Equalization Levy : Committee brings clarity

By | March 22, 2016

Equalization Levy

  [ Extract from PROPOSAL FOR EQUALIZATION LEVY ON SPECIFIED TRANSACTIONS (Report of the Committee on Taxation of E-Commerce formed by the Central Board of Direct Taxes, Department of Revenue, Ministry of Finance, Government of India ) February, 2016 ]

Q Why Equalization Levy is being imposed ?

Equalization Levy is intended to be a tax imposed in accordance with the conclusions of the BEPS Report on Action 1 that has been endorsed by G-20 and OECD, on payments made for digital services to foreign beneficial owner (The Committee notes that the phrase “Beneficial Owner” may need to be defined appropriately in accordance with the international standards), who enjoy an unfair advantage over their Indian competitors providing similar services by digital or more traditional means, with the objective for equalizing their tax burden with other businesses that are subjected to income-tax in India, without disturbing the existing tax treaties. Another objective of Equalization Levy is to provide greater clarity, certainty and predictability in respect of characterization of payments for digital services and consequent tax liabilities, to all stakeholders, so as to minimize costs of compliance and administration and minimize tax disputes in these matters. The target transactions would be those conducted primarily through digital or telecommunication networks, heavily relying upon latest telecommunication technology, and thereby avoiding the need of a physical presence in India, i.e. transactions which lead to profits that are not appropriately taxed in India because of the limitations of the existing international taxation rules. As stated in the BEPS Report, it is intended to be an interim measure that may not be required once the international taxation rules are modified to address the broad tax challenges that are imposed by the limitations of the existing international taxation rules in terms of nexus, characterization and valuation of user data and contributions.

Q : What are the Clarifications regarding Equalization Levy ?

Clarifications are given in Appendix -2 as follow

1. Objectives of Equalization Levy

To address the base erosion faced in digital economy from limitations of existing international taxation rules, in accordance with international agreement arrived in the BEPS Project. This base erosion happens when a deductible payment is made for the purpose of business and claimed as business expense, but the income arising from such payments is not taxable because of the limitations of existing international taxation rules.

To reduce the unfair tax advantage enjoyed by a multinational digital enterprise over its Indian competitors, and thereby ensure fair market competition. The unfair tax advantage arises when domestic enterprises are taxed but multinational enterprises are not taxed on their income arising from India.

To provide greater certainty and predictability with regard to taxation of payments for digital services by way of a stable tax regime.

‘Equalization Levy’ has been recognized and accepted in the BEPS Report on Action 1 as one of the options that can be resorted to by countries under their domestic laws.

2. Payment covered

It will be levied only on payment made for certain specified services and facilities provided by multinational enterprises not having a permanent establishment in India.

3. Payments not covered

It will not be levied on goods to be imported. The fact that orders are placed & payments are made on the internet will not attract Equalization Levy. In other words, what is normally understood as E-Commerce or digital Commerce need not necessarily attract Equalization Levy. Sellers or buyers selling tangible goods by using internet will not be affected, except in respect of payments for specified services.

It will also not be levied on services that are not specified, even if such services are procured by making payments from within India over the internet. For example, an Indian resident books hotel rooms abroad. Booking is made and payment is made on the net. However, hospitality services are not specified services for the purpose of Equalization Levy. Hence Equalization Levy will not be levied. Such transactions are normally known as E-Commerce. However, they will not attract Equalization Levy.

Thus, the Equalization Levy is not necessarily chargeable for all E-Commerce transactions.

4. Payment Thresholds for Equalization Levy

No Equalization Levy will be charged for payments below the threshold limit of Rs. one lakh for a single payment, or Rs. ten lakh of total payments made in a year by a payer to a single party. Thus, no Equalization Levy would be levied in the following instances:

(i) An Indian resident makes a single payment for Rs. 95,000 to a foreign enterprise for a specified service;

(ii) An Indian resident makes several payments to a foreign enterprise for specified services, but total of all payments made to that enterprise in the year is less than Rs. one lakh;

(iii) An Indian resident makes several payments to several foreign enterprises for specified services, but the total of all payments made to each of those enterprises in the year is less than Rs. one lakh.

These high thresholds are likely to ensure that payments of smaller amounts made by Indian consumers for personal consumption of services are not affected by it. In a case, where a total payment exceeding Rs. one lakh is made by a consumer for nonbusiness purposes (such as personal consumption) to a single foreign enterprise in a year, Equalization Levy would be chargeable, but even then there would be no liability on the consumer to deduct it. Thus, Equalization Levy would not affect nonbusiness consumers

5. Payments to Residents & Permanent Establishments of Non-Residents not Liable

Equalization Levy will not be chargeable on payments for specified services made to Indian Residents. In fact, the levy is proposed to protect Indian residents from unfair competition arising out of unfair tax advantage enjoyed by their foreign competitors.

Equalization Levy will also not be chargeable on payments for specified services made to permanent establishment of non-residents in India. Thus, it also protects non-residents paying taxes on their income in India from unfair competition.

6. Indian Nexus necessary

Equalization Levy will be levied only where payments for specified services are made by a resident of India or a permanent establishment of a non-resident for the purpose of its business in India. Payments made by a non-resident from within India

will not attract Equalization Levy, unless it has a permanent establishment and payment is borne by that permanent establishment in India.

7. Deduction at Source liability only on businesses

The payer is required to deduct the Equalization Levy from a payment for specified services only if it is a payment made for the purpose of business, and the payer intends to claim a deduction for expenses on account of such payment for determining its taxable profits in India.

Thus, a person making payments for personal use and not intending to claim any deductions for that payment will not be required to make any deductions.

8. Possibility of deduction of Equalization Levy by Payment Gateways

The Committee recommends that necessary work for evolving a mechanism for deduction of Equalization Levy by payment gateways need to be initiated. However, the Committee recognizes that such a mechanism may take some time to develop.

9. Filing of Returns

Non-resident beneficial owner will have to file his tax return only if its annual receipts chargeable to Equalization Levy are in excess of Rs. Ten Crore. For receipts below Rs. Ten Crore, tax will be payable, but there will be no obligation for the nonresident to file a return. Tax deducted by Indian resident payers will be accepted as final payments, and if Equalization Levy has been deducted on all specified payments by payers in India, no further payment will be required from the beneficial owner.

Payers in India will be required to file a simple online return annually providing basic details of Equalization Levy deducted and paid to the Government.

10. No Payment, no Levy

If no payment is made for a service, there will be no levy. For instance, Equalization Levy will not be chargeable on services that are available freely on the internet, or free apps that are available to the Indian consumers.

11. Payments subjected to Equalization Levy exempted from Income-tax

All payments for specified services that are liable to Equalization Levy shall be exempt from Indian Income-tax in the hands of the non-resident beneficial owner. This will ensure that payments will not be covered by both Equalization Levy as well as Income-tax Act, and thereby ensure that there is no double taxation in India on those payments. This would also help in minimizing income-tax disputes relating to characterization of payments and their consequent taxability under the Income-tax Act.

