(Part 1)
The Fragmented Business Model of Operations in India.
What is the right Business Model in India?
Business is a challenge in any jurisdiction. In India it is a super challenge. Government after Government promise to ease the rules of governance. The more things change, more they remain same. Tax terrorism is a reality. Courts, despite its snail speed of working have often reined in the tax authorities when they step out of their sphere of influence.
Tax Terrorism
The “privacy” in the traditional sense has largely vanished in the banking sector. In the era of Aadhaar-PAN linkage and the SFT (Statement of Financial Transactions), the “digital footprint” is already permanent and near-instant. The Income Tax Department doesn’t need a TDS certificate to know about a bank account. Under Section 285BA, banks are already required to report high-value transactions, but even for smaller ones, the “Insights” portal and AIS (Annual Information Statement) pull data directly from bank feeds using PAN. In the new framework starting April 1, 2026, “Authorized Officers” have even broader legal authority to access digital spaces, including bank accounts, if they suspect evasion.
In a country of 1.4 billion people, enforcement of law is always lax. If enforcement is harshly made it becomes a police state which is not possible in democracy. That helps but it does not take away the drastic powers vested in the Tax Authorities which may cause ‘tax-terrorism.’ During demonetisation bank accounts of several businesses were frozen without any show cause. They had to approach the court to get the accounts unfrozen. This shows the “shoot first, ask later” reality of tax terrorism.
It is important to understand that it is impossible to conduct business in India without paying the taxes. Surveillance is swift and penalties are harsh. Compliance is the only option. But the taxation is not the only challenge, a business faces in India. It has many other challenges. Let us discuss each in seriatim.
Tax Algorithm
Income tax surveillance systems in 2026 India operate through automated algorithms analyzing the Annual Information Statement (AIS) and Statement of Financial Transactions (SFT). These systems flag companies with anomalous ratios. A single company showing high revenue but minimal assets, few employees, and low operational expenses triggers suspicion as a potential shell company. This is one of many examples. A Software company is very prone to being misdiagnosed as a shell company.
Corporate Espionage
Any company with intellectual property implications has special challenges and its threat arise from an ordinary compliance procedure called audit of accounts.
A company with a turnover of 10 million rupee upward, turn over is required to have its accounts audited by chartered accountants and submit the report to tax authorities along with the return of income. (See section 63 of Income Tax Act, 2025) For professionals the limit is 5 million rupee to invoke audit.
Audit of accounts being a mandatory statutory requirement, it can not be avoided. But in case of a company with development of Intellectual Property, this poses major challenge. The auditors have access to the pay-roll data. The new software like zoho Books keeps the complete details of payee, right down to biometric ID and bank account.
Remember the word “Auditor” sound very respectable but inside the “accounts-market” an auditor is most likely to be a freshman who passed out from Institute of Chartered Accountants and is doing the first job for a big firm of Chartered Accountants. It is technically a highly educated “casual labour” version of “account-market”. Thus auditors are essentially inexperienced workers handling sensitive payroll data, making corporate espionage even more likely.
In the “Global Village,” where a senior developer’s LinkedIn profile is a target for Big Tech, the payroll data in an audit is essentially a “shopping list” for competitors. Background check agencies and headhunters routinely attempt to access payroll data during corporate due diligence or competitive intelligence operations.
Labour Law Compliance
Indian labor regulations hit companies in waves at specific headcount thresholds. At 10 employees, ESI (Employee State Insurance) and certain Factory Act provisions become applicable with its flood gates of compliance. At 20 employees, PF (Provident Fund) becomes mandatory. At 50 to 100 employees, contract labor rules and the Industrial Disputes Act create massive burdens, making termination nearly impossible without government permission. Not to forget, the dreaded Trade Unions Act, which is also applicable on industries.
Commercial Real Estate Costs
In a populous country like India, real estate prices are mind boggling. An apartment which cost half million in 1991 today cost 100 million in New Delhi. Commercial apartment are even more expensive.
