Opening up a marketplace of controversy

Government norms allowing FDI in e-commerce marketplace have left the industry divided. Legal and tax experts share their insights on how the guidelines will influence the existing court cases, and tax-related litigation

Traditional retailers may gain: Sharad Moudgal

Under Press Note 3 (PN3), foreign direct investment (FDI) in B2C e-commerce is permitted only in pure-play marketplaces that facilitate the sale of goods and services, and do not engage in retailing, including through exclusive distributorship arrangements with preferred vendors and by the ownership of inventory. The decision will certainly impact existing players with structures that could be construed as an indirect form of retailing. It could also have tax consequences as well as potentially impact judicial deliberations on this subject.

Traditional retailers are likely to argue that PN3 affirms their contentions that existing marketplaces, which own inventory or have exclusive distributorship arrangements, have been historically engaged in retailing through innovative operating structures. It will be interesting to observe how courts will finally apply the rules. Traditional retailers are likely to gain if the rules are applied retrospectively. The key question is whether courts will invalidate existing marketplaces that do not conform to the conditions stipulated, which comes into effect from March 29, 2016, by expecting them to comply with the rules retrospectively.

Value-added tax on e-commerce has lately been a major topic of contention between marketplaces and various state governments. Karnataka, in spite of considerable resistance, challenged Amazon's 'fulfilment centre' model by trying to levy VAT on goods sold through Amazon's website. On the other hand, the Kerala high court quashed orders to impose penalties on Flipkart for not complying with state VAT legislations by facilitating local sales without payment of requisite taxes. Marketplaces that comply with the rules are likely to bolster their argument of not being sellers or dealers but merely facilitators. Marketplaces engaged in the settlement of payments, warehousing and logistics, etc will also benefit from the new rules, as these activities have been permitted. However, the rules should not impact ongoing issues surrounding the collection of tax from marketplaces that own warehouse inventory. State governments are likely to contend that such marketplaces are liable for tax on facilitated sales.

Indian-owned marketplaces with no FDI should benefit from the rules, as they are free to own inventory in addition to undertaking all other activities that marketplaces with FDI may carry out. However, foreign-owned or controlled marketplaces will be forced to adapt to a pure-play model at the earliest. We are likely to witness several such marketplaces restructuring their operations to become compliant with the rules.

The author is partner, Khaitan & Co. Sanjay Khan Nagra, senior associate at the firm, also contributed to the piece

Will impact valuation of goods: Satyajit Gupta

Press Note 3, that lays out the rules on FDI in e-commerce for marketplace model, essentially re-states the obvious - that FDI is not permitted in multi-brand B2C e-commerce. The 'silver lining' is the unambiguous recognition (for accessing FDI) granted to e-commerce companies engaged in the 'marketplace' model, i.e. those players who do not own the inventory of goods, and merely provide the IT platform for buyers and sellers to transact, though it comes with strings attached.

Impact on the pending litigation

The litigation before the Delhi High Court hinges on the argument advanced by 'brick and mortar' retailers that the 'marketplace' model of B2C e-commerce is nothing but multi-brand B2C retail by using complex and convoluted business structures; the contention being that the FDI regime in relation to multi-brand retail should apply to such e-commerce entities. The petitioners have alluded to the fact that sales of products by such e-commerce companies have been treated as retail sales by governments for taxing such transactions, to bolster their contention that this is retail trade in substance.

Does the press note dilute the stand of marketplace players in relation to indirect tax litigation?

They do not. In fact, they go a long way in strengthening the stand taken by e-commerce companies in litigation with state VAT authorities that they are pure service providers. As regards litigation under State entry tax laws, it may not have any direct impact on such litigation as the main challenge there is relating to the constitutional validity of entry tax provisions. The perceivable impact, which may arise on e-commerce companies, is in relation to the valuation of goods which would be subject to entry tax - given the restriction against 'directly or indirectly influence the sale price of goods or services'. Since entry tax was leviable on the value at which the goods were imported after factoring in any discount, the prohibition on influencing the price is now likely to result in entry tax being levied on the value at which goods are sold by the seller without factoring in any discount. This aspect would need to be examined further in pricing strategies.

The author is principal - corporate/ M&A at Advaita Legal. Sudipta Bhattacharjee, principal - tax controversy management, at the firm also contributed to the piece

Improve tax position of online players: Vikas Kumar

E-commerce marketplaces have flourished by optimising fulfilment, enforcing seller discipline and enhancing buyer experience; and in the process have captured tremendous value from traditional retailers.

However, Indian e-commerce marketplace models have mostly evolved as antidote to FDI restrictions in B2C retail and e-commerce. Marketplaces have been positioned as IT platforms connecting storefronts with buyers. Though investigated occasionally, until now these models were neither affirmed, nor censured conclusively by authorities.

The new rules legitimises marketplaces, and re-affirms that inventory models will undoubtedly fall afoul of existing FDI restrictions in B2C e-commerce. While these bring a cheer to marketplaces, it also cramps their style by placing operational restrictions on them.

In the past, some states have sought to levy tax on marketplaces contending that they are dealers, and hence liable to VAT. Whereas marketplaces have resisted this claiming that they are only providing IT platform for transactions. The new rules define marketplace as trade facilitators and it reinforces the stand taken by them.

Further, the rules are expected to improve the tax positions taken by marketplaces on issues like entry tax. The rules clearly state that sellers shall be responsible for delivery of goods to customers and thereby such taxes ought to be levied on sellers. However, in practice, since sellers may not have well-developed logistics capabilities either they will be constrained to outsource delivery or otherwise compromise consumer experience on marketplace.

The rules catch up on seams of ongoing tussle between retailers and e-commerce entities by taming the horse through operational constraints. However, the horse may bolt through the door yet again!

FDI policy cannot apply to marketplaces that are entirely owned by resident Indians. Extending that principle further, could marketplaces set up as a step-down entity by Indian 'owned and controlled' companies, which itself may have foreign investment, also fly under the radar? Considering the creative structures that have evolved around FDI restrictions in retail, this is not entirely inconceivable.

The author is partner, Lakshmikumaran & Sridharan, Attorneys. Ronak Ajmera, principal associate in the firm, also contributed to the piece. The views expressed are personal)

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