Thus, the income of a non-resident from services that are covered by Equalization Levy, and on which Equalization Levy is paid will be fully exempt from income-tax.

12. Outside Income-tax Act – Not a tax on income

The Equalization Levy will be outside Income-tax Act. It is not a tax on income, as it is levied on payments. It is therefore also payable by enterprises not making any net profits.

However,  Equalization Levy is not chargeable on payments made to permanent establishments of foreign enterprises in India, and thus, enterprises that would prefer to be taxed on their net income have the opportunity to have a permanent establishment in India and thereby get taxed only on their net income.

13. Tax Treaties (Double Taxation Avoidance Agreements) Not Applicable on Equalization Levy – No Foreign Tax Credit in the other country

As the Equalization Levy is not charged on income, it is not covered by Double Taxation Avoidance Agreements or tax treaties. Thus, no tax credits under the tax treaties will become available to the beneficial owner in the country of its residence, in respect of Equalization Levy charged in India.

The Committee recommends that in case the other country also levies a similar Equalization Levy, Government of India may explore the possibility of having a reciprocal agreement with that other country for allowing tax credits under the domestic tax laws for Equalization Levy paid.

14. Positive Aspects of Equalization Levy

(i) Internationally Recognized Option: Equalization Levy has been recognized as one of the possible options that can be resorted to by countries for addressing the tax challenges arising from digital economy, under their domestic laws.

(ii) The design of the Equalization Levy avoids many complications related to determination of nexus, characterization of payments and attribution of profits. As it is levied on gross payments at a flat, low, final rate, there is no need for determining taxable income.

(iii) Since this levy is not under the Income-tax Act, the provisions of transfer pricing and General Anti Avoidance Rules will not be applicable to it.

(iv) It does not affect consumers making payments up to Rs. one lakh.

15. Administration

The Equalization Levy can be administered in the same way as Securities Transaction Tax, by the Income-tax authorities.

16. Obligation to record in Books of Accounts and get them Audited

The deductor in India, if it is making the payment for purpose of its business, will be expected to record the transactions in its books of accounts that it is required to maintain for its business under any law in India. No such obligation would be there for a person, who is not required to maintain books of accounts.

Similarly, a deductor that is required to gets its books of accounts audited, would be expected to obtain a certificate that Equalization Levy has been deducted and paid to the Government as per law. No such obligation would be there for a person, who is not required to get its books audited.

17. Expected Revenue

The Equalization Levy is designed in a way to keep its impact limited at this stage to only certain specified transactions above a high threshold limit. Accordingly, it is not expected to be a major source of revenue at this stage. However, its prime significance lies in initiating a process of addressing tax challenges of digital economy; minimizing the unfair tax advantage enjoyed by multinational enterprises over their Indian competitors; bringing greater certainty and predictability in respect of certain disputed payments; and creating incentives against base erosion and in favor of compliance with Indian tax laws, without disrupting the economy or adding to the cost of compliance or administration. Its overall contribution as a tax policy measure is likely to be significant in the long run.

Even though the greatest benefits of this measure will become available later, it is important to introduce it now, so as to enable the businesses to adapt to its impacts. Such a measure will also introduce long term certainty, predictability and avoid the need of surprise measures in future.

18. Ease of Compliance and Administration

Compliance of Equalization Levy can be completed on the internet, including payment of Equalization Levy and filing of returns. In view of the simple and certain design of Equalization Levy, the administrative interventions are expected to be minimal, thereby minimizing the need for scrutiny, investigations and appeals. By exempting such income from income-tax, compliance and administrative costs in respect of income-tax are also likely to be reduced.

Q : What is the difference of  Equalization Levy from  Withholding Tax ?

Differences from Withholding Tax

Conceptually, such a tax may have features that are also shared by the withholding tax that is often levied on payments that give rise to income. However, the significant difference, between an ‘Equalization Levy’ that is proposed to be imposed on gross amount of payments, and the withholding tax under the Income-tax Act, 1961 would be that under the latter, withholding tax is only a mechanism of collecting tax, whereas an ‘Equalization Levy’ on gross payments would be a final tax. In case of withholding tax under the Indian Income Tax Act, 1961, the tax liability of a taxpayer is determined with reference to its total income as determined under the provisions of the Act, and the tax rate that may be applicable on it. If the tax collected by withholding mechanism is more than the tax determined under the Income-tax Act, the taxpayer becomes entitled to a refund, while, if the tax liability is more than the amount withheld, the difference needs to be paid by the tax payer. On the contrary, an Equalization Levy would be determined with reference to the gross amount of the payment and the rate of Equalization Levy applicable on it, which would be a full and final tax.

Q : Whether Tax Treaties  are applicable in case of  Equalization Levy ?

Tax on Amount of Payment for Specified Services & Not on Income: Hence Tax Treaties not Applicable

As the Equalization Levy is imposed on the gross amount of transaction, and not on the income arising from such transaction, it is applicable irrespective of whether any income arising from the transaction is taxable in India or not. As the Equalization Levy is not imposed on income, it does not fall within the scope of “income-tax” or “tax on income” or “any identical or substantially similar taxes”, which typically define the scope of taxes covered within the tax treaties.

Thus, the inherent concept of ‘Equalization Levy’ as suggested in the BEPS Report on Action 1 keeps it outside the purview of the limitations imposed by tax treaties, a feature, which makes it the only option that can be adopted without violating or in any other way affecting the treaty obligations of the Contracting States in a tax treaty.

Q; What is the Advantages of adopting Equalization Levy ?

Advantages of adopting Equalization Levy in Domestic Laws instead of tax treaties

As every country including India has several bilateral tax treaties, and since there could be lack of uniformity on the preferred design of an equalization levy among different countries, including the Equalization Levy in the tax treaties may, apart from being a prolonged, uncertain and a time consuming process, also result in a number of variations in the design of the equalization levy imposed that could make the implementation of such a levy very difficult, uncertain and costly for all stakeholders including the Government of India. Thus, compared to the option of including equalization levy in a tax treaty, the option of imposing the same under the domestic law appears to have significant advantages in terms of providing simplicity, uniformity and consistency as well as minimize the cost of administration and compliance, and is therefore, a preferred option. Such a levy cannot, however, be imposed on income and would need to be imposed on the transacted amount or payment itself.

Q : Whether the Equalization Levy is covered in the Income tax act ?

If the equalization levy is to be imposed under the domestic laws of India, if it is not to be imposed on income, and if it is not to be covered by the treaty obligations imposed by the tax treaties, then it will need to be separated from the laws determining the tax imposed on income in India. As the Equalization Levy on a transaction is, in any case, inherently different from a tax on income, it need not be included within the laws governing tax on income. Accordingly, it would be necessary to impose the Equalization Levy through statutory provisions outside the Income Tax Act, 1961. Instead, the provisions for Equalization Levy can be included in the Finance Act. Past precedence exist for imposition of similar taxes on transactions, like the Security Transaction Tax (STT) and the Service Tax . In view of these precedents, and the need to keep the ‘Equalization Levy’ separate from the taxes on income, this Committee is of the view that the ‘Equalization Levy’ on payments for digital goods and services should be imposed through statutory provisions in the Finance Act.

