Netting taxes in the age of digital economy

TCA Ramanujam/TCA Sangeetha | Updated on September 25, 2020 Published on September 25, 2020

Round tripping of funds is made easier by digital transactions. India can stem tax erosion by using AI-driven tools

“The root of wealth is economic activity and lack of it brings material distress” — Chanakya in Arthashastra

Drawing room as court hall, study room as school, computer as bank, telephone for video-conferencing! Would anybody have imagined this situation six months back? Jules Verne in one of his lesser known stories, A day in 2889 of an American Journalist, writes about intercontinental conversations through the internet. That was in 1861. That fantasy has now come true. Online classes and court hearings through video are now the order of the day.

Digitalisation and Net banking are phasing out paper money. Kenneth Rogoff, a former chief economist of the IMF, in his book, The Curse of Cash, made a powerful case for phasing out paper money as it facilitated tax evasion. Cash is now in retreat as a payment mechanism.

Indeed, the Chairman of the Royal Bank of Scotland Howard Davies makes a strong case for digital currency. China has seen an absolute decline in the ratio of physical currency to GDP. Digital transfers are becoming the order of the day.

The concept of permanent establishment, in vogue for several years under the tax law, is undergoing radical change. India introduced the so-called ‘Google tax’ or the equalisation levy in 2016, taxing payments of digital advertising services received by non-resident companies without a PE in India if they exceeded ₹1 lakh a year.

The latest Budget widened the ambit of this levy by including e-commerce companies. Digital sector sales have been booming. European countries — including Austria, Hungary, France, the UK, Greece and Italy — as also Australia and New Zealand have implemented digital services tax. Some Asian countries — Vietnam, Malaysia and Indonesia — have also followed suit.

India has been arguing that this has been an additional safeguard against base erosion and profit shifting. The US is opposed to the levy. Unfortunately, there is no consensus at the OECD level.

The Reserve Bank of India is fighting a battle against problems created by round tripping of funds, involving money laundering by individuals with investments in overseas private equity venture capital or alternative investment funds coming back to India. This is generally in the form of investment in Indian start-ups, affecting, in the process, tax collections. Such attempts are made easier by digital transactions.

The law regarding Place of Effective Management (POEM) has to keep pace with the fast changing devices brought about by digital transactions. If the employee of a foreign entity is forced to stay in India because of Covid restrictions, will he create a PE or a POEM for the foreign enterprise or will the force majeur clause apply?

Tax treaties and OECD guidelines do not categorically answer these questions. CBDT provided relaxation of residential rules for individual forced to stay in India because of Covid. No relaxation is provided at present for the stranded employees capable of creating a PE or a POEM.

The digital divide

Not all households can access the internet, the smartphone or Kalvi TV for online classes. Online education requires basic digital infrastructure. The parent is now forced to spend. Tax law can render a two-way help. Expenditure on the basic infrastructure can be made fully tax deductible. Corporate houses helping the underprivileged with basic infrastructure can be given the facility of such expenditure being taken as spent in fulfilment of Corporate Social Responsibility and made fully tax deductible.

Cogito ergo sum” ( I think therefore I am) said Descartes. Covid 19 is pushing us faster to the new age of Artificial General Intelligence visualised by futurists like Ray Kurzwell. Machines can become smarter than human beings. The tax law should encourage the building up of the AI facility by bringing it under the umbrella of start-up units.

AI is now used to help businesses monitor daily operations remotely. An AI powered video analytics for hygiene tracking is connected to CCTV cameras to keep a tab on whether employees are following the 20 second hand-wash protocol and social distancing.

In a recent work, Anne Case and Angus Deaton of Princeton University highlight the fact that capitalism is destroying the lives of blue-collar workers in America. The poor are dying. The crisis is tied to the power of corporations and to a healthcare sector that redistributes working class wages into the pockets of the wealthy.

In his latest work Capital and Ideology, Thomas Pikketty recommends a highly progressive income tax to finance access to health and education for all. There is no Pikketty, Stiglitz or Bernie Sanders in India to champion the cause for an egalitarian society.

For India, this is the time for a massive fiscal push. Plugging the loopholes in tax law will certainly help in this.

Ramanujam is a former Chief Commissioner of Income Tax, and Sangeetha is a practising advocate of the Madras High Court

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Published on September 25, 2020
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