India, European nations may soon tax digital firms as US upends global plan

Internet companies operate out of low-tax jurisdictions, but do business in several others without having a physical presence and end up avoiding taxes.
India and European countries may soon begin to unilaterally impose tax on digital companies, including Facebook, Google, and Netflix, after the United States pulled out of global talks to put in place a multilateral instrument to bring these companies in the tax net.

Though the negotiations will continue under the Organization for Economic Co-operation and Development (OECD) Base Erosion and Profit Shifting(BEPS) framework, government officials pointed out these talks would not be meaningful without the US’ participation. Hence, India may start to work on expanding the scope of equalisation levy, they said.

Besides, it will also define revenue and user threshold under the significant economic presence (SEP) principle, which was deferred by a year in FY21 on grounds that a multilateral solution was being discussed.

“The US pulling out of talks will only encourage more countries to act unilaterally as far as digital taxes are concerned, and the Americans imposing retaliatory tariffs, resulting in a trade war of sorts. We have already introduced a 2 per cent equalisation levy on non-resident e-commerce operators. It is already 6 per cent in the case of advertising revenue, and the scope can be further expanded,” said a government official. India had imposed a 6 per cent equalisation levy in June 2016 on non-resident digital firms on the amount paid to internet firms by advertisers in India. The government has mopped up over Rs 1,000 crore from this levy in 2018-19.

The US, in December, had shown its lack of intent at finding a multilateral solution, arguing it should be optional and not binding on countries. Addressing the taxation challenge because of digitalisation of the economy, over 130 countries, which are part of the BEPS framework, have been in talks to rework the traditional international tax system, and make digital firms pay taxes regardless of their physical presence.

Base erosion and profit shifting (BEPS) refers to the exploitation by multinational companies, of gaps and mismatches in tax rules, to shift their profits to low-tax regimes.

Internet companies operate out of low-tax jurisdictions, but do business in several others without having a physical presence and end up avoiding taxes. The government official said the significant economic presence principle has been deferred but work on it would start shortly under which the number of Indian users and a revenue threshold would be used to tax business profits of non-resident digital companies derived from Indian consumers. “We will work out the threshold,” said the official.

The concept of significant economic presence was introduced in the Finance Bill 2018-19, which widened the scope of “business connection” to include the provision of download of data or software, if aggregate payments from such transactions exceed a prescribed amount, or if a multinational’s interaction is with a prescribed number of users. However, that requires amendment of each double taxation avoidance agreement partner. Hence, a multilateral instrument is in the works under the OECD Base Erosion and Profit Shifting framework, where all tax treaties would be amended automatically.

Akhilesh Ranjan, former Central Board of Direct Taxes (CBDT) member and chief negotiator at OECD BEPS, noted it was the US, which in December had decided to go back on its proposal and said “we cannot depart from the arm’s length principle and can’t agree to redefine nexus”. “The US is not fully participating in the discussions, so there is a reaction everywhere. It will be interesting to see how strongly the US can pursue this matter with nine different jurisdictions,” said Ranjan. He said one could expect participation from the US only after the presidential elections this year.

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