries to take full advantage of tax savings. Hence the issues of granting tax incentives / concessions to RHQs are in itself a big question.

All these issue need to be taken into careful consideration by India, as it is in the process of withdrawing tax provisions which provide tax incentives / concessions.

India should debate and decide whether it wants to attract more FDI and establishment of RHQs or wants to give domestic industry a big push.

Alternatively a moderate tax regime with better infrastructural facilities may be created for all to compete in a level playing field.

There should be an all round development of infrastructure, communications and quality of life and labour, mixed with moderate income tax to attract RHQs and to discourage discrimination.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.