SEZ vs Non-SEZ Tax Difference for Foreign Companies in India

The difference: an SEZ unit gets duty-free imports and GST zero-rating, but no income-tax holiday for units set up now — the section 10AA deduction (continued as section 144 of the Income-tax Act, 2025) closed to new entrants after 1 April 2020. A non-SEZ (DTA) unit gets no such customs or GST exemption, but can sell freely in India with no export obligation. If you haven't ruled out the alternatives, see the full SEZ vs STPI vs EOU comparison before committing to a zone.

Foreign companies setting up operations in India face a location decision that directly impacts their tax bill for the next 15 years: operate inside a Special Economic Zone (SEZ) or in the Domestic Tariff Area (DTA). The income-tax holiday, though, is closed to new entrants. Section 144 of the Income-tax Act, 2025 (section 10AA of the Income-tax Act, 1961) continues the deduction only for units that had already begun to manufacture or provide services under section 10AA of the 1961 Act; no new SEZ unit can enter the scheme. A grandfathered unit still deducts 100% of its export profits for the first five years, 50% for the next five, and 50% on reinvested profits for the five after that. Customs duty exemption and GST zero-rating remain open to any SEZ unit, and are now the main tax reason to sit inside a zone.

But there is a catch. SEZ units must maintain positive Net Foreign Exchange (NFE) earnings over every 5-year block. They operate in a customs-bonded environment with strict compliance requirements. And with the proposed DESH Bill (Development of Enterprise and Service Hubs) still pending in Parliament, the regulatory framework may shift. For export-focused foreign companies, SEZs still deliver duty-free imports and GST zero-rating — but a unit set up today gets no income-tax holiday. For companies targeting the domestic Indian market, the DTA is the only viable option.

This guide provides the specific numbers, compliance requirements, and decision framework foreign companies need to make this choice correctly.

Quick Comparison Table

The Tax Holiday — Section 144, and Who Still Qualifies

Section 144 of the Income-tax Act, 2025 carries the old section 10AA deduction forward, but only for units that had already commenced operations under section 10AA of the Income-tax Act, 1961. It is a grandfathering provision, not a live incentive: a unit set up now cannot claim it. For a unit that does qualify, the deduction applies only to profits derived from export of goods or services, calculated using the formula:

Deduction = Profit of SEZ Unit x (Export Turnover / Total Turnover)

This means only the export component of profits qualifies. If an SEZ unit earns INR 10 crore in total profit but only 80% comes from exports, the deduction applies to INR 8 crore.

Over 15 years, a grandfathered SEZ unit earning INR 10 crore annually in export profits saves approximately INR 25 crore in income tax compared to a DTA unit. That was the headline number that drove the SEZ decision for export-oriented companies — it is now available only to units that were inside the scheme before the window closed.

Important Caveat: The Window Is Closed

The sunset clause in section 10AA of the Income-tax Act, 1961 required a unit to commence manufacture or the provision of services before 1 April 2020 to claim the tax holiday. That date was never extended. Section 144 of the Income-tax Act, 2025 carries the deduction forward only for those units, for the balance of their 15-year entitlement, and admits no new ones. The proposed DESH Bill may yet create a replacement framework, but it is not law. A foreign company setting up an SEZ unit today should budget for full corporate tax and treat the customs and GST benefits as the reason to be inside a zone — confirm the position for your specific unit with the DGFT or your tax advisor before committing.

Customs and GST Benefits — The Operational Savings

Beyond income tax, SEZ units enjoy significant operational cost savings through customs and GST exemptions.

Customs Duty Exemption

SEZ units can import raw materials, capital goods, consumables, spare parts, and office equipment without paying any customs duty. For manufacturing companies importing specialized machinery or components, this can represent 10-20% savings on input costs. The exemption covers Basic Customs Duty (BCD), Countervailing Duty, and Special Additional Duty.

A DTA unit importing the same goods pays full customs duty. For example, importing CNC machinery valued at INR 2 crore attracts approximately 7.5% BCD (INR 15 lakh) plus IGST — costs that an SEZ unit avoids entirely.

