Google Tax: The search for equality in Equalisation Levy

Preeti Balwani

While cricket aficionados enjoy the T20 World Cup, the E-commerce Committee set up by the Central Board of Direct Taxes (CBDT) set up the ground work for the googly delivered by the Finance Minister in his Budget speech. The 124 page report (E-commerce Committee Report) is a departure from the earlier High Powered Committee Report (HPC Report) of the CBDT in September 2001 that maintained that the existing tax regime is adequate to tax digital transactions. While the earlier HPC Report considered “neutrality” as a guiding principle for its conclusion based on policies framed by the Fiscal Affairs Committee of the Organisation for Economic Co-operation and Development (OECD), the present report took cognizance of the Report on Action 1 of Base Erosion & Profit Shifting (BEPS). The BEPS Report clearly highlights the need for modifying existing international taxation rules, and identifies three options, i.e. a new nexus based on significant economic presence, a withholding tax on digital transactions, and Equalization Levy.

Soon after the Budget proposals were announced on the Equalisation Levy (EQL), India had its own version of the Google Tax following UK and Australia.

Indian residents are subject to income tax in India on their worldwide income, whereas non-residents are taxed only on income sourced in India. Certain types of income are deemed to accrue or arise in India under prescribed circumstances. However, if a non-resident taxpayer is a tax resident of a country with which India has signed a tax treaty, he is entitled to relief under the tax treaty.

The EQL is proposed to be charged to non-residents and is only on services. The EQL has been designed such that there is no need for characterisation of the income and is not applicable if the entity has a permanent establishment (PE) in India. Since this is not an income tax, all revenues earned in India by the non-resident will be liable to pay the EQL and double tax avoidance agreements are not applicable. The rationale behind the levy is to “level the playing field” and make non-resident multinationals pay for the economic benefit they derive from revenues in India. Digital India voiced strong opinions regarding this move.

Business profits of Indian resident companies is approximately charged at 30 percent and 40 percent in case of non-resident companies to the extent of income sourced in India, exclusive of surcharge and cess. Taxing digital businesses is difficult because of a lack of a physical presence in a jurisdiction and wide consumer base making the world indeed a small place.

To put it simply, there are 3 ways in which a country can tax a non-resident income, establishing an economic nexus, imposing a withholding tax and an equalisation levy – India has chosen the levy.  85 percent of India’s net national income falls outside the tax net, according to the Economic Survey 2016-17 tabled before the Budget session of the Parliament, the EQL is a step in the right direction, bringing digital profits accrued in India within the tax ambit. 

Advantages of the EQL over the other options is that is seeks to equalise the taxes paid by non-resident companies and local companies on the principle of “neutrality”. If the rate between 6 percent to 8 percent on the gross revenue seems excessive, it will encourage foreign companies to set up a presence in India and be taxed at the local rates. It will also serve as a deterrent for foreign companies to shift profits to tax friendlier jurisdictions.

The threshold of 1 lakh rupees for any single transaction of specified digital services may be too low and could do with an annual revenue threshold instead. India's e-commerce market was worth about 3.8 billion US dollars in 2009 and grew more than three times to 12.6 billion US dollars in 2016, it is time for us to re-look at the present tax regime and implement regimes similar to those Indian e-commerce companies would be subject to in other countries. While there is some debate regarding the scope of services proposed to be taxed, how the government implements this levy will be crucial. I am optimistic with caution - but as they say the devil is in the details.(The writer is a Private Equity and M&A lawyer advising e-commerce companies and start-ups in India)