When India closed the door on its e-commerce tax, it left a window open

Services offered by e-commerce and digital companies that don’t have a physical presence in India can be taxed under other provisions of India’s Income Tax Act, said Ravi Agarwal, chairperson of the Central Board of Direct Taxes.

Finance minister Nirmala Sitharaman, while presenting the budget for 2024-25 on Tuesday, announced the removal of the equalisation levy of 2% imposed on income earned in India by offshore e-commerce platforms, effective 1 August.

She also proposed to remove an exemption provided under the Income Tax Act that was meant to avoid double taxation of the same earnings under two different provisions. This exemption now will be applicable only from 1 April 2020 to 1 August 2024, effectively enabling the tax authority to tax the income earned by offshore e-commerce platforms in India in future.

“On the one hand, we have actually removed (the 2% levy), but at the same time, since we reserve the right to actually tax, we have removed that exemption of Section 10 (50) that was otherwise being provided," Agarwal told Mint. “So, depending on circumstances and the nature of transactions, these are subject to tax since the exemption under Section 10 (50) is being removed."

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The decision to drop the equalisation levy should not be construed as the Indian government’s position in global negotiations for a tax anti-avoidance deal.

India and countries such as France, Austria and the UK are to withdraw their unilaterally implemented digital economy taxes once a proposed global framework provides for a fairer tax system covering tech companies that cater to markets like India without a physical presence there. However, the finer points are still to be agreed upon. 

“When we introduced this (2% tax) in 2020, it was an internal, domestic call. Its removal is also an internal decision. We need not associate it with any other developments that are happening," Agarwal said. 

A compromise pact

India’s decision in 2020 to expand the scope of the equalization levy to include global e-commerce companies had sparked a tiff between New Delhi and Washington and resulted in several tax disputes.

In 2021, India signed a compromise pact to stave off retaliatory tariffs of up to ₹25% by the US on a slew of Indian products. In 2021-22, India had collected about ₹3,900 crore from the equalisation levy. 

That figure includes proceeds of a 6% levy on online advertisements hosted by offshore e-commerce entities, which has not been discontinued.

Amit Singhania, managing partner at Areete Law Offices, explained that the removal of the equalisation levy on goods and services transacted through e-commerce platforms should not be considered as exempt transactions. 

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“They can be taxed under business connection or permanent establishment, if the prescribed conditions are satisfied. The tax rate for business connection/permanent establishment is 35% on profit attributable to said activity," said Singhania.

Permanent establishment is a concept in tax treaties meant to ensure that profits of a non-resident entity attributable to its local economic activity are taxed locally. 

Global tax talks

Agarwal also said intergovernmental discussions to check tax base erosion are ongoing as part of the Organisation for Economic Cooperation and Development’s (OECD) efforts. 

A key element (Pillar 1) of these discussions refers to taxation of digital economy firms, and another (Pillar 2) to ways of checking unhealthy competition among countries to keep corporate tax rate low for attracting investments.

Until Pillar 1 is implemented, these payments shall be characterized as royalties or fees for technical services, said Amit Maheshwari, tax partner at AKM Global, a tax and consulting firm. 

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Withholding of tax will be done on the basis of India’s tax laws or the country’s double tax treaty with the US, whichever is more beneficial to the US companies, he added.

“Till the time those discussions are happening, it would not be appropriate to comment on that and also as to what would be the approach," Agarwal said about the global tax deal under discussions. “We have put across our points. As and when those documents or declarations come, we would take a call."