Q: What is the Constitutional Validity of Equalization Levy imposed by the Union ?

Constitutional Validity of Equalization Levy imposed by the Union

In view of the constitutional division of taxing rights between the Union and the States, it will need to be ensured that the Equalization Levy is consistent with the constitutional provisions. Equalization levy on gross amounts of transactions or payments made for digital services appears to be in accordance with the entries at Serial Number 92Cand 97 of the First List in the Seventh Schedule of the Constitution of India. The existing precedent in the form of the Service Tax appears to remove any ambiguities and doubts in this regard. Thus this committee is of the view that Equalization Levy as a tax on gross amounts of transactions, imposed by the Union through a statute made by the Parliament, would satisfy the test of constitutional validity.

Q : What is the  Scope of Digital Services/transactions on which Equalization Levy can be imposed ?

Defining the Tax Base: Scope of Digital Services/transactions on which Equalization Levy can be imposed

The Equalization Levy should be limited to the payments made for intangible services, including payments for use or right to use any intangible, access a digital, telecommunication or similar network, or avail any service or other benefit received from a foreign company or a person resident outside India, provided the services are either received, utilized, provided or performed in India, and thus have a nexus with India, irrespective of whether the payment is made by a resident or a non-resident person. Thus, the payment made by the permanent establishment of a foreign company in India to its headquarters outside India would be covered if it otherwise falls within the scope of Equalization Levy.

The BEPS Report, while analyzing the option of ‘Equalization Levy’ suggests striking a balance between specifying the services (that will make it simpler, predictable and certain) and having a broader, more flexible description of services that would be covered (to take care of further technological advances and to avoid the need for frequent additions). The Committee considers that both aspects are important, but in view of the fact that it will be a new tax, is of the view that the need to achieve simplicity, predictability and certainty and minimizing disputes on characterization will be of greater importance. Thus, the Committee is of the view that to the extent possible, the categories of payments that would be subjected to Equalization Levy should be listed clearly. In view of the Committee, it may not be advisable to include broad categories as that may introduce an element of greater uncertainty and lead to disputes on characterization, avoiding which is one of the objectives of imposing Equalization Levy.

As the objective of the levy is to tax only those entities that enjoy an unfair tax advantage, payments that are made to the permanent establishment in India of a foreign company or a non-resident person, would be exempt from the Equalization Levy, if that payment forms a business receipt of that permanent establishment, and the income arriving from it is attributable to that permanent establishment in India and hence subject to tax under the provisions of the Income-tax Act, 1961. A verified declaration of the beneficial owner to this effect, in the prescribed form mentioning its Permanent Account Number (PAN) in India or its Tax Identification Number in its country of residence should be treated as sufficient for such exemption.

Q What is list of Services  that may be subjected to ‘ Equalization Levy ’ as per committee suggestion ?

After detailed analysis, the Committee suggests that the following categories of payments may be subjected to ‘Equalization Levy’ at this stage

Any sum paid or payable or credited as a consideration for any of the following:

(i) online advertising or any services, rights or use of software for online advertising, including advertising on radio & television;

(ii) digital advertising space;

(iii) designing, creating, hosting or maintenance of website;

(iv) digital space for website, advertising, e-mails, online computing, blogs, online content, online data or any other online facility;

(v) any provision, facility or service for uploading, storing or distribution of digital content;

(vi) online collection or processing of data related to online users in India;

(vii) any facility or service for online sale of goods or services or collecting online payments;

(viii) development or maintenance of participative online networks;

(ix) use or right to use or download online music, online movies, online games, online books or online software, without a right to make and distribute any copies thereof;

(x) online news, online search, online maps or global positioning system applications;

(xi) online software applications accessed or downloaded through internet or telecommunication networks; (xii) online software computing facility of any kind for any purpose; and

(xiii) reimbursement of expenses of a nature that are included in any of the above;

Explanation – For the purposes of above, ‘online’ means a facility or service or right or benefit or access that is obtained through the internet or any other form of digital or telecommunication network.

The Committee acknowledges that in view of the rapid changes in technology and the way business models are continuing to evolve, this list may be need to be reviewed and modified from time to time. The Committee also notes that some of these payments could be taxable currently as royalty or fee for technical services, and by bringing them under the purview of Equalization Levy combined with exemption from income-tax, the effective rate of taxation on them will be reduced from 10% to 6 to 8%. The Committee also notes that in respect of some of these payments, there could also be issues relating to characterization and potential for tax disputes. The Committee also took into account this possible overlap with taxation as royalty or fee for technical services, as well as the prolonged litigations that keep arising in respect of their taxability under the Income-tax Act, 1961. Having considered these issues, it is the considered view of the Committee that bringing such payments under the purview of Equalization Levy, as included in the list above, and the consequent exemption of income under the Income-tax Act, will bring about more certainty, predictability and stability to the tax regime, reduce costs of compliance as well as administration, and could significantly contribute to reducing tax litigation. Thus, the Committee recommends the aforementioned list of services for Equalization Levy.

Q If the transactions are called by some other name , whether there will be Equalization Levy ?

Keeping in view the possibility that such transactions may be given a label by the parties that is not included in this list, it would be essential that it may be specified that these services would be subject to Equalization Levy, irrespective of whatever they may be called by the parties.

Q : Whether there will be Equalization Levy in case of reimbursements of expenses ?

Similarly, to prevent the possibility of avoiding the Equalization Levy by having the payment made by a third party outside India, which is subsequently reimbursed by the actual user, with a claim that no Equalization Levy is payable on reimbursements, it may need to be clarified that the Equalization Levy will be also payable on any payments made by a payer in India for reimbursements of expenses incurred by a third party outside India in respect of services covered under this levy.

Q When will Equalization Levy will become applicable ?

It would need to be clarified that the Equalization Levy will become applicable once a payment is credited or paid – whoever is earlier, to the beneficial owner in the books of accounts, irrespective of when and how the actual payment is made.

Q Whether Equalization Levy will be applicable in case of B2C or C2C Transactions ?

Restricting application on B2B transactions & Having a Revenue Threshold

The Committee considers that from a policy perspective, it would be preferable to avoid placing the burden of compliance and administration related to Equalization Levy in cases, where the revenue collected would not be commensurate with cost of compliance and administration. For this purpose, it would be preferable to limit the application of Equalization Levy only to business-to business (B2B) transactions, and not apply it to the business-toconsumer (B2C) transactions, which are more frequent, but of smaller amounts, at this stage, or till that point of time when a mechanism becomes available, by which Equalization Levy can be seamlessly collected in B2C transactions, without burdening the consumer

Q What is the thresholds limit for  Equalisation Levy ?

