India has witnessed an exponential growth in its digital economy over the last two decades. The digital economy is the result of a transformative process brought by information and communication technology (ICT), which has made technologies cheaper, more powerful, and standardized, improving business processes and bolstering innovation across all sectors of the economy. The exponential growth in ICT from the previous decade has resulted in greater connectivity, linkages and networks. According to media reports, the mobile connections in India surpassed the traditional landline connections in 2004. Further, India is one of the largest consumer of mobile data. Prime Minister Narendra Modi’s push for a digital India, Start-up India programme and demonetization has further propelled the use of digital transactions in India.
The challenges on taxation front are also unique as digital economy has changed the traditional basis of taxing profits and income due to mobility, reliance on data, network effects, spread of multisided business models, etc. In absence of effective tax rules for digital transactions, the tax authorities tend to force-fit the existing tax rules, designed for a non-digital world, thus resulting in asymmetry, double tax burden and sometimes excessive profit allocation. There is a growing apprehension about tax planning by multinational enterprises (MNEs) that make use of gaps in the different tax systems to artificially reduce taxable income or shift profits to low-tax jurisdictions in which little or no economic activity is performed, resulting in payment of minimal tax on their global profits.
Global tax rules for digital transactions are in an evolution stage, with various ideas and thoughts being debated upon. The Organization for Economic Cooperation and Development (OECD) has issued various papers for consideration by worldwide tax authorities including the Action Plan 1 called “Addressing the tax challenges of the Digital Economy" as part of its Base Erosion and Profit Shifting Project (BEPS).
The Action Plan analysed the features, characteristics and tax challenges of digital transactions and inter alia evaluated various options like nexus-based test (significant economic presence), withholding tax for digital transactions and equalization levy (EL). It recommended that these methods can be adopted by countries in domestic laws provided they are not at variation to the existing tax treaties or international legal commitments or by including the same in the tax treaties itself.
India started its journey of taxing digital transactions by introduction of EL since June 2016, on online advertisements. The levy was introduced as part of Finance Act and is the first instance of a digital-specific tax legislation in the Indian law. The levy is applicable for consideration received or receivable by non-residents providing the following business-to-business services to a resident in India or a non-resident having permanent establishment in India:
•Any provision of digital advertising space.
•And facility or service for online advertisement.
•Any other service which may be notified later.
Currently a levy of 6% is charged on the above specified services, with corresponding exemption to the income in the hands of the recipient under the Income Tax Act, 1961(“the Act"). The EL is not part of the Act and since tax treaties generally provide credit for taxes paid under the Act, this may result in a situation of non-availability of tax credit on the transactions subject to EL. However, there is also a contrary view on this aspect that credit could be claimed for such tax paid in India.
The concept of significant economic presence (SEP) was introduced from April 2018 in Indian domestic law, triggering a possible tax exposure for non-residents although situated outside India but having a digital presence above a certain threshold that is yet-to-be-specified. The SEP may apply to a non-resident for carrying out any transaction in respect of any goods, services or property in India including download of data or software. This definition as specified currently is very wide and has the possibility of covering a wide variety of transactions under its ambit. Further, the interplay between SEP and transactions covered under EL is not very clear at this juncture and may require further clarification from the tax authorities.
Apart from India, various other countries are proposing to or have implemented tax on digital transactions, like:
•Australia—Turnover tax called digital services tax is proposed to be introduced which may be levied on income of large multinationals providing advertising space, trading platforms, and the transmission of data collected about users.
•New Zealand—Amazon tax is proposed to tax books and goods bought online.
•Uganda—Tax on social media wherein users of WhatsApp, Twitter, Facebook will pay a fee.
Taxation of digital transactions has thus become a global phenomenon. The taxpayers should therefore be mindful of the developments and take cognizance of the tax impact and related compliances. With revenue authorities struggling to augment their revenue collections, tax on digital economy is bound to gain more attention in near future.
Rishi Harlalka and Divya S contributed to this article.
Vikas Vasal is national leader tax–Grant Thornton India LLP. You can send your queries to firstname.lastname@example.org