The battle-lines are once again drawn between the government and multinational companies over their tax liability in India. What’s different this time is that the dispute involves non-resident e-commerce operators such as Amazon, Netflix and Flipkart. And India is not alone in this battle. Host of other countries including the UK, France, Italy and Spain are also involved in similar disputes.

The genesis of this quarrel is the long-standing ire of governments globally about foreign companies not paying tax in a country despite deriving revenue and profits from their businesses in that country. This ‘profit shifting’, from one country to another, has been a part of the tax planning of MNCs, involving a web of subsidiaries, many in low-tax jurisdictions. In the case of digital companies, where tangible physical presence may be hard to establish, the problems of the Taxman are only compounded.

The OECD has been working with over 137 countries to bring about a consensus on fighting this tax avoidance. The equalisation levy was one of the suggestions in OECD’s BEPS (Base Erosion and Profit Shifting) Action Plan 1 and India adopted this, though in a narrow manner, in 2016. But in the Finance Act 2020, the Centre has expanded the scope of this levy significantly.

The stakes are really big here, as the vast Indian population, locked up in their homes due to the Covid-19 pandemic, is increasingly turning to these e-commerce operators for basic day-to-day requirements including food, groceries, medicines and entertainment. With the Indian e-commerce segment expected to grow to $200 billion by 2026, it is not surprising that the Centre does not want to forego the revenue that these players can pay the exchequer.

The e-commerce operators are chagrined at this ambush, since the changes were not part of Budget 2020. They have roped-in the US Trade Representative’s office, which is going to begin Section 301 investigations against India. Unilateral tariffs or other trade restrictions on Indian companies are likely from the US government, if the allegations are proved right.

But the Centre is unfazed, claiming that the tax is not aimed at US companies alone. It is holding its ground, ready to go into a tariff battle with the US, if need arises.

As the size of the digital economy expands, India is justified in wanting to get the tax that is due to it. But the foe is also formidable and may not give in easily. It may be better to join hands with other countries, through the OECD, in this fight. It may also be good if the revenue addresses the glitches in the design of this tax.

The change

It was in 2016 that the equalisation levy of 6 per cent was first introduced on payment for online advertisements made to non-residents. This was a means to get companies such as Google and Facebook, which earn advertising revenues, into the tax net. In the Finance Act 2020, the scope of equalisation levy was expanded to include e-commerce supply of goods or services. These transactions were to be taxed at 2 per cent if the business earned over ₹2 crore in a financial year. This provision had found no mention in Budget 2020. Operators are also crying hoarse over the fact that the tax is effective from April 1, 2020, and the first quarterly payment fell due on July 7.

There are a few concerns that are being raised by companies and legal experts that the Centre could try to address.

The primary issue is that the income on which the equalisation levy is charged is exempt from Indian income tax. So credit for the tax is not available against any income arising in India. The ability to deduct this levy from the income in the country of residence will depend on the laws in that country, and may not be always possible.

Further, it has not been specified that the levy is on the income earned by the e-commerce operator, it is stated to be on the consideration received by the operator. Therefore, claiming a credit for the levy against the income in the country of residence many prove a problem with most bi-lateral tax treaties covering only tax on income.

The wider definition of ‘E-commerce operator’ — as an entity that owns, operates or manages a digital or electronic facility or platform for online sales of goods or online provision of services, or both — can bring many other digital platforms inadvertently into the ambit of Indian tax law. The revenue can be more specific about the kinds of digital services that are now taxable.

The levy also appears to be covering transactions between two non-residents when one of them has used an Indian IP address to transact. There could be operational difficulties in implementing this.

The way forward

Even if the Revenue offers clarifications on the issues raised and removed the procedural glitches, it’s clear that the current course that India has taken will be strewn with litigations. A way out could be to wait it out for the OECD to finalise its rules regarding this issue. While this could lead to further delay, at least the solution will be part of a global consensus and may be more acceptable to the operators.

OECD Secretary-General Angel Gurría had urged all countries to come to a final decision on this by October 2020, based on the discussions and studies done over the last three years.

He had said, “Absent a multilateral solution, more countries will take unilateral measures and those that have them already may no longer continue to hold them back. This, in turn, would trigger tax disputes and, inevitably, heightened trade tensions. A trade war, especially at this point in time, where the world economy is going through a historical downturn, would hurt the economy, jobs and confidence even further. A multilateral solution based on the work of the 137 members of the Inclusive Framework at the OECD is clearly the best way forward.”

The OECD’s discussion paper, released towards the end of 2019, had discussed a three-tier approach to taxing digital players:

(a) Dividing the MNC’s profits after accounting for expenditure between the countries it operates in, based on a formula linked to sales. The amount of tax will be agreed upon based on consensus.

(b) In regions where the e-commerce operator acts as a distributor, taxability will be based on existing rules of transfer pricing.

(c) Effective dispute resolution mechanisms should also be put in place to settle the litigations.

It is clear that all countries are working towards getting their due revenue in the digital economy. India has to decide whether it wants to battle alone or join others to make the objective easier to achieve.

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