The purpose of restricting the burden of deducting the Equalisation Levy by the Payers – to ‘B2B’ transactions will be achieved by fixing the revenue thresholds significantly high. ‘B2C’ & ‘C2C’ transactions may not be specifically exempted under the law, simply because, for the assessee – the beneficial owner of revenue, it is not practical to find out whether a receipt is on B2B, B2C or C2C account. The revenue thresholds suggested here are unlikely to apply to home consumers.

The Report on Action 1 also advocates having a revenue threshold in the possible options that are included therein to address tax challenges of digital economy. The committee is of the view that having a revenue threshold for taxing such transactions will prevent the hardship that may be faced by small taxpayers, and avoid the compliance burden as well.

The Committee considers that both these measures will optimize the compliance and administration burden related to this new tax, and thereby minimize its negative impact on the digital economy. The Committee also considers that both these objectives can be largely achieved by having a single criteria of a reasonable revenue threshold of Rupees one lakh per annum, where the equalization levy is to be deducted by the payer or the authorized foreign exchange dealers. The applicable threshold in case of Equalization Levy being collected by the payment gateways could be different and with reference to the payments made by that gateway to that taxpayer during the year.

Q : As per Committee view what should be the rate of  Equalization Levy ?

Rate of Equalization Levy

The basic objective of the Equalization Levy is to bring the tax burden on businesses that are able to avoid paying any taxes in India, at par with the tax burden likely to be faced by competing Indian businesses. Thus, the Committee was of the view that the rate of Equalization Levy needs to be fixed in a way that will lead to a tax incidence that is as close as possible, to the tax incidence that it might have faced had its income been taxable under the existing tax treaty rules. In a way this would make the Equalization Levy closer to the “deemed profit” taxation, except that unlike in a case of deemed profit taxation, there cannot be any rebuttal available, and the tax would be imposed irrespective of what the profits of the subject enterprise may actually have been. The Committee also notes that there is no single margin of profit that can be presumed universally in all businesses. Thus, the rate would need to be kept at a level where it does not lead to a tax burden that is prohibitively higher than that faced by its Indian competitors.

The Committee notes that Income-tax Act, 1961 imposes a tax rate of 10% for taxing royalty. The concessional rate of taxation for royalty and fee for technical services in the tax treaties entered into by India with other countries, which are also imposed on the gross payments, are also around 10-15% in most cases. However, the Committee also took note of the fact that unlike royalty, the marginal cost in many of the payments proposed to be subjected to Equalization Levy may not be close to zero, and unlike the tax treaties, there would not be any tax credits available to the taxpayer in its country of residence for the Equalization Levy paid in India.

Keeping these considerations in view, along with the fact that digital economy is in an evolving stage, and its growth has positive externalities for the Indian economy, the Committee is of the view that the rate of Equalization Levy may be set between 6% to 8% of the gross payment. Since, this is the first time such a levy is imposed, and the businesses may take time to fully adjust to it, a lower rate may be preferable at this stage. In any case, the Committee is of the view that the impact of Equalization Levy would need to be reviewed, and its rate can be revised upwards or downwards at a later stage, after reviewing and analyzing its likely impact on enterprises and economy.

Q How o ensure that Equalization Levy is not levied to transactions, where the resulting income is also taxed separately under the Income-tax Act, 1961 ?

Need to prevent double economic taxation

As the Equalization Levy is aimed at achieving greater tax neutrality by targeting those payments which lead to income that does not become taxable under the existing international taxation rules, it is important to ensure that Equalization Levy is not levied to transactions, where the resulting income is also taxed separately under the Income-tax Act, 1961. The Committee considered three possible options of achieving this objective.

The first option could be exempting income arising from specified transaction on which Equalization Levy has been paid.This provides ones of the simplest ways of avoiding double economic taxation, and also offers the advantage of providing a simple, certain and predictable solution to the challenge of characterization of income arising from digital transactions, which is often a matter of tax disputes. In this option, as the income becomes completely exempt, and if the rate of Equalization Levy is lower than 10%, there would be an inherent incentive for the taxpayer to pay Equalization Levy and avoid all consequences arising from taxation of income from that transaction. As the income from such a transaction would become exempt on payment of Equalization Levy, the compliance burden associated with income-tax obligations is also significantly obviated with this option.

The other two options that the Committee considered were providing a deduction from the total income, of an amount of income that has arisen from the payment on which Equalization Levy has been paid, and providing a tax rebate from the total tax liability of the taxpayer. However, both these options leaves the possibility of having a dispute between the taxpayer and the tax authorities, on what is the exact amount of income arising from the transaction covered, and thereby does not achieve the simplicity, certainty and predictability provided by the first option.

In view of these considerations, the Committee considers that the first option of exempting the income arising from a payment on which Equalization Levy has been paid, from income-tax under Section 10 of the Income-tax Act, 1961. This would be the most preferable way of avoiding double economic taxation on transactions subjected to Equalization Levy.

Q Who shall be responsible for paying the Equalization Levy to the Government ?

Payment and Reporting Obligations of the Beneficial Owner

The beneficial owner of the payment should be responsible for paying the Equalization Levy to the Government, and reporting the details of such transactions in a prescribed return annually. However, since the beneficial owner may be outside India, and not always within the ambit of enforcement by Indian laws and procedure, an appropriate mechanism of collection to ensure that the beneficial owner is not able to escape the Equalization Levy would need to be put in place. A similar mechanism in respect of income-tax exists in the form of tax deduction at source by the payer.

Q What should be the Compliance and Collection Mechanism for Equalization Levy ?

The BEPS Report on Action 1 (2015), while analyzing the various option for addressing broader challenges of digital economy considered two possible ways in which such taxes can be collected. The first is deduction of equalization levy by the payer making the payment, where the obligations of the payer would be largely similar to those of the person required to withhold income-tax. The other possible option could be to get the tax deducted by the payment gateways, such as banks, credit or debit cards, digital wallets etc. through which payments are made by consumer in India to an enterprise abroad.

A. Deduction by Payer

The option of getting the Equalization Levy deducted by the person making the payment for the specified transaction, has the advantage of simplicity, is workable and can be implemented straightway, without requiring any major changes in the regulations governing payments abroad. The negative side of this option is that it can place compliance burden on payers in India, and in some cases where the beneficial owner insists for receiving full payment irrespective of taxes, the payer may have to bear the tax burden as well.

The compliance burden on the payers in India can be significantly minimized by restricting the Equalization Levy to B2B transactions with a reasonable revenue threshold, as then the cases covered under Equalization Levy would be very restricted. There would be no compliance burden at all on consumers in India, and the revenue threshold will further ensure that there is no compliance burden on businesses in respect of occasional payments of smaller denominations. Another advantage of restricting the compliance burden to business payments is that the allowability of a business payment as deduction can be linked with the deduction of Equalization Levy by the payer, thereby creating a simple and reliable mechanism of compliance. As this mechanism of ensuring allowability of deduction is already in place in respect of withholding tax, and all businesses are fully well versed with it, it can be easily implemented and relied upon for ensuring compliance, without any major constraints.

