A Recent Income Tax Ruling Brings Cheer to Internet

Ajeet Khurana

There are hundreds of Internet startups in India that pay Google for its AdWords program, and Yahoo! for its Search Marketing program. This involves the search giants displaying ads on search result pages or other contextually related pages, and the advertiser paying per click or per impression. In a sense the entire online advertising ecosystem revolves around this kind of a mechanism. And regardless of whether we find it financially efficient or not, this kind of search advertising has allowed many Indian Internet based startups to gain a global audience overnight. When you read about ecommerce startups getting millions of dollars of venture funding, a large portion of that money is spent in the form of search advertising.

The Problem That Indian Startups Faced With Search Advertising

Income tax rules state that you must deduct tax at source (TDS) for business expenses. If you fail to do that, you cannot claim the expense. This means that the money you spend as a business expense would actually count as profit for the purpose of income tax computation. No business wants to have its expenses disallowed.

The problem being faced by Internet businesses in India was that Google and Yahoo! would not accept TDS being deducted from their payments. This would leave Indian businesses with two alternatives:

1)  Pay TDS from their own pockets.
2)  Forfeit the opportunity to claim the advertising expenditure as a tax-deductible revenue expense while computing tax.

In the hypercompetitive startup space neither of these alternatives is acceptable.

Good News: The Income Tax Appellate Tribunal Recently Solved That Problem

On April 12, 2013, the Kolkata bench of the Income Tax Appellate Tribunal made an interesting pronouncement, which will come as music to the ear of online advertisers in India. It deemed that since the payments made for search advertising by Indian businesses were to Google Ireland and Yahoo! USA, these payments were not subject to TDS as neither of these two entities had permanent establishment in India. In fact, if you read the 31-page pronouncement closely, you will notice that there is a lot of clarity on issues related to "permanent establishment," "technical service," and other matters that usually come to haunt the Indian taxpayer.

What This Means For You

The repercussion is ruling is simple and favorable. When you remit money to Google Ireland or Yahoo! USA for online advertising, you are not required to deduct tax at source. This ruling can be interpreted to apply to other payments made abroad too, in case the circumstances are identical to those mentioned in this case. Keep this in mind when planning your taxes.

Take Note

This article is not meant to be a substitute for professional advice, and there will always be ifs and buts when it comes to legal matters. As a result, you must seek professional advice before you come to a decision. Having said that, many Chartered Accountants themselves do not find the time to be constantly updated about the various new developments. So, if you would like me to send you copy of this pronouncement in PDF form, please leave a comment here, or connect with me on Twitter or LinkedIn and I will be happy to send email you a copy.

The author, Ajeet Khurana, wears many hats: angel investor, trainer, author, entrepreneur, digital marketer… He is screening committee member of Mumbai Angels, one of India's oldest angel networks. In addition he is an angel-trainer for new angel investors with NEN (National Entrepreneurship Network). He sits on the boards of Carve Niche Technologies and of Rolocule Games, You can reach him on LinkedIn and Twitter.

You can send your feedback on smementor@moneycontrol.com or simply post comments below