A 40-employee company would need commercial office space at 150 to 300 rupees per square foot in a premium tech park. Residential spaces cost only 30 to 50 rupees per square foot.
Profit Margins
This is the biggest challenge for any business to maintain the scale of operation and keep it profitable. Competition is all about cost cutting. The lower the overhead, more competitive a business becomes.
These challenges create an impossible situation for traditional software companies. However, Indian entrepreneurs have developed an innovative response.
The Solution
The software businesses in India have come up with a solution which solves all these problems in one go. It is like killing multiple birds with one stone. It may be called the “Fragmented Operations” solution. In this solution one front-end company deals with clients and compliance and it is supported by multiple back-end satellite companies supporting with human resources and development.
Example
Five engineers decide to come together and they form a company. It can be a private company or a partnership firm with limited liability. This company bills the clients and hold patents and intellectual properties. It also pays all the taxes especially the Goods and Services Tax or GST on the invoices. Its accounts are audited regularly. It has a handful of staff like receptionists, accountants and the like but no software developer except the five partners who head the company.
The Company runs from a commercial apartment of no more than 200 sq. feet or about two rooms. The office is in prestigious Connaught Place which literally buys only “two small rooms in the back” of a building for two million rupees annually. The office is purely a prestigious address for client trust, not a functional workspace.
The five partners also act as project managers in their own specific domain. Each partner has a team of 5-8 developers either working from home or the apartments. Each partner and his team is working on a module or a part of the project. Nobody knows the entire project except the partners.
Each Partner cum Project Manager raise the invoice to the company and gets paid. The satellite firm remains small so as not to attract audit and therefore it remains protected from poaching. It saves cost of commercial apartment rentals. Labour laws do not apply on such micro establishment.
Remember the partners themselves are engineers who perform the final integration work. This eliminates the 20-30% management overhead that Western firms carry (5-8 project managers plus product owners for 50 developers).
With this fragmented structure, the business not only buys peace of mind but also save itself in numerous regulatory compliance. They save time and employ that energy in actual business operations.
The Innovation
What global observers dismiss as “jugaad” (makeshift solutions) is actually high-level structural arbitrage. The innovative fragmented model kills a dozen birds with one stone, creating a business that is simultaneously cost-efficient, audit-resistant, poach-proof, and nearly invisible to competitive intelligence. It represents sovereign efficiency adapted to the reality of operating in a nation of 1.4 billion people where formal rules often conflict with economic logic.
The companies pay taxes at every level. The structure is legal. But it represents a sophisticated defense against a regulatory environment that was designed for manufacturing-era businesses rather than knowledge-economy operations. It is a rational response to a system where enforcement is inconsistent, bureaucrats lack business expertise, and automated surveillance systems cannot distinguish between genuine distributed operations and fraudulent shell structures.
If tax authorities overreach against one entity, operations continue uninterrupted. The goodwill remains intact. Business goodwill is something bureaucracy does not value, but for a service company it is a matter of life and death. Once goodwill is lost, the business faces civil death. For this reason many non-software companies maintain several parallel companies doing identical businesses.
It is a protection mechanism in an environment where judiciary is often too slow to enforce contracts like nondisclosure agreements and complete failure in protecting from sabotage by employees. Courts take years to resolve contract disputes, making NDAs and non-competes practically unenforceable. By the time a judgment arrives, the damage is done.
Please note that there is no consensus in judicial opinions about award of punitive damages in breach of contract to act as a deterrent. This solution eliminates the need of judicial intervention altogether.
P.S.: This adaptability explains why Indian entrepreneurs succeed globally. The same operational intelligence that navigates Delhi’s regulatory chaos builds hotel chains in America and gas station networks across continents. What appears as improvisation to outsiders is actually sophisticated problem-solving developed in the world’s most challenging business environment.
References:
- Income Tax Act, 2025
- No Privacy in Banks:
- Related Party disclosure not applicable on small firms: https://resource.cdn.icai.org/89111asb-aps2918-as18.pdf