In view of the above, the Committee is of the view that the obligation to deduct the Equalization Levy may be limited to businesses, by exempting payers who do not wish to claim the payment as either revenue expense or capitalized expense in a business the profits of which are taxable in India. The Committee is also of the view that linking the allowability of such payments as deduction for computing taxable profits under the Income-tax Act, 1961 can serve as a reliable mechanism for its compliance.

Q Whether it is mandatory for  the payer to apply for registration in case of  Equalization Levy ?

The Committee recognizes that one way in which the payer and the beneficial owner, particularly if they are associated enterprises, can avoid the payment of Equalization Levy, could be by giving a label to their payment that is somewhat different from the description of the payments covered under Equalization Levy, and claiming that the payment does not fall within the scope of payments on which Equalization Levy is imposed. It is also important to note that in the light of the decisions of the Hon’ble Supreme Court of India in the case of Transmission Corporation  (Transmission Corporation of A.P. Ltd. and Ors. v. CIT [1999] 239 ITR 587 (SC)) and GE Capital (GE India Technology Cen. P. Ltd vs CIT & Anr. on 9 September, 2010, in Civil Appeal Nos.7541-7542 of 2010)  it is not necessary for the payer to always seek a certificate for non-deduction of taxes. The ambiguity arising from nomenclature of payments can thus become a valid excuse for non-compliance by the payer. Thus, to plug this potential loophole that may facilitate non-compliance, and also lead to litigation, it would also be advisable to put in place a mechanism that ensures credible deterrence against it. Such a mechanism can be put in place by making use of the existing mechanisms that already exist in the Income-tax Act, 1961, in the form of Section 195 (7) of the Act that states as under:

“(7) Notwithstanding anything contained in sub-section (1) and sub-section (2), the Board may, by notification in the Official Gazette, specify a class of persons or cases, where the person responsible for paying to a non-resident, not being a company, or to a foreign company, any sum, whether or not chargeable under the provisions of this Act, shall make an application to the Assessing Officer to determine, by general or special order, the appropriate proportion of sum chargeable, and upon such determination, tax shall be deducted under sub-section (1) on that proportion of the sum which is so chargeable.”

The Committee suggests that the payments subjected to Equalization Levy may also be notified under this provision, along with an exemption provided in the notification itself to those cases where Equalization Levy is paid. This, in effect, means that cases on which Equalization Levy was payable but has not been paid, would be mandatorily required to seek a certificate under section 197, irrespective of whether they include any income that may be taxable in India. Thus, in effect, such notification would cast an additional obligation on those who have failed to comply with payment of Equalization Levy, to seek a certificate under section 197, thereby providing an inherent mechanism for getting such non-compliance reported to the tax authorities. In such cases, the proceedings for issue of a certificate under section 197 would be independent of the obligation of deducting Equalization Levy, but would open the possibility of such defaults coming to the notice by the Assessing Officer, and thereby strengthen the deterrence required for its compliance.

Q  Obligation to deduct Equalization Levy may not be welcomed by those having to bear it ?

The Committee recognizes that there is considerable uncertainty in respect of taxability of payments made for digital services and facilities, with differences of opinions between the taxpayers and the tax authorities leading to disputes in some instances. Such disputes, that also have their origin, to some extent, in the differences of positions taken by India and OECD countries in respect of scope of royalty and fee for technical services taxable in the source jurisdiction under the tax treaties, can escalate further and adversely affect all stakeholders, including the Government of India and large digital enterprises earning profits from India. This also creates uncertainties for Indian payers, who need to deduct income-tax on income of the beneficial owner that is chargeable in India. Although the obligation to deduct Equalization Levy may not be welcomed by those having to bear it, but the greater simplicity, certainty and predictability of Equalization Levy, along with a possible advantage of lower tax rate should more than offset this negative impact.

The Committee also recognizes that a likely criticism could be that due to asymmetrical bargaining powers between a small Indian consumer and a large multinational enterprise to which the payment is being made, the burden of tax may have to be borne by the Indian payer in many cases. The committee took into an account this argument and noted that this issue has already been dealt in sufficient detail by the Task Force on Digital Economy during the work on Action 1. Annexure E of the BEPS Report on Action 1 (2015) provides a comparative analysis of the economic incidence that is likely to result from the three possible options included in the Report, wherein, after detailed analysis, it was concluded that the economic burden of all the three options would be completely similar. In other words, the economic burden on Indian consumers or payers is likely to be the same, irrespective of whether the additional tax is to address broader tax challenges of digital economy is imposed in the form of tax on income by expanding the definition of Permanent Establishment, by means of a withhold tax on digital transactions or an Equalization Levy. In view of the fact that this analysis and these consequences have been uniformly accepted by the OECD and G20 Countries including India and also conform to the basic principles of economics, the committee is of the view that burden of Equalization Levy is unlikely to be different from other ways of imposing additional tax on hitherto non-taxable income of multinational digital enterprises in India. The Committee also observed that in a completely asymmetrical bargaining, even the burden of income-tax or any other tax may be shifted by a foreign supplier on the Indian payers, and in that way, the Equalization Levy is no different from any other tax. The Committee also noted that given the size and growth of Indian consumer market, it is highly unlikely that any major digital business would be in a position to ignore it, and a more likely outcome is that it would make necessary adjustments to maximize its participation in Indian markets.

Q: Can there be the option of  Deduction of Equalization Levy by the payment gateway ?

Deduction of Equalization Levy by the payment gateway

The Committee considered this option, which also finds mention in the BEPS Report on Action 1 (2015), for ensuring compliance with Equalization Levy. A very large volume of payments made for digital transactions are made through certain specific payment gateways, like Banks, Credit/ Debit cards, Digital/Electronic Wallets and new gateways like Paypal. These payments gateways that enable parties in India to make payments to parties outside India are covered by Foreign Exchange Management Act (FEMA), as well as the applicable rules and regulations of Reserve Bank of India. The Committee was of the view that it may be possible to amend such regulations and the relevant laws for imposing a liability on these payment gateways to deduct Equalization Levy on specified transactions made by Indian payers to entities oversees and deposit such tax with the Government. This mechanism of collection of the equalization levy, if feasible, can have a very significant advantage of low costs of compliance, particularly if and when the equalization levy is extended to business–to–consumer (B2C) transactions, which take place in very large volumes involving smaller denominators. Another major advantage with this mechanism of collection could be that it will obviate the compliance burden placed on Indian deductors. The automated collection can also reduce the other problems associated with the deduction of Equalization Levy by payers.

In view of these possible advantages, the Committee examined the feasibility of resorting to this mechanism, and also held discussions with authorities in the Reserve Bank of India. However, after examining the existing mechanisms, it has become apparent to the Committee that the existing systems, processes, laws, rules and regulations governing these payment gateways would need to be substantially modified for collecting Equalization Levy through this mechanism. The Committee also came to realize that since the payments that are likely to be the subject of Equalization Levy can also be made by way of credits in the books or adjusted in a manner that obviates the need for an actual payment, particularly in a B2B transaction. This suggests that while the collection through payment gateways may be a more preferable mechanism for collecting Equalization Levy in case of B2C transactions (as and when that becomes applicable), this mechanism would not be feasible for the B2B transactions that are intended to be covered at this stage.

