One such solution was offered by the Organization for Economic Co-operation and Development (OECD) under the Base Erosion and Profit Shifting (BEPS) 1 Action Plan. This action plan recommended three transition options to address the tax challenges of the digital economy until a global consensus is reached to resolve this issue. These options were:
* Significant Economic Presence (SEP);
* Withholding tax on digital transactions; and
* Countervailing levy
Following these developments, several countries have taken unilateral steps and made necessary changes to their national laws governing the taxation of New Age companies.
India: the early mover
India was one of the first steps in this direction. The Central Board of Direct Taxes (CBDT), the top tax administration body in India, has set up an e-commerce taxation committee to evaluate the options available. The committee recommended the countervailing levy as a viable option for India as it did not require amendments to the existing tax treaties, which would have been a lengthy and time-consuming process. In 2016, India was one of the first countries to levy a countervailing charge of 6% on online advertising and related services. The equalization tax provisions were expanded significantly in 2020 to include online sales of goods and services.
The Committee also considered that the term SEP could be included in the term “business relationship”. Under Indian domestic tax law, a non-resident is taxed in India if they have a “business relationship” in India. The BEPS Action Plan 1 had recommended that a non-resident company should establish a taxable establishment in a country if it has an SEP in that country based on factors that, with the help of technology and others, have a targeted and sustainable interaction with the economy have automated tools.
Introduction of the SEP regulations
Against this background, the SEP provisions were first introduced in 2018. It was anticipated that this change in national law would allow India to negotiate the inclusion of this new nexus rule in tax treaties. However, these provisions had no effect as the thresholds were not required.
The current SEP regulations apply from 2021-22. Under current regulations, a non-resident with SEP in India is considered a business relationship in India. Accordingly, income derived from the transactions or activities set out in these provisions will be deemed to be incurred or incurred in India and therefore taxable in India.
A non-resident’s SEP would be established if:
* the sum of payments from transactions in relation to goods, services or property made by a non-resident to a person in India, including the provision of downloading of data or software in India, during the fiscal year 20 million one fiscal year); or
* Nonresident systematically and continuously promotes business activities or interacts with 300,000 or more users in India.
The SEP provisions would apply regardless of whether:
* The contract for such transactions or activities is made in India; or
* Non-resident has a residence or place of business in India; or
* Non-resident provides services in India.
It has also been clarified that income attributable to operations performed in India includes income from:
* Advertisement directed to a customer residing in India or to a customer accessing the advertisement through an Internet Protocol address based in India;
* Selling data collected from an individual resident in India or from an individual using an Internet Protocol address based in India; and
* Selling goods or services using data collected from a person residing in India or from a person using an internet protocol address located in India.
It is important to note that the concept of SEP was introduced into Indian domestic tax law. The tax treaties provide that a non-resident’s corporate profits would only be taxable in India if the non-resident has a Permanent Establishment (PE) in India. Under the tax treaties, the permanent establishment rules would generally be triggered on the basis of a physical presence of a company. For example, an office or a physical presence of workers exceeding a certain number of days, etc. Therefore, non-residents who are entitled to benefits under an agreement would prima facie not be affected by the SEP provisions, given that the scope the permanent establishment in tax treaties is still much narrower.
However, SEP provisions would be relevant in cases where no benefits from a double taxation treaty are available. This could cover taxpayers based in jurisdictions that India does not have a double tax treaty with.
It would also include taxpayers from countries where India has a tax treaty in place but the benefits of the treaty are not available. The reasons for the unavailability of contractual benefits can be several. These can range from the taxpayer who does not qualify as a “person” or “resident” under the agreement due to his legal entity type, or the applicability of anti-circumvention provisions such as the General Avoidance Rule (GAAR) under national law or the Primary Purpose Test (PPT) under the framework of the double taxation agreement.
Countervailing charge vs. SEP
Currently, the countervailing levy provisions and the SEP provisions co-exist in the domestic laws of India. Therefore, it is possible that there will be an overlap between the two. However, it was envisaged that there would be no further Indian income tax liability on a transaction subject to the equalization levy. Accordingly, non-residents would first have to check whether the rules on the equalization charge are applicable. If these provisions are applicable, the transaction should be outside the scope of the SEP provisions. By and large, the provisions on the countervailing charge take precedence.
Stakeholders have indicated that the thresholds foreseen for SEPs are quite low and should be reconsidered. It was also highlighted that while taxing digital businesses was intended, the provisions appear to be far more extensive. In addition, the meaning of key terms such as “systematic”, “continuous” or “prompting” has not been given, which can lead to legal disputes over the scope of the provisions are not limited to local residents.
On the practical side, taxpayers would need to monitor whether the SEP provisions are triggered on non-resident payees in order for adequate taxes to be withheld.
Keep it up
In view of the recent developments of the G7, G20 / OECD to arrive at a consensus-based solution for new international tax principles, one would have to wait and see whether the effects on the domestic SEP and equalization tax regulations will, if at all, have an impact. This takes into account the need for India to realign its national tax laws based on the global solution to which it has prima facie expanded its support. It will be an interesting piece indeed to watch how things play out in the near future.
Richa Sawhney and Ankita Chowdhry contributed to this article
Vikas Vasal is National Managing Partner at Grant Thornton Bharat.
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