In an unprecedented move, the government pursuant to Finance Act, 2020 expanded that scope of Equalisation Levy. The Equalisation levy was first introduced pursuant to Finance Act, 2016 therein a non-resident service provider, providing specified service to the resident are required to withhold at the rate of 6% of the gross amount of fee payable by the resident in lire of such service. The Equalisation Levy was essentially outside the preview of Income Tax Act, 1961, and focus only on B-B transactions and levied only if the aggregate amount received/receivable exceeds Rs 1 Lakhs in the financial year. After the amendment legal position related to equalisation levy has changed drastically. Now, the non-resident e-commerce operators are required to withhold at the rate of 2% of the gross amount received/receivable in lieu of e-commerce supply and service. It is important to note that the amendment has expanded the scope of equalisation levy without altering the definition of “Specified Service”. Furthermore, Equalisation Levy has now been made applicable on both supplies of goods and services and on both B2B and B2C transactions.
Digitalization has redefined and recreated the traditional business model by giving the organization the flexibility to alter the supply chain architecture. The digitalization has made this possible for the business to maintain economic activities with a minimal physical presence in other jurisdictions. Nonetheless, digitalization has also caused potential complexities to the regulators especially from a taxation law perspective. The virtual presence and intangible nature of the new business modal has circumvented the traditional regulatory framework as far as direct tax is concerned because the new modal renders physical presence based principle permanent establishment inefficient by dissolving the nexus between taxable transactions and taxing jurisdiction. To address this problem and to ensure profits are taxed where economic value is created, the equalisation levy was incorporated. In budget 2018, the government had proposed to get its reasonable share of tax from business-to-consumer transactions by introducing the concept of significant economic presence. The objective was to avoid the erosion of tax base by taxing digital businesses that do not have permanent establishment but has a significant economic presence. In this year’s budget, it was announced that SEP provisions have been deferred to April 1, 2021. This was done because the international community was expected to deliver consensus-based workable solutions on “how, where, and when” such services should be tax. But, it seems the international community has failed to reach a consensus-based solution to the tax challenges arising out of digitalization. Thus, India has unilaterally incorporated equalisation levy as a shortcut for levy of tax on such transactions.
It is argued that e-commerce operators may be subject to Double Taxation because of the inherent inconsistency in the amendment i.e. one year gap between the coming in force of the obligation to pay equalisation levy and availability of exemption of the transaction on which equalisation levy has paid. The unavoidable consequence of the aforementioned anomaly is that non-resident e-commerce may be firstly compelled to pay 2% equalisation levy on the gross amount and further at the rate prescribed at the domestic law or Double taxation levy as the case may be. Moreover, it is very likely that the non-resident e-commerce operators would be subjected to double taxation as Equalisation levy is not a part of the Income Tax Act,1961, thus, operators may not get credit for it in-residence country or favorable treaty benefit. This would act against the legislative intention behind which DTAA was introduced and would render DTAA meaningless. Indeed, it may amount to violation DTAA obligations. Further, it is argued that it may cause hardship and cast doubt to the operators as far as withholding obligation is concerned under ITA. Therefore, there is every reason to argue that clause (50) to section 10 of the ITA which intent to maintain the desired balance between appropriating tax base and fostering cross border transaction, by exempting income chargeable outside the purview of the ITA, seems to have fallen apart.
Further, the amendment has sought to impose the equalisation levy on the transactions that involve a person buying goods and services both or using an IP address located in India or person using an IP address located in India for accessing an online advertisement or for allowing access to the data. While the very intention of the amendment is to ensure profits are taxed where economic value is created and to preventing base erosion, nonetheless, it has caused unforeseen hardship to the non-resident operators. It is argued that the tax was incorporated into the Union Budget 2020 at a late stage and without any public consultation or Parliamentary debate and yet is set to apply only one week later, starting on April 1. This sudden overnight change has compelled operators to align their internal system, billing mechanism, and database to exhaustive compliance obligations and would burden the industry at the time where it is already struggling at the time due to the Covid-19 pandemic. Further, it is argued that operators will not be able to swiftly identify countries where advertising arrangements were in place to target Indian users, increasing technological and compliance requirements. Also, this sudden imposing of an additional levy would increase the cost of operation at such times will only make matters worse. Further, one could imagine a situation where these operators may be required to produce evidence to support the accuracy of their claim to the subjective satisfaction of the concerned authorities. The failure of the operators will have an impact on exposing them to the penalties. This is excessively problematic as it shook the confidence and trust of these global companies in Indian tax regulators, consequently impacting India’s global image as business-friendly jurisdiction and capital inflow in India.
Additionally, equalisation levy is highly discriminatory on the foreign companies as puts a greater burdensome tax on foreign companies than Indian companies under similar circumstance. It is levied only on payment to a non-resident not having PE in India when no such levies are imposed on Indian residents. Also, the scope of the levy is extremely broader than that of the national European digital services taxes (DST). The levy applies to all companies with a turnover of Rs 2 crore, which is a very low exemption threshold. The equalisation levy may face implementation challenges especially a legal challenge from the perspective of extraterritoriality as the provision also governs the transaction between non-residents to non-resident which use India data. It is argued that equalisation levy is essentially a form of tariff on goods and services on foreign companies.
Further, there are two types of business models. In the first type e-commerce operator merely provide platform service and charge commission for such facilities. In this case, equalisation would be levied on the commission paid to the operators. On the other hand, in the second type, operators work as inventory model. It means operators make a bulk purchase from the seller and then resell them to consumers. In such a case, equalisation levy would be on the entire billing amount. It is needed that tax regulators clarify the position for both the model. Further, clarity is needed whether equalisation levy is applicable in case of cancellation of order and sales return from the platforms as the amendment is silent on the issue. It is argued that since tax is on the transaction, equalisation would be triggered, but there is no mechanism is in place to reverse the equalisation levy.
Although the objective and intention behind incorporation equalisation levy are laudable and it may have appeared to be an innovative and effective option to address the challenges of outdated permanent establishment principle at the first instance, but have caused significant predicaments and implementation challenges as explained above. It seems there was no detailed discussion and thinking before enacting the amendment, therefore the inevitable consequence is an adverse effect on free flow cross border transaction and India image as business-friendly jurisdiction. Indeed, there is lacuna as these businesses are unamenable to the concept of traditional rules of the ‘permanent establishment’ (PE) under international tax treaties, thus causing erosion of the tax base. Therefore, there is a need for appropriate cautions measures to address concern but while reacting to address the lacuna an extreme caution must be employed which is within the contour of an existing legal framework.