Q Can there be the option of Deduction of Equalization Levy by the Authorized Foreign Exchange Dealer ?

The Committee also considered the possibility of getting the Equalization Levy deducted by the Authorized Foreign Exchange dealer, as many of the B2B transactions are likely to be routed through the Authorized Foreign Exchange Dealer. The Committee recognized that this is an important option that can obviate the obligations placed on the payers, but also noted that it will also require modifications in rule and regulations governing these dealers, and putting into place a mechanism for ensuring compliance by them. Further, such a mechanism would not work in case of credit of payments made by parties in their books of accounts without actual transactions. The Committee also noted that the existing mechanism for verification of nature of payments and in particular characterization of payments is not sufficiently robust for such a mechanism to operate, and necessary changes to ensure that Authorized foreign exchange dealers are able to deduct Equalization Levy in all cases will need to be put in place. The Committee considers that there is a need to explore this option and if found feasible, it may replace or supplement the obligation of the payer after putting the necessary mechanism for its implementation in place.

Q : What is the opinion of the Committee on  obligation of deducting the Equalization Levy ?

Keeping in view the limitation of the other options, the Committee prefers the compliance by placing the obligation of deducting the Equalization Levy on the payer, in a manner similar to the obligation that exists in case of withholding tax under Income-tax Act, 1961, with the following modifications:

-The obligation to deduct Equalization Levy may be limited to businesses, by exempting payers who do not wish to claim the payment as either revenue expense or capitalized expense in a business the profits of which are taxable in India.

– The allowability of the payment as an expense for determining the taxable profits under the Income-tax Act, 1961 may be linked with the payment of Equalization Levy, similar to the allowability under Section 40 of that Act.

– Payments subjected to Equalization Levy may also be notified under Section 195 (7) of the Income-tax Act, 1961, along with an exemption provided in the notification itself to those cases where Equalization Levy is paid, so as to strengthen the deterrent against non-compliance.

However, the Committee also recognizes the potential of collecting Equalization Levy through the payment gateways and authorized foreign exchange dealers. The Committee considers that deduction of Equalization Levy by them with proper systems in place can reduce the compliance costs and thereby improve compliance. The Committee is of the view that with increasing scope of digital services that may be covered by Equalization Levy in future, a three pronged approach for compliance, consisting of deduction by authorized foreign exchange dealers in B2B payments, deduction by payment gateways in B2C payments, and deduction by payers in other cases, like payment by credit in books of accounts could provide a way forward for seamless compliance with minimum costs of compliance and administration. Thus, the Committee strongly recommends that work on developing the necessary rules and regulations as well as the systematic requirements for implementation of a mechanism that will enable collection of Equalization Levy through payment gateways and authorized foreign exchange dealers may also be initiated at the earliest.

Q : What should be the  Reporting and Auditing Mechanism for Deductors of Equalization Levy payments ?

The Committee recognizes the need to put in place a mechanism for auditing and reporting such compliance. The Committee is of the view that a certificate of the Auditor that Equalization Levy has been deducted and paid on all payments as per law would go a long way in ensuring proper compliance. The mechanism for reporting compliance is required to be put in place, but should be simple and consist of an online form which can be filled and submitted online. However, the Committee also recognizes the need to ensure that smaller businesses are not burdened with costs that may create a hardship for them. Accordingly, the Committee is of the view that a person who is not required to maintain books of accounts under any law in India, should be exempted from the obligation of filing a return on deduction of Equalization Levy. Similarly, a person, who is not required to get its accounts audited under any law in India, should be exempted from the obligation of obtaining a certificate of the Auditor. The Committee is also of the view that harmonizing the reporting obligations in respect of Equalization Levy with the existing obligations in respect of withholding tax could be a possible way for avoiding duplication, and can be considered as a means for further reducing the costs of compliance. After takin into account the existing forms for Auditor’s Certification, the Committee is of the view that modification of Form 3CD can be a convenient option for obtaining Auditor’s Report on deduction of Equalization Levy .Alternatively a form can be prescribed for this purpose.

Q How to minimize the compliance and administration costs of Equalization Levy ?

Efficient Risk Assessment Tools to obviate Random Scrutiny

The Committee noted that in order to minimize the compliance and administration costs, there would be a need for efficient risk assessment tools. As the scope of Equalization Levy is proposed to be restricted to B2B transactions at this stage, and many of payment made may also be subject to Service Tax as well as likely to be claimed as Reverse Charge therein, the reconciliation of Equalization Levy database and Reverse Charge claims in Service Tax may provide a useful risk assessment tool for this purpose. The Committee strongly recommends the use of similar non-intrusive tools that would provide highly efficient risk assessment and obviate the need for scrutiny in the administration of Equalization Levy.

Q Can the Govt modify the list of services covered under

Equalization Levy ?

Monitoring of Impact and Possible Expansion in Future

The Committee is of the view that there would be a need to monitor the impact of Equalization Levy on a regular basis, particularly as the digital services that can be provided and availed without physical presence continue to evolve and expand in India. There could be a need to modify the list of services covered under it, and find better ways of compliance that will enable a seamless collection of Equalization Levy, reduce the compliance burden on payers. With better mechanisms of collection, it may be possible in future to collect this levy on B2C payments too, without burdening the consumers with its collection and compliance.

Q What could be the Possible Grounds of Criticism of Equalization Levy & Explanations of the Committee ?

Possible Grounds of Criticism of Equalization Levy & Explanations of the Committee

The Committee notes that following criticisms may arise in respect of this proposal, and attempts to provide explanation in respect of them.

The greatest disadvantage and source of criticism of Equalization Levy is that it is an additional tax over and above all other taxes that are already in place, and that such additional tax burden may further affect ease of doing business in India.

The Equalization Levy is an additional tax only on foreign enterprises escaping tax in India due to the existing limitations in the existing international taxation rules, and does not affect other Indian or foreign enterprises that are already having a permanent establishment in India and getting taxed on their business profits in India. Further, the aim and objective of Equalization Levy is to ensure that unfair tax advantage to multinational enterprises is minimized, thereby improving the competitiveness of businesses in India (including foreign businesses having a taxable presence in India). The lower rate of 6% Equalization Levy and corresponding exemption from income-tax for payments that are very often a source of tax dispute and tax litigation, actually amounts to lowering the tax rate on such payments. Lastly, by bringing greater clarity in tax obligations in respect of digital businesses, particularly in respect of characterization disputes and consequent taxability of income (e.g. disputes related to characterization of payments as royalty/FTS), the Equalization Levy will stabilize the tax environment in India, and facilitate businesses in India.

