Apple's (NASDAQ:AAPL) dream of making a dent in India's booming smartphone market has run into trouble, for now. The country's finance ministry rejected the iPhone-maker's tax exemption demands in mid-April due to an imminent change in the tax structure, this pushed back Apple's plans of setting up a fully fledged manufacturing site in the county.

This isn't good news for Apple as it is reportedly struggling to sell iPhones in India. Bank of America-Merrill Lynch estimates that Apple sold just 2 million iPhones in the country during the previous fiscal year that ended in March, way below its ambitious target of 10 million units.

Apple struggled to sell more iPhones in India because of a steep average selling price of $612. Indian customers are price sensitive and sales of smartphones priced above $300 make up for just 7% of the market. Therefore, Apple needs to bring down the price of its iPhones to attract more customers, which is possible only if it starts manufacturing in country to avoid import duties.

Image of the iPhone SE in different colors.

Image Source: Apple 

What Apple plans to do in India

Apple is moving ahead with its manufacturing facility in India despite red tape. Officials in the state of Karnataka cited by The Economic Times believe that the Cupertino-based company is going to start making iPhones in the state "regardless of the outcome of its requests for certain concessions from the central government."

More specifically, Apple will begin the trial assembly of iPhones in India from May with Taiwanese contract manufacturer Wistron. It eventually plans to roll out comprehensive iPhone manufacturing lines in India in 2018 once the trial assembly phase is complete, but this will need government co-operation.

Apple needs a waiver on the countervailing duty that will allow it to import high-precision components to make iPhones without additional costs. The good news is that India's IT minister Ravi Shankar Prasad will soon meet top Cupertino officials to discuss iPhone manufacturing in the country. The minister is believed to be keen to help Apple set up a full-fledged manufacturing base to promote Indian-made products.

In fact, 42 companies are currently making handsets in India, while another 30 are manufacturing components, so it is likely that the ministry will give Apple whatever leeway it can under the incoming tax regime. Moreover, the state of Karnataka is also pursuing the iPhone maker's case with the central government, arguing that India is still not mature enough to make the high-end components that Apple needs, making importing the company's only option.

Apple's ambition of setting up a comprehensive manufacturing base in this market might receive a shot in the arm if discussions with the IT ministry go in its favor. In fact, Apple has already been exempted from sourcing iPhone components locally in India, though it still needs to pay a duty on imports. This ruling allowed it to set up its own retail stores in the country, which will go a long way to boost sales.

Apple isn't ignoring the long-term picture

Apple is trying to take advantage of whatever leeway it has received in the Indian market so far by deciding to increase its retail presence. As discussed in a previous article, the company is setting up more than 100 franchised stores. It eventually plans a six-fold expansion of these stores next year to take on the Chinese smartphone companies that have rapidly expanded their retail outlets.

Apple needs a stronger retail presence to improve brand awareness for the company and its products. The iPhone maker's brand awareness in this market currently lags the likes of Sony, BlackBerry, and other local smartphone makers. In fact, the company ranked just 10th out of 12 smartphone companies in India last year.

Apple is doing the right thing by expanding its retail stores in India from a long-term perspective. Indians might not be buying a lot of high-end smartphones at present, but this could change with a rise in disposable income. Trading Economics forecasts that India's total disposable personal income could rise 45% in 2020 from 2016, boosting consumer spending in the process.

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