Equalisation Levy: Extra Territoriality an obstacle
By Akash Kumar Prasad, for Legal Corner LLP. Akash is a fifth year student of NALSAR University of Law and will be graduating in 2021.
The views expressed here are not to be considered as legal opinion. You may not rely on this article as legal advice. You should reach out to me (email@example.com) to get legal advice that is specific to your business needs.
The Finance Act 2020 was passed on March 27, 2020 and created a lot of confusion as it amended the position of Equalisation Levy (EL), a type of digital service tax (DST). The Equalisation Levy was first introduced pursuant to the Finance Act, 2016 wherein a non-resident service provider, providing service to the resident are required to withhold at the rate of 6% of the gross amount of fee payable by the resident in lieu of such service. After the amendment of Equalisation Levy, the legal position related to it has changed drastically. Post amendment, the non-residential e-commerce operators are required to withhold at the rate of 2% of the gross amount received/receivable in lieu of the e-commerce supply and service. The Act has extra-territorial application as it attempts to tax the income earned from the advertisements (directed at Indian customers), or even accessed through Indian IP addresses and income earned from the sales of goods and services to anyone using any Indian IP address. Furthermore, EL has now been made applicable on both supplies of goods and services and on both B2B and B2C transactions. This article engages with the extra-territorial aspect of EL and aims to highlight both the practical and technical issues that arise/are being faced due to its implementation in its present state in India.
Technical difficulties that arise with the imposition of EL in its current state
The first technical issue is the absence of a global tax collection system. In the context of a fragile global economy, the requirement of the same becomes necessary because any unilateral actions by different nations have the potential to impair the investments and economic growth on a global level. The Organisation for Economic Co-operation and Development (OECD) an intergovernmental economic organisation which deliberates the policies on digital taxation is still in the process of developing a common system and arriving at a consensus on taxable nexus and allocation of taxing rights.
Another issue is that the OECD has recommended the idea of ‘Significant Economic Presence’ (SEP) to be the basis of taxable nexus. Hence, it is highly possible that, a company’s permanent establishment, which is a taxable presence of the company outside its state of residence, may be in one country and the SEP in another country. Now, this is problematic because this gives rise to the issue of double taxation and hence defeats the purpose of Double Tax Avoidance Agreements (DTAAs) which aims to avoid international double taxation. The Akhilesh Ranjan Committee had also observed this as an inherent limitation of EL.
Furthermore, another technical concern is the lack of explanation to the technical terms such as ‘systematic, continuous soliciting’, and ‘users’ as mentioned in the explanation 2A (b) to S.9 of the amended Act. For instance, there is not much statutory guidance as to who would qualify as an Indian IP address user. It is not clear whether the threshold is merely visiting a website via an Indian IP address or that of browsing through links therein. Such lack of interpretation could be highly chaotic and lead to confusion among the litigators and the taxpayers alike.
Practical difficulties that arise with the imposition of EL in its current state
The first practical concern is that the States normally charge taxes from non-resident entities that have no physical presence in their own territory, by taxing the domestic source of their revenue. The same had been followed until the scope was widened. The concern now is that the present EL regime aims to charge under S. 165A of Finance Act, 2016 directly and it is still not clear how the Indian government aims to achieve the same. There are high costs involved in tracking and storing the location of all the users and it is unlikely that the foreign businesses would want to incur such costs. Thus, it becomes difficult for such businesses to assess and pay the taxes owed.
Another issue is the absence of compliance and penalising mechanism in the event of non-payment of EL, by a non-resident entity. Although the Act provides for the attraction on unpaid taxes, penalisation and prosecution for non-compliance, such provisions aren’t enough to deter foreign businesses which have no tangible assets in India. Furthermore, there is an issue relating to the ‘revenue rule’ (general principle of international taxation) which states that the courts of a country can refuse enforcement of foreign revenue or tax laws. Thus, if any foreign country is unsatisfied with EL’s applicability on their domestic businesses, it may refuse EL’s enforcement on their resident businesses. It is highly possible that the foreign countries might raise an issue due to the above-mentioned concerns. For instance, the United States Trade Representatives raised an issue recently saying India’s DST (Digital Service Tax, referred as Equalisation Levy in India) is discriminatory, unreasonable, and burdens or restricts US commerce, and thus, is actionable under Section 301 (of Trade Act, 1974). The investigation, initiated by the USTR on June 2 last year, said that this tax explicitly exempts Indian companies and only ‘non-residents’ must pay the tax.
The objective and intention behind the expansion of the scope of EL is appreciative and it might have appeared to be effective to address the challenges of permanent establishment principle, but has surely caused confusion and significant predicaments as explained above. It seems that there was no proper deliberation and discussion before amending the position and hence the inevitable result is an adverse effect on free flow cross border transaction and India’s reputation as business-friendly jurisdiction. It is clear that the Indian government is aiming to further its revenue from all ways possible as it too has faced a heavy blow due to pandemic, but at the same time, there is an urgent requirement of issuing clarifications and supplementary rules to remove the surrounding ambiguity on the implementation of EL.