GST Zero-Rating

Supplies to SEZ units from domestic DTA suppliers are zero-rated under the IGST Act, 2017. This means domestic suppliers can either supply on a Letter of Undertaking (LUT) without charging IGST, or charge IGST and claim a refund. For the SEZ unit, this eliminates the GST cost on all domestic procurement.

Intra-SEZ transactions between units within the same SEZ are also exempt from GST, further reducing costs for companies operating in SEZ clusters.

DTA Clearance — The Hidden Cost

If an SEZ unit sells goods or services into the domestic Indian market (DTA clearance), the transaction is treated as an import. Full customs duty and IGST become payable. This makes SEZ units commercially uncompetitive for domestic sales — the duty structure effectively prices them out of the Indian market for locally-sourced alternatives.

Net Foreign Exchange Obligation — The Compliance Burden

The NFE obligation is the primary compliance constraint that foreign companies underestimate. Under Rule 53 of the SEZ Rules, 2006, every SEZ unit must achieve positive Net Foreign Exchange earnings, calculated as:

NFE = FOB Value of Exports - (CIF Value of Imports + All DTA Purchases at Duty-Free Prices + Dividends Repatriated)

This is measured cumulatively over each 5-year block from commencement of production. Failure to achieve positive NFE can result in withdrawal of SEZ benefits, penalty equal to the duty foregone on imports, and potential de-notification of the unit.

For IT/ITES companies exporting services, achieving positive NFE is straightforward — they import little and export high-value services. For manufacturing units with significant imported raw materials, NFE management requires careful planning of export volumes versus import dependency.

DESH Bill — Potential Game-Changer

The Development of Enterprise and Service Hubs (DESH) Bill, proposed to replace the SEZ Act 2005, has been under discussion since 2022 but has not yet been enacted as of March 2026. Key proposed changes include eliminating the mandatory NFE requirement, allowing SEZ units to serve both domestic and export markets, and rebranding SEZs as "Development Hubs." If enacted, the DESH Bill would remove the single biggest operational constraint of SEZ operations. Foreign companies should monitor the legislative calendar closely, but should not base current decisions on proposed legislation.

Which Should You Choose?

Choose SEZ if:

• Your India operations are primarily export-oriented (IT services, BPO, engineering services, manufacturing for export)
• Export revenue will comfortably exceed import costs to maintain positive NFE
• You can commit to SEZ compliance — bonded warehouse procedures, Development Commissioner reporting, customs documentation
• Your unit is already grandfathered under section 144 — that is, it commenced operations before 1 April 2020 under section 10AA of the 1961 Act; a unit set up now gets no income-tax deduction
• You import significant capital goods or raw materials (customs duty exemption saves 10-20% on input costs)
• Your client base is predominantly outside India

Choose Non-SEZ (DTA) if:

• Your primary market is India — domestic sales from an SEZ attract full customs duty, eliminating the cost advantage
• You need operational flexibility to pivot between domestic and export markets
• You want simpler compliance — no NFE tracking, no bonded warehouse procedures, no Development Commissioner approvals
• You plan to raise capital from Indian investors or list on Indian stock exchanges (SEZ restrictions may complicate this)
• The section 200 rate of 22% is acceptable — for a new unit it is what an SEZ unit pays too, since the SEZ income-tax holiday is closed to new entrants
• You prefer locations outside designated SEZ zones — DTA gives you full flexibility on office/factory location

Common Mistakes

• Assuming the income-tax holiday is still open: Foreign companies often assume SEZ tax benefits are automatically available. The deduction now in section 144 of the Income-tax Act, 2025 reaches only units that commenced operations before 1 April 2020 under section 10AA of the 1961 Act. A new SEZ unit gets zero income-tax benefit — only the customs and GST advantages, and the full SEZ compliance burden.
• Underestimating NFE compliance for manufacturing units: IT companies easily maintain positive NFE because they export high-value services with minimal imports. Manufacturing units with imported raw materials often struggle. A company importing INR 5 crore of components annually needs to export at least INR 5 crore plus all DTA purchases at duty-free prices. Failing NFE in any 5-year block triggers duty recovery on all imports.
• Planning domestic market entry from an SEZ unit: Some foreign companies set up in SEZs for the tax benefits while planning to serve the Indian market. DTA clearances from SEZ attract full customs duty plus IGST, making the products 15-25% more expensive than domestically-produced alternatives. The tax savings on export profits are wiped out by the duty disadvantage on domestic sales.
• Not accounting for MAT after 2012: Before April 2012, SEZ units were exempt from Minimum Alternate Tax. Since then, MAT at 15% applies. Companies that modeled their SEZ economics based on pre-2012 rules overestimate their tax savings by 10-15 percentage points in years where MAT exceeds the regular tax liability.
• Assuming the DESH Bill has already passed: Several advisory firms have presented the DESH Bill's provisions — no NFE requirement, domestic market access — as current law. The Bill has not been enacted as of March 2026. Decisions based on proposed legislation carry real risk.

