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Introduction
India’s Union Budget for the financial year 2026-27, presented on February 1st, 2026 (“Budget”) marked a significant policy milestone for development of data centres in India, implemented to strengthen digital infrastructure and attract foreign investment in cloud and Artificial Intelligence (“AI”) competencies.
The headline announcement was that a long-term tax regime shall be introduced for foreign cloud companies planning to operate India-based data centres, offering a 20-year long tax holiday till 2047.
This financial incentive positions India as a lucrative destination for setting up for data centers which are essential in today’s age for processing-intensive businesses like AI platforms. This incentive combines financial transparency with strategic conditions to attract foreign investment which would fuel growth of the domestic industry. The policy is also significant in scope and duration since it has introduced one of the longest tax-holiday frameworks ever extended to non-resident technology entities.
This article examines the pre-budget position under Indian tax law, what risk the exemption seeks to eliminate and how the tax holiday framework alters the position.
The Pre-Budget Position
Under the Income Tax Act, 1961 (“IT Act”) (to be replaced by the Income Tax Act, 2025), a non-resident individual in India is taxed on income that accrues, arises, or is deemed to accrue or arise in India. Income can be deemed to arise if it is attributable to a business connection in India or a permanent establishment under applicable tax treaties.
In a digital economy context, physical infrastructure such as servers or data centres can potentially create nexus. Where a foreign enterprise owns, leases, or has disposal over server infrastructure in India, questions may arise as to whether such infrastructure constitutes a fixed place of business. Even if treaty protection applies, disputes may arise regarding attribution of profits.
This uncertainty has historically led global cloud providers to structure Indian infrastructure cautiously, often through service arrangements rather than direct ownership. The concern has not been limited to income directly originating from India, but to whether global revenue streams could be partially attributed to Indian operations.
It is against this backdrop that the Budget introduces a specific statutory exemption. By carving out qualifying cloud income from the Indian tax base altogether, the Finance Bill, 2026 (“Finance Bill”) shifts the analysis away from questions of nexus and attribution and replaces it with a condition-based eligibility framework. In doing so, it moves the discussion from interpretational risk to legislative certainty.
Tax Holiday Framework of the Budget
The Finance Ministry has classified data centres as essential infrastructure akin to power grids or highways, warranting financial support to accelerate development in this sector. The government has incorporated a key provision in the Budget, through the Finance Bill, for such accelerationi.e. a tax holiday until March 31st, 2047, exempting notified foreign entities from taxation on income derived from cloud services delivered via Indian data centres.
The legislative design is deliberate. Rather than altering the general charging provisions under sections 4 and 5 of the IT Act or modifying the definition of “business connection” under section 9, the Finance Bill inserts a targeted exemption. Consequently, qualifying income is excluded from total income which under ordinary principles would have been regarded as accruing, arising, or deemed to accrue or arise in India.
(a) Eligibility
The exemption is not automatic. It applies only to a foreign company that satisfies following specific conditions laid down in the statute (subject to further conditions to be prescribed via respective notifications):
- The foreign enterprise must be notified by the central government as an eligible entity. This allows the government to vet applicants and ensure alignment with policy objectives.
- The “data centre services” must be provided through a “specified data centre” in India. A specified data centre is one that meets the criteria notified by the government, typically through the Ministry of Electronics and Information Technology (“MeitY”). The infrastructure must be owned and operated by an Indian company.
Herein, it is pertinent to note that the phrase “data centre services” is understood to include services provided by a data centre through the use of physical infrastructure including land, buildings, mechanical electrical power equipment, cooling system, security and information technology infrastructure, networking and other equipment. The exemption is therefore service-linked and not asset-linked.
- Sales to Indian customers must be routed through an Indian reseller entity. This requirement ensures that domestic market transactions remain within the standard Indian tax net for resident companies. The exemption is intended to encourage global cloud provisioning from India, not to eliminate taxation of Indian business operations.
(b) Sustainability Qualifications
In addition to the above-mentioned requirements, qualifying data centres should also comply with sustainability and energy efficiency standards. Compliance with such standards may include requirements relating to renewable energy usage, power usage effectiveness (PUE), water conservation mechanisms and environmentally responsible infrastructure design.
(c) Complementary Measures
Complementing the tax holiday, India also introduced supportive tax certainty measures to facilitate smoother operational and financing structures. Specifically, a safe harbour margin of 15% (fifteen percent) has been prescribed for eligible-related-party transactions involving data centre services. This provides taxpayers with a pre-approved profit margin benchmark, thereby reducing the risk of transfer pricing adjustments. By offering greater certainty on acceptable margins, this measure is expected to simplify cross-border and intra-group service arrangements, which are common in data centre operations involving global technology groups.
Further, the threshold for the safe harbour regime applicable to IT and IT-enabled services has been increased to INR 20 billion. This higher threshold allows larger transactions to qualify for simplified compliance and reduces the need for detailed transfer pricing scrutiny or advance pricing agreements.
Challenges and Forward Outlook
It can be assumed that the government’s motivation for this long-term incentive is strategic. Data centres and cloud infrastructure are revolutionary for the global digital economy, expanding development in AI, machine learning, big data analytics, and enterprise services. By offeringsuch a tax holiday framework till 2047, India aims to position itself as a hub for attracting hyperscale investment from leading global players. However, in this regard, sustainability stillremains a priority since AI facilities’ and data centres’ energy demands strain power grids, thereby necessitating environmental compliance and water-efficient cooling in arid zones. The government may also step in with policy revisions to strengthen environmental safeguards in this sector.
Conclusion
The Budget’s inclusion of a data centre tax holiday marks a major development in India’s tax and digital infrastructure policy. By providing a tax exemption for foreign data centre service providers in India for global services, the government has introduced a clear and predictable taxframework that materially enhances investment certainty.
For global cloud providers, this framework removes the risk that operating servers in India could expose global income to unanticipated and excessive Indian taxation. By offering a long-term exemption subject to defined conditions, the government has provided greater comfort to companies looking to expand their infrastructure footprint in India.
At a broader level, this policy reflects India’s aim to establish itself as a reliable and competitive destination for cloud and AI infrastructure. If it is implemented efficiently, it could bring ingreater investment, support the growth of domestic digital infrastructure, and strengthen India’s role in the global data economy over decades to come.
Authors:
Mr. Gaurav Bhalla – Partner
Ms. Ishita Goel – Associate
Ms. Tanya Sharma – Associate
