Meaning and Explanation of Withholding tax in SAP

1. What is Withholding Tax?
A withholding tax, also called a retention tax, is a government requirement for the payer of an
item of income to withhold or deduct tax from the payment, and pay that tax to the government.
In most jurisdictions, withholding tax applies to employment income. Many jurisdictions also
require withholding tax on payments of interest or dividends. In most jurisdictions, there are
additional withholding tax obligations if the recipient of the income is resident in a different
jurisdiction, and in those circumstances withholding tax sometimes applies to royalties, rent or
even the sale of real estate. Governments use withholding tax as a means to combat tax evasion,
and sometimes impose additional withholding tax requirements if the recipient has been
delinquent in filing tax returns or in industries where tax evasion is perceived to be common.
Typically the withholding tax is treated as a payment on account of the recipient's final tax
liability. It may be refunded if it is determined, when a tax return is filed, that the recipient's tax
liability to the government which received the withholding tax is less than the tax withheld, or
additional tax may be due if it is determined that the recipient's tax liability is more than the
withholding tax. In some cases the withholding tax is treated as discharging the recipient's tax
liability, and no tax return or additional tax is required.
The amount of withholding tax on income payments other than employment income is usually a
fixed percentage. In the case of employment income the amount of withholding tax is often
based on an estimate of the employee's final tax liability, determined either by the employee or
by the government.
Withholding tax is an Income tax which is deducted at the source of the revenue. The party that
is subject to tax does not remit the withholding tax to the tax authorities himself.
In any business transaction there are 2 parties involved. One is the customer and another is the
vendor. A customer is authorized to deduct withholding tax for services rendered by the vendor.
When the vendor raises the invoice on the customer, the customer deducts the withholding tax as
per the rates specified by the tax authorities and pays the balance money to the vendor. The tax
deducted by the vendor is remitted to the tax authorities on specified due dates.
The vendor gives a Withholding tax certificate to the customer for the withholding tax deducted.
The customer can claim this withholding tax (as advance income tax paid) in his annual returns
to Income tax authorities.
In some countries (like India) the withholding tax is deducted on Invoice or payment whichever
is earlier. Thus when an advance is paid to the vendor the customer is required to deduct
withholding tax o n the advance payment.
When the Vendor submits an Invoice the customer is now required to deduct tax on the Invoice
amount reduced by the advance amount.
Withholding tax in India
Chapter XVII-B of the Income Tax Act provides for deduction of tax at source on payments
made by any assessee. These provisions are also applicable in case of payment made to non-
residents.

2. Section 195 casts an obligation on the person responsible for payment to non-resident to deduct
tax at source at the time of payment or at the time of credit of the sum to the account of the non-
resident.
Withholding tax for NRIs and foreign companies
Withholding Tax Rates for payments made to Non-Residents are determined by the Finance Act
passed by the Parliament for various years. The current rates are:
Interest – 20 percent of gross amount
Dividends – 10 percent
Royalties – 20 percent
Technical services – 20 percent
Any other services – individuals – 30 percent of net income
Companies/corporate – 40 percent of net income
The above rates are general and in respect of the countries with which India does not have a
double taxation avoidance agreement.
Withholding tax in SAP
To calculate pay and report the withholding tax, the SAP system provides two functions:-
Classic Withholding tax
Extended Withholding tax
Extended Withholding tax includes all the functions of classic withholding tax; SAP therefore
recommends the use of extended withholding tax.
Withholding tax is applicable for accounts payable only but extended WT for AP and AR also &
also this extended WT using several countries like India , Brazil, Mexico and USA.
Withholding Tax
Classic Withholding Tax (All release)
Extended Withholding Tax (from release 4)
Difference between the two
S.No Individual Function Classic -- Extended
1 Withholding Tax on Outgoing payment Yes -- Yes
2 TDS on Incoming payment x -- Yes
3 TDS at the time of Invoice x -- Yes
4 TDS on partial payment x -- Yes
5 No. of withholding tax from each document Max 1 --
Several
6 TDS basis
- Net amount Yes -- Yes
-Gross amount Yes -- Yes
-Tax amount x x -- Yes

3. 7 Rounding rule x -- Yes
8 Cash discount consideration x -- Yes
9 Accumulation x -- Yes
10 Minimum/Maximum amt and exemption x -- Yes
11 Certification Numbering x -- Yes
12 Calculation Formula Yes -- Yes
Withholding tax settings in SAP
1. MAINTAIN COUNTRIES
2. MAINTAIN TYPES OF RECIPIENT
3. DEFINE WITHHOLDING TAX TYPE FOR INVOICE POSTING
4. DEFINE WITHHOLDING TAX TYPE FOR PAYMENT POSTING
5. DEFINE WITHHOLDING TAX CODES
6. DEFINE FORMULAS FOR CALCULATING WITHHOLDING TAX
6.1. FORMULAS FOR CALCULATING WITHHOLDING TAX
7. ASSIGN WITHHOLDING TAX TYPES TO COMPANY CODES
8. ACTIVATE EXTENDED WITHHOLDING TAX
9. DEFINE ACCOUNTS FOR WITHHOLDING TAX TO BE PAID OVER
10. ASSIGN WITHHOLDING TAX TO VENDOR MASTER
11. POSTING OF INVOICE