The demand for data centres has surged globally, driven by rapid digitalisation, the proliferation of AI and machine learning workloads, accelerated cloud migration, and increasing requirements around data localisation. In India, this momentum is reinforced by strong domestic tailwinds, with the government actively positioning the country as a global digital infrastructure hub through policy support, infrastructure incentives, and a push towards building a resilient data economy.
In this context, the Finance Act, 2026 (the FA 2026) has introduced a coherent tax framework that provides long‑term certainty and aligns India’s policy architecture with global digital economy trends.
The Finance Act, 2026: exemption for foreign entities procuring data centre services
The FA 2026, through the insertion of Serial No. 13C in Schedule IV of the Income-tax Act, 2025, has introduced a targeted income tax exemption for certain foreign companies in respect of income arising from the procurement of services from data centres in India.
The exemption applies only where the following conditions are cumulatively satisfied:
The foreign company must be specifically notified by the central government (a specified foreign company, or SFC);
It must not own or operate any part of the physical infrastructure or any resources of the Indian data centre;
Output services, if any, provided by the SFC to Indian customers must be routed through an Indian reseller entity; and
The foreign company must maintain and submit prescribed information.
The exemption is available for 20 years (until March 31 2047), which is twice as long as the typical exemption period.
Detailed definitions of ‘data centre services’ and ‘data centre’ have been introduced to clarify that the intention is to encompass not only the physical environment but the entire operational ecosystem of modern data centre‑based service delivery.
The FA 2026 has also included international transactions involving the procurement of data centre services by an SFC from an Indian associated enterprise within the safe harbour framework, at a 15% margin on cost.
The pre‑amendment paradox: when infrastructure was offshore but tax risk was onshore
Before this amendment, foreign providers of digital and cloud-based services faced considerable tax exposure due to the creation of a permanent establishment (PE) in India even where their core infrastructure and processing systems were located entirely offshore. In fact, Indian jurisprudence has demonstrated that equipment placed in India, even where not owned by a foreign entity, could constitute a fixed-place PE.
In Galileo International Inc. v Deputy Commissioner of Income-tax (2007), the Delhi Income Tax Appellate Tribunal held that computer terminals installed at Indian travel agents’ premises – which were supplied, configured, and effectively controlled by the non‑resident – constituted a fixed-place PE.
A similar approach was adopted in MasterCard Asia Pacific Pte. Ltd. (2018), wherein the Authority for Advance Rulings (AAR) held that the MasterCard Interface Processors installed at Indian customer premises, though owned and maintained by an Indian subsidiary, and the wider MasterCard network comprising applicant‑owned software, third‑party network infrastructure, and overseas processing systems were at the disposal of the non‑resident enterprise. The AAR emphasised that ownership was not determinative; what was material was the extent of functional control and the use of such infrastructure in carrying out core, revenue‑generating business operations in India. The ruling thus reignited the apprehension of taxpayers that automated infrastructure located in India could constitute a fixed place.
Furthermore, the OECD Model Commentary on Article 5 recognises that servers and other automated equipment may constitute a place of business when used with sufficient permanence. Whether the preparatory or auxiliary exception applies depends on the substantive role of the activity; i.e., if it forms an essential and significant part of the enterprise’s operations, the exception does not apply. This position has lent interpretative support to equipment‑based PE arguments.
PE exposure is exacerbated where personnel of foreign enterprises visit India for supervision, oversight, or management of local infrastructure, including data centres, even in the absence of traditional offices or employees.
Implications for specified foreign companies
With the amendment, the key change is that India will not tax the income of a foreign company merely because it procures data centre services from a specified Indian facility, as long as all prescribed conditions are met, even where treaty principles might otherwise have exposed such income to taxation through a PE in India.
Where the business involves Indian end customers, the FA 2026 requires sales to be routed through an Indian reseller, ensuring that profits attributable to Indian‑based reselling functions alone remain taxable in India and that the foreign enterprise is insulated in respect of profits attributable to non‑India sales/end customers.
A critical question, however, is the scope of the exemption – whether it extends to the entire income of an SFC or only to income directly attributable to the procurement and onward supply of data centre services?
In an infrastructure‑centric cloud storage or computing services model, the foreign entity procures data centre capacity from India and resells computing, storage, or hosting services to customers both in India and outside India. Here, the income is closely tied to infrastructure services sourced from India, and it can therefore be contended that the tax exemption applies to the entire service income generated by the SFC, including the income generated from resellers in India.
The position is less clear for content and platform‑based businesses (such as over-the-top services or online database subscriptions). The foreign company may use Indian data centres solely as a backend input to host or cache content, while earning subscription revenue from value-added digital services. In such cases, data centre services are ancillary to the core offering. In these scenarios, it is arguable that the exemption should not automatically extend to the entire subscription income of the SFC, which would continue to be assessed based on its character, nexus, and applicable treaty provisions.
Withholding tax implications
The amendment also has important withholding tax implications. In Vodafone International Holdings v Union of India (2012), the Supreme Court of India held that a non‑resident that does not have a “tax presence” in India cannot be regarded as a person obligated to withhold tax in India.
The amendment severs the nexus of taxability that might otherwise have arisen from potential PE exposure in India solely due to the procurement of data centre services from India. However, where a taxable presence is established through other means – such as the existence of an independent Indian source of income from subscriptions, advertising, licensing, or similar activities – applicable compliance obligations, including withholding tax requirements, may continue to apply.
Unresolved issues and the road ahead
Residual PE risk may persist where an SFC is perceived to retain ownership and exercise control over Indian infrastructure through contractual or functional arrangements, particularly given the absence of a statutory definition of what it means to ‘own’ and ‘operate’ a data centre in modern co‑location and dedicated‑rack models. Complications may also arise if some of the proprietary equipment used in the data centre is owned by the SFC.
Overall, the framework reflects a conscious effort to separate backend infrastructure services from digital business profits and provide structured certainty through exemption and safe harbour mechanisms. However, the persisting ambiguities highlighted above underscore the need for careful analysis of each business model and for timely clarificatory guidance to fully realise the amendment’s intended benefits.
