In conjunction with Duff & Phelps’ transfer pricing professionals, this article was contributed by Akshay Kenkre of TransPrice Partners.
With the global business environment becoming increasingly digital, many tax authorities believe that the allocation of taxing rights between countries cannot solely be determined by a physical presence. The ability of an enterprise to undertake business in a different country without a physical sales presence in that country is the genesis for the work undertaken by the Organisation of Economic Cooperation and Development (“OECD”) under Pillar 1 of the Inclusive Framework. To date, the OECD has not been able to develop a common unified approach to address issues created by the digital economy, which has led many governments and tax authorities to undertake unilateral approaches.
India was a forerunner of such unilateral approaches with the implementation of the Equalisation Levy 1.0 in 2016. The Equalisation Levy 1.0 applied a 6% tax on non-resident companies that generated gross revenues in excess of INR 100,000 (USD 1,500 approx.) annually from online advertisements from Indian residents or non-resident companies with a permanent establishment (PE) in India. The Indian Tax Authority (“ITA”) claims to have instituted the concept of an equalisation levy as a stopgap measure and have expressed that such a levy could be repealed with the implementation of Pillar 1 and 2 of the Inclusive Framework.
Recently, the ITA expanded the scope of the Equalisation Levy (commonly referred to as “Equalisation Levy 2.0”) as part of the Finance Act 2020. The new levy now includes a 2% tax on the gross revenues received by a non-resident “e-commerce operator” from the provision of “e-commerce supply or service” to Indian residents or non-resident companies with an Indian PE. Equalisation 2.0 was made effective on April 1, 2020. Further, amendments were made in the Finance Act 2021 to clarify and expand the scope of the Equalisation Levy 2.0.
According to the Finance Act, an e-commerce operator is defined as a non-resident that owns, operates or manages a digital or electronic facility or platform for online sale of goods or online provision of services. The term is widely defined to include all companies that maintain some electronic platform to sell goods or services. E-commerce supply or services is also broadly defined and includes all types of sales of goods and services by an e-commerce operator. A gross revenue threshold level of INR 20 million (USD 250,000 approx.) is applied to an e-commerce operator each financial year to be subject to the Equalisation Levy 2.0.
The Equalisation Levy 2.0 could have a far-reaching impact since it covers more industries and the materiality threshold is significantly lower than other unilateral approaches being implemented by other tax authorities; hence it will impact even small and medium-sized companies. For comparison, the French and UK tax authorities proposed digital tax laws that only apply to companies that generate digital advertising and sell user data and carry higher gross revenue thresholds in excess of EUR 25 million and GBP 25 million for France and the UK, respectively.
Below, we provide details on other key points for consideration on the Indian Equalisation Levy 2.0.
- Wider industry impact: The Equalisation Levy 2.0 has the potential to impact a wide range of businesses and business models, even if such businesses are not operating in a typical e-commerce model. Any foreign company providing services/goods in India through a digital platform could be within the scope of the levy.
- Compliance timeline: Payments under the Equalisation Levy 2.0 will be due for each fiscal year quarter on the following dates:
|Q1 payment||July 7|
The annual return for the Equalisation Levy 2.0 will need to be filed on or before June 30 of the following fiscal year. The Equalisation Levy 2.0 requires foreign companies to obtain a permanent account number to file the return in India.
- Covered transactions: The Equalisation Levy 2.0 applies to selling both goods and services by a non-resident to Indian residents or non-resident companies with an Indian PE. Hence, if a non-resident sells goods or services to Indian residents through a digital platform and does not have a physical presence in India, the Equalisation Levy 2.0 may apply. Transactions characterized as either a royalty or a fee for technical services are specifically exempt from the Equalisation Levy 2.0.
- Goods and Service Taxes (GST) vs. Equalisation Levy 2.0: GST and the Equalisation Levy 2.0 are two separate taxes. In circumstances where GST applies, the applicability of the Equalisation Levy 2.0 will still need to be assessed.
- Supreme Court decision on royalty: Recently, the Indian Supreme Court (ISC) ruled that payments made to non-residents for use/distribution of software should not be characterized as “royalties” under India’s tax treaties. Consequently, these payments should not trigger Indian withholding tax in the absence of a permanent establishment (subject to the company’s tax treaty eligibility). The Indian domestic law provided a very broad definition of the term “royalties,” which includes payments for the sale of computer software licenses. This is notable as there are many tax treaties where the term royalties has been given a restricted meaning and do not include payments for the use or distribution of software. The ISC ruled that when income of a non-resident is not taxable according to the tax treaty, the income cannot be brought into the Indian tax net as per the domestic regulations and therefore would not be subject to the Equalisation Levy 2.0. The decision of ISC is binding on the ITA and Indian tax courts and would also apply to pending litigations.
The interplay between the impact of such a decision by ISC on software transactions and the Equalisation Levy 2.0 needs to be further evaluated. For example, suppose an Indian taxpayer has been deducting royalties paid to a non-resident company for the use/distribution of software. In that case, the non-resident company could evaluate the possibility of exploring benefits under the tax treaty for such non-deduction and weigh it against the implications raised by the Equalisation Levy 2.0.
With the delay in global consent on the Inclusive Framework, the unilateral measures enacted by the Indian government have made the issues posed by the digitalised economy a reality for many companies. From a global tax management point of view, it is essential for companies to factor in these equalisation levies as part of their global tax planning. It has now become imperative to assess the implications of the Equalisation Levy 2.0, especially with the tax optimisation opportunities when combined with the recent ISC ruling on royalties.
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