By Aparna Khatri
The international corporate tax framework is founded on the principle that profit of a multinational group should be taxed in the countries where it creates value. Tax treaties and local regulations have witnessed substantial changes in recent times, driven by guidance provided by the Base Erosion and Profit Shifting (BEPS) initiative of the Organization for Economic Cooperation and Development (OECD), which found support of countries globally, notably including India.
Even in the traditional brick-and-mortar business models, tax authorities have found taxing MNCs an exercise plagued with litigation. Digital business models have escalated the issues to a different level altogether with a few corporations, based in a handful of countries, generating massive revenues without creating a tax presence in the source country, in the traditional sense.
Discontent has been brewing among nations as the prevailing tax rules do not seem to adequately address the disconnect between the revenues generated by digital corporations and the taxes paid by them in the source nations.
With no consensus emerging between the countries on the mechanism for taxing profits of digital corporations, levy of digital services tax (‘DST’) emerged as an interim measure and was adopted by countries including France, Spain, the UK, Australia and India.
Equalisation Levy (EL) was introduced by India in 2016. However, the levy was restricted to online advertisement and related revenues. Taking everyone by surprise and without seeking any stakeholder feedback, the Finance Act, 2020 widened scope of EL to include e-commerce supply or services by an e-commerce operator, bringing various digital transactions and services under the tax net by introducing a levy of 2% on revenues of such entities. Exceptions have been carved out for smaller companies (gross receipts/ sales less than Rs 20 million) or those having permanent establishment in India.
Parallelly, an income-tax exemption for such income has been introduced. However, there seems to be a mismatch in effective dates of EL and such income exemption and a correction is expected on this front.
It would be relevant to note that EL does not form part of the income-tax framework, but is housed under a separate code, thereby raising tax treaty access/availing tax credit challenges for such digital companies. This has caused considerable angst amongst the digital companies.
As a vast majority of such digital companies — including giants like Amazon and Facebook — are US headquartered, the introduction of DST has not found favour with the US, which has been pushing for making DST optional. Much to its displeasure, the US is witnessing widespread implementation of DST by nations across the world and has decided to initiate investigations against them. The latest to join the list is India.
The US Trade Representative (USTR) is initiating investigations under a local regulation which aims at addressing practices of a foreign country that are unreasonable or discriminatory and burden or restrict US commerce. The USTR perceives DSTs as being divergent from norms reflected in the US tax system and the international tax system in several respects including extraterritoriality; taxing revenue not income; and a purpose of penalising particular technology companies for their commercial success.
A similar exercise was recently undertaken by the US against France, when the latter introduced DST. The US proposed retaliatory measures of increasing import tariffs against imports from France in an effort to discourage the French government from implementing DST. While France has not dropped the levy in entirety, it nonetheless deferred DST payments until December 2020 to stall possible retaliatory tariffs.
While India, too, appears undeterred in its decision to introduce EL, often referred to a Google tax in media parlance, the battle is far from over. If retaliatory measures against France serve as cue, exports from India too could meet a similar fate. The US is India’s largest trade partner with nearly 16 per cent of exports in 2018-19 — i.e. approximately $52 billion of export revenues.
Mankind and economies world over are witnessing unprecedented times from the Covid-19 crisis with no viable solution on the horizon. Jolted by the pandemic, Indian economy is reeling under severe pressure with mounting unemployment and a big hit expect on the GDP. Staring at a possible recession and growing needs to fund the economy, all possible efforts are being taken by countries like India. Understandably, the introduction of DST or EL seems to be one such measure.
Stabilising the economy and reversing this degrowth is achievable only if India manages to fire on all cylinders, including increasing industrial output. With local consumption expected to dip, this necessitates improving ties with trade partners and opening access to newer markets for Indian products. While charging EL on the digital companies, which seem to be witnessing growth in such challenging times, could help fill the tax coffers; straining relationships with the largest trade partner in such difficult times may prove to be counterproductive.
Also, if representations made by various industry bodies seeking clarifications on various aspects of the EL regime and highlighting hardships faced by businesses in general are factored in, there could be a case to defer the implementation of EL for now.
(Aparna Khatri is Consulting Director at Rajeshree Sabnavis & Associates. Views are her own)
Source: ET Markets