Practical Example

Consider NovaTech GmbH, a German engineering services company planning to set up an India development centre with 200 engineers. Their primary work is CAD/CAM design for European automotive clients — 95% of revenue will be exported as service fees.

Option A — SEZ Unit in Hyderabad (Rajiv Gandhi Infotech SEZ):

• Annual revenue: INR 30 crore (export services to Germany)
• Annual operating costs: INR 18 crore (salaries, rent, infrastructure)
• Taxable profit: INR 12 crore
• Income tax, Years 1-5: INR 3.02 crore per year — the same as a DTA unit, because a unit commencing operations now cannot claim the section 144 deduction (the section 10AA window closed on 1 April 2020)
• Had the unit been grandfathered, Years 1-5 tax would have been INR 0 and Years 6-10 tax INR 1.51 crore (50% deduction, effective ~12.6% rate)
• Customs duty on imported equipment (INR 3 crore setup): INR 0
• GST on domestic procurement: Zero-rated (refund to suppliers)
• NFE status: Easily positive — INR 30 crore exports vs. minimal imports

Option B — DTA Unit in Hyderabad (HITEC City, non-SEZ):

• Same revenue and costs as above
• Years 1-5 tax: INR 3.02 crore per year (25.17% under section 200)
• Customs duty on imported equipment: INR 22.5 lakh (7.5% on INR 3 crore)
• GST on domestic procurement: Standard rates, ITC available
• No NFE tracking, no bonded warehouse procedures

The income-tax lines are now identical. NovaTech's SEZ saving is the customs duty on its INR 3 crore of imported equipment (INR 22.5 lakh) plus the GST it never pays on domestic procurement — real money, but a fraction of the INR 15.1 crore over five years the same unit would have saved had it commenced operations before 1 April 2020 and been grandfathered into section 144. On duty and GST alone the SEZ is still worth it for NovaTech, because it is export-focused with minimal imports and NFE compliance is effortless.

But if NovaTech planned to serve Indian automotive companies (domestic market), the SEZ would be wrong. Selling engineering services to Tata Motors from an SEZ unit would trigger DTA clearance procedures and lose the tax advantage on that revenue.

Key Takeaways

• The income-tax holiday — 100% of export profits for 5 years, then 50% — survives only for units grandfathered into section 144 of the Income-tax Act, 2025 (section 10AA of the Income-tax Act, 1961), meaning those that commenced operations before 1 April 2020. For them it is still worth INR 25+ crore over 15 years on INR 10 crore of annual export profit; a unit set up now gets no deduction at all.
• Customs duty exemption (zero duty on imports) and GST zero-rating on domestic procurement provide additional 10-20% savings on input costs for SEZ units.
• The mandatory positive NFE obligation is manageable for IT/ITES export companies but challenging for import-heavy manufacturing — failure triggers duty recovery on all imports.
• DTA clearances from SEZ units attract full customs duty + IGST, making SEZs uncompetitive for domestic market sales.
• The 1 April 2020 sunset was never extended: section 144 grandfathers the units that were already inside for the balance of their 15-year entitlement and admits no new ones.
• The DESH Bill proposes eliminating NFE requirements and enabling domestic market access, but has not been enacted as of March 2026 — do not base investment decisions on proposed legislation.

Ready to evaluate SEZ vs. DTA for your India operations? Beacon Filing provides India entry strategy advisory including location analysis, tax modelling, and SEZ compliance setup for foreign companies.