Section 177 — Thin Capitalisation | ITA 2025

Section 177 — - RESTRICTION ON DEDUCTION FOR INTEREST / ROYALTY / FTS

Section 177 is the substantive equivalent of 1961 s. 94B -- the THIN CAPITALISATION rule introduced FA 2017 implementing BEPS Action 4. The provision restricts deduction for INTEREST / ROYALTY / FTS payable to associated enterprises (s. 162) where the payment exceeds 30% of EBITDA (in case of interest -- generalised in 2025 Act). The disallowed excess is carried forward 8 years for subsequent set-off subject to same 30% cap. THRESHOLD: applies only where AE-interest paid exceeds INR 1 crore in a tax year. Carve-outs: banks / insurance / financial-services; specified industries with CG notification. The provision aligns with OECD BEPS Action 4 fixed-ratio rule.

Statutory text — Income-tax Act, 2025

Marginal note -- Restriction on deduction for interest / royalty / FTS to specified foreign persons

(1) Irrespective of anything contrary in this Act, any expenditure by way of interest or similar payment in respect of excess interest, as specified in sub-section (4), shall not be deductible in computation of income chargeable under the head “Profits and gains of business or profession”, if,—

(a) it is paid or payable by an Indian company or a permanent establish- ment of a foreign company in India, in respect of any debt issued by an associated enterprise which is a non-resident; and

(b) the sum of such expenditure in a tax year exceeds one crore rupees.

(2) Where a lender, not being an associated enterprise, has issued a debt referred to in sub-section (1), such debt shall be deemed to have been issued by an associated enterprise if an associated enterprise has—

(a) provided an implicit or explicit guarantee to the lender in respect of such debt; or

(b) deposited a corresponding and matching funds with such lender.

(3) The provisions of this section shall not apply to—

(a) interest paid in respect of a debt issued by a lender which is a perma- nent establishment in India of a non-resident engaged in the business of banking;

(b) an Indian company or a permanent establishment of a foreign company which is engaged in the business of banking or insurance or a Finance Company located in any International Financial Services Centre, or such class of non-banking financial companies as may be notified by the Central Government in this behalf.

(4) For the purposes of sub-section (1), the expression “excess interest” means the total interest paid or payable in excess of 30% of earnings before interest, taxes, depreciation and amortisation of the borrower in the tax year or the interest paid or payable to associated enterprises for that tax year, whichever is less.

(5) Interest expenditure not wholly deducted against income under the head “Profits and gains of business or profession” for any tax year shall be—

(a) carried forward to the following tax year or years; and

(b) allowed as a deduction against the profits and gains, if any, of any busi- ness or profession carried on by it and assessable for such tax year, to the extent of maximum allowable interest expenditure as per sub-section (4).

(6) The interest expenditure referred to in sub-section (5) shall not be carried for- ward for more than eight tax years immediately succeeding the tax year for which the excess interest expenditure was first computed.

(7) For the purposes of this section,—

(a) “debt” means any loan, financial instrument, finance lease, financial derivative, or any arrangement that gives rise to interest, discounts or other finance charges that are deductible in the computation of income chargeable under the head “Profits and gains of business or profession”;

(b) “Finance Company” means a finance company as defined in regulation 2(1)(e) of the International Financial Services Centres Authority (Finance Company) Regulations, 2021 made under the International Financial Services Centres Authority Act, 2019 (50 of 2019) and which satisfies such conditions and carries on such activities, as may be prescribed;

(c) “permanent establishment” shall have the meaning assigned to it in section 173(c).

Corresponding provision — 1961 regime

INCOME-TAX ACT, 2025	INCOME-TAX ACT, 1961
INCOME-TAX ACT, 2025 -- s. 177	INCOME-TAX ACT, 1961 -- s. 94B
Sub-s. (1) -- 30% of EBITDA cap on AE-interest deduction	1961 s. 94B(1)/(2)
Sub-s. (2) -- INR 1 crore threshold	1961 s. 94B(3)
Carry-forward 8 years for disallowed excess	1961 s. 94B(4)
Banking / insurance / financial-services carve-out	1961 s. 94B(5)

STATUTORY ARCHITECTURE

FA 2017 introduction implementing BEPS Action 4 fixed-ratio rule. Architecture: (a) Where Indian assessee has DEBT FROM AE (NR or PE of NR), interest deduction restricted to 30% of EBITDA. (b) THRESHOLD: applies only when AE-interest > INR 1 crore per year. (c) DISALLOWED EXCESS: carry forward to subsequent 8 tax years; in each subsequent year, c/f interest is added to current AE-interest and 30%-EBITDA cap re-applied. (d) CARVE-OUT: banking + insurance + specified financial-services sectors EXCLUDED (their leverage is regulated by RBI / IRDAI). (e) TIE-IN WITH s. 162 AE-DEFINITION: where loan is from non-AE-bank but AE provides guarantee, the loan is deemed AE-loan for s. 177 (anti-circumvention). WORKED EXAMPLE: Indian assessee EBITDA INR 100 cr; AE-interest INR 40 cr; 30% × 100 = INR 30 cr cap; current-year deduction INR 30 cr; disallowed INR 10 cr c/f to year 2. Year 2 EBITDA INR 120 cr; current AE interest INR 35 cr + c/f INR 10 cr = INR 45 cr aggregate; cap = 30% × 120 = INR 36 cr; deduction INR 36 cr; disallowed INR 9 cr c/f to year 3. Practitioner relevance: Indian subsidiaries of foreign-MNCs heavily leveraged with parent-loan are most affected; PE-of-NR-bank operations specifically carved out.

PLANNING NOTES

(i) THRESHOLD MONITORING -- INR 1 crore AE-interest threshold; below this, no s. 177 application. (ii) DEBT vs EQUITY OPTIMISATION -- excess AE-loan converted to AE-equity (capital infusion) avoids s. 177; tax cost of capital infusion vs interest deduction loss to be modelled. (iii) GUARANTEE TRAP -- non-AE-bank loans with AE-guarantee deemed AE-loan; structure pure-bank-loan without AE-guarantee. (iv) C/F MANAGEMENT -- 8-year c/f window; track in tax computation Schedule. (v) BANKING / INSURANCE CARVE-OUT -- regulated entities outside; verify status.

CROSS-REFERENCES

Section 162 -- Associated enterprise.
Section 32 -- Interest deduction (general).
Section 35 -- Disallowance regime.
Section 161-176 -- TP regime.
BEPS Action 4 -- Fixed-ratio thin-capitalisation rule.

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