The tax burden of Equalization Levy is likely to fall on the Indian businesses having to deduct it, and would therefore only be detrimental to them

This burden is not different from the burden of withholding tax under the Income-tax Act, 1961 and relevant tax treaties, and by having a rate lower than that applicable for withholding tax on royalty & fee for technical services, it actually reduces the burden both in terms of actual tax payable, as well as in terms of greater certainty and predictability. The burden is likely to be restricted in India due to the revenue threshold and since deduction is not required to be made in respect of a payment either to an Indian entity, or to a foreign entity having a permanent establishment in India, or if the payment being made is not part of business expenses. The incidence is intended to fall primarily on the payment being made by the Indian subsidiaries to their associated enterprises outside India, and payments made by Indian businesses to an entity outside India of an amount more than the threshold that are claimed as deductible business expenditure in India, without leading to any corresponding taxable income in India in the hands of the beneficial owner. By having a clear and undisputable tax liability, the payer in India would be in a better situation to assess the tax impact and negotiate with the foreign beneficial owner. Lastly, even in cases where the economic burden of tax deducted falls on the Indian payer, the lower rate of 6 to 8% in respect of those payments that are potentially taxable as royalty or fee for technical services, would provide significant relief to them, and therefore should be seen as a relief and not additional burden.

The imposition of such a levy may be a violation of international tax practices

The Equalization Levy is identified by the G-20 and OECD as a possible option that countries can adopt in their domestic laws. The Conclusions of the BEPS Report on Action 1 clearly state that. Thus the imposition of Equalization Levy under domestic laws is completely in accordance with the consensus view accepted by the G-20 and OECD.

Why should India impose such a levy when it is not imposed by any other country

India is not the only country to have imposed a tax to address the concerns arising from the ability of digital multi-national enterprises to avoid paying taxes in the jurisdiction from where they are earning their income. UK has imposed a “Diverted Profit Tax” from 1.4.2015 to address these concerns. Australia has imposed a “Multinational Anti Avoidance Law” from 1.1.2016, Italy is reported to be considering a new “Digital Tax” consisting of 25% withholding tax on payments. Some countries, like Brazil already impose withholding tax on such payments. These instances, along with the fact that the G-20 and OECD countries now agree on the rights of every country to impose any of the actions identified in the BEPS Report on Action 1, is a clear indication that countries across the World are thinking about it. Compared to the taxes being imposed in other countries, the Equalization Levy proposed by the Committee is completely in accordance with the international consensus and suggestions.

 There will be no foreign tax credit available to the taxpayer in lieu of Equalization Levy, which would amount to double taxation of their income. If it is to imposed, it should be under the tax treaties so that there is no double taxation.

This is acceptably an inherent limitation of Equalization Levy or any other option that may be imposed under domestic laws, not covered by the tax treaties. However, it must be noted that there is nothing to prevent the country of which the taxpayer is residence from granting relief to the taxpayer, under its own domestic laws, to avoid such double taxation. In case such a country also imposes an Equalization Levy, there can even be the possibility of a reciprocal agreement between India and that country to provide relief from income-tax on account of such levy. Further, it is always open for a taxpayer being subjected to have a permanent establishment in India, and thereby get exemption from Equalization Levy completely. Thus, the Equalization Levy serves to create incentives for digital multinational enterprises to establish permanent establishment in India and get taxed only on its net income attributable in India, while creating disincentives against artificial arrangements to avoid paying taxes on income arising from India by exploiting the systemic weaknesses in the existing international taxation rules. The double taxation arising from Equalization Levy should be viewed from this perspective. Lastly, even for a taxpayer that has to bear such double taxation, partial relief may still be available in the form of deduction of the Equalization Levy from its taxable income as a business expense.

The Equalization Levy may adversely affect the competitiveness of Indian digital enterprises

As it is levied only on foreign enterprises not having a taxable presence in India, the Equalization Levy improves the competitiveness of digital enterprises in India, including foreign enterprises having a permanent establishment in India, by reducing the tax disadvantage that they currently face in comparison with their foreign competitors. The existing tax advantage enjoyed by foreign enterprises over their Indian counterparts creates strong incentives for Indian enterprises to locate outside India, and thereby poses a strong challenge for the growth and expansion of Indian digital industry. The Equalization Levy aims at neutralizing this disincentive, and facilitating an environment, where Indian digital enterprises can compete with their foreign competitors without having to locate outside India.

Q What is the conclusion of the committee regarding  Equalization Levy ?

Conclusions

Digital Economy has now become a significant segment of economy around the world, including India. The ability of enterprises to conduct their business on a non-occasional basis, and have significant participation in the economic life of a jurisdiction, without having a physical presence there, gives rise to significant tax policy challenges in terms of nexus, characterization and valuation of user data and contributions. Challenges also exist in respect of valuation of user data and contributions, that are relied upon by enterprises for earning profits from a jurisdiction and which need to be taken into account for determining taxable nexus and attribution of profits to the jurisdiction.

The asymmetry in tax burden between Indian and multi-national enterprises is likely to have a distortionary impact on the market competition and can adversely affect the development of Indian digital enterprise industry, apart from creating strong incentives for Indian enterprises to either locate themselves outside India or sell their businesses to foreign enterprises. The asymmetry in tax burden also adversely affects the competitiveness of traditional brick and mortar businesses in India (including permanent establishments of foreign companies in India). The resultant adverse impact on the profitability of enterprises paying taxes in India can lead to significant detrimental impact on the fiscal health of Indian economy and consequently, on its growth.

The limitations of physical presence based threshold for taxing income from business, which was conceptualized long before the development of digital economy is now widely recognized and accepted by international community. It is also recognized and accepted that significant tax challenges arise from the difficulties in applying the existing international taxation rules, as they exist in tax treaties today, in respect of digital economy. Physical presence cannot be considered an appropriate test for determining taxable presence in respect of business models in digital economy.

There is considerable ambiguity regarding the characterization of income arising from transactions involving telecommunication networks, software and data exchange. These disputes on characterization of payments are more commonly observed in countries like India, that have tax treaties wherein taxing rights are allocated to the source jurisdiction in respect of royalty and fee for technical services. Many of these disputes arise from the insistence of taxpayers to apply the guidance developed by OECD, even though India has documented its disagreements with such guidance, and its position in tax treaties precede the development of that guidance.

In view of the challenges faced by India in terms of characterization of income, and the lack of universal consensus on adopting the new nexus based significant economic presence, as well as the likely difficulties faced in attributing profits under existing rules, there appears to be a strong case for finding a solution to all these issues, in the form of a simple, clear and predictable tax rule that unambiguously defines the tax liability of digital enterprises, reduces their tax risk and contingent liabilities, and minimizes compliance costs, disputes and administrative burden.

In view of the role and contribution made by the users by way of data, content creation and networking benefits, users need to be considered as a significant indicator of both nexus and creation of value in the jurisdiction of source. However, quantifying such value creation can be a challenging task, and therefore a simple tax rule that broadly covers such value or a significant part of it, may be preferable.

Recent works of experts on the tax challenges in digital economy represent the global recognition of the extent of the tax challenges of digital economy.

The BEPS Report on Action 1 (2015), which has been endorsed by the G-20 and OECD provides a broad international consensus on the tax challenges arising from digital economy and identifies the options to address them. The Report did not recommend any of the options at this stage, primarily since adopting them “would require substantial changes to key international tax standards and would require further work”, but by concluding that “Countries could, however, introduce any of the options in their domestic laws as additional safeguards against BEPS, provided they respect existing treaty obligations, or in their bilateral tax treaties”, an international consensus has now emerged among G-20 and OECD countries, which recognizes and accepts the right of a country to adopt any of the options identified in the Report on BEPS Action 1, in its domestic laws or in its bilateral tax treaties.

In view of the differences between the preferences of different countries, it may take a long time for the international community to arrive at a recommendation that is likely to be adopted uniformly by all countries in a way that will completely harmonize international taxation on digital economy. Thus, a practical and pragmatic solution to address these challenges would need to be adopted in the domestic law by any country wanting to address these challenges.

Among the options recognized and examined by the Task Force, the option of “a new nexus based on significant economic presence” can be adopted in the Income-tax Act, 1961, but will not be sufficient for taxing income on the basis of this new nexus, unless any applicable tax treaty is also amended by inserting such nexus. Similarly, the adoption of a “final (or intermittent) withholding tax on digital transactions” in the Income-tax Act, 1961, may also be rendered ineffective unless the same option is also included in the applicable tax treaty. The Committee also notes that India is committed to the obligations made by it under the tax treaties, which largely limit the application and effectiveness of adopting these options in the Income-tax Act, 1961. These limitations, however, do not limit the adoption or application of the third option, i.e. ‘Equalization Levy’ unless it is levied on ‘income’ that may fall within the scope of taxes covered under the tax treaties. The Committee also notes that this option is put forth in the BEPS Report on Action 1 as one that can be considered as an alternative to the other two, and is a simpler option devoid of the difficulties that are associated with the more intractable issue of attribution of profits.

Thus, among the three options that can be adopted under domestic laws, the ‘Equalization Levy’ is the most feasible option. Such a levy cannot, however, be imposed on income and would need to be imposed on the transacted amount or payment itself.

While the BEPS Report on Action 1 suggests further work on tax challenges arising from digital economy, no clear framework for undertaking this work has been determined and even if any further work is undertaken, it is not clear as to whether any actionable outcomes from such work can be anticipated in foreseeable future, particularly in view of the likely resistance to such work from countries that benefit from existing rules. Thus, there does not appear to be any justification for postponing measures for addressing tax challenges in digital economy.

BEPS Report on Action 1 clearly differentiates the “BEPS Issues in digital economy” that consist of artificial arrangements to avoid paying taxes, from the “broader tax challenges from digital economy” that primarily relate to the non-applicability of a physical presence based tax nexus on digital businesses, characterization of income and valuation of user data and contribution. While certain recommendations like those in Action 6 for preventing treaty abuse, or those in Action 7 for preventing artificial avoidance of PE Status may have some impact on the “BEPS issues in digital economy”, there is virtually nothing in the outputs or outcomes of any of the other Action Points of BEPS Project that can address the broader tax challenges.

In view of the Committee, there is a need to consider the feasibility of adopting the ‘Equalization Levy’ under domestic laws of India to address the tax challenges arising from the digital economy at this stage. The Committee is also of the view that adopting such a measure at this stage will bring greater certainty and predictability to all the stakeholders, enable them to take it into account while making their future business plans and pricing of products, and thereby contribute to a more stable environment that would exit in the absence of such a measure.

Compared to the option of including Equalization Levy in a tax treaty, the option of imposing the same under the domestic law appears to have significant advantages in terms of providing simplicity, uniformity and consistency as well as minimizing the costs of administration and compliance, and is therefore, a preferred option.

Past precedence exist for imposition of similar taxes on transactions, like the Security Transaction Tax (STT) and the Service Tax. In view of these precedents, and the need to keep the ‘Equalization Levy’ separate from the taxes on income, this Committee is of the view that the ‘Equalization Levy’ on payments for digital goods and services should be imposed through statutory provisions in the Finance Act.

Equalization levy on gross amounts of transactions or payments made for digital services appears to be in accordance with the entries at Serial Number 92C and 97 of the First List in the Seventh Schedule of the Constitution of India. The existing precedent in the form of the Service Tax appears to remove any ambiguities and doubts in this regard. Thus this committee is of the view that Equalization Levy as a tax on gross amounts of transactions, imposed by the Union through a statute made by the Parliament, would satisfy the test of constitutional validity.

The Equalization Levy should be limited to the payments made for intangible services, including payments for use or right to use any intangible, access a digital, telecommunication or similar network, or avail any service or other benefit received from a foreign company or a person outside India, provided the services are either received, utilized, provided or performed in India, and thus have a nexus with India, irrespective of whether the payment is made by a resident or a non-resident person. Thus, the payment made by the permanent establishment of a foreign company in India to its headquarters outside India would be covered if it otherwise falls within the scope of Equalization Levy. To the extent possible, the categories of payments that would be subjected to Equalization Levy should be listed clearly.

To prevent and avoid the possibility of double economic taxation from levy of both Equalization Levy and Income-tax, relief would need to be provided from income-tax in respect of payments on which Equalization Levy is already paid. Such relief can be provided in three possible ways – by exempting income arising from transactions on which Equalization Levy has already been paid; by providing deduction from total income; or by providing tax rebate. Among these, the exemption of income appears to be the simplest option with least unintended consequences, and hence may be preferable

The scope of such Equalization Levy may be restricted by keeping out smaller transactions where the compliance and administrative costs would not be commensurate with the revenue collected. Thus having a revenue threshold (such as Rs. one lakh) for a single transaction, as well as a revenue threshold for the total sum paid in a year (such as Rs. ten lakh) would be preferable. Such thresholds should practically exempt all payments made by consumers for personal consumption, and would thereby ensure that no Equalization Levy is payable on B2C transactions.

The compliance of Equalization Levy can be ensured largely by getting it deducted by the payer. This obligation should only be restricted to business-to-business payments, where the amount paid is claimed as a business expense (including capitalized expense) for determining taxable profits of that business. A certificate of an auditor that Equalization Levy has been deducted and paid to Government in cases where it was chargeable, and filing of a simple annual return online should be sufficient compliance with this obligation.

The beneficial owner of the Equalization Levy should be required to pay the Equalization Levy chargeable on sums received by it, to the Government. Thus, if it has received a sum on which Equalization Levy is chargeable, and not deducted by the payer, it would be liable to pay the same to the Government. However, if Equalization Levy has already been deducted on payments made to it, no further amount would be payable by it to the Government. The reporting obligations of the beneficial owner can be minimized by providing the facility of a simple online return on annual basis, subject to a minimum threshold of receipts, like, Rs. 10 crores in the year.

Q : what are the  Recommendations of the Committee regarding Equalization Levy ?

Recommendations of the Committee

A. Equalization Levy may be imposed on payments to non-residents for specified services by a separate chapter in the Finance Act, 2016

In accordance with the conclusions of the BEPS Report on Action 1, which have been endorsed by G-20 and OECD, it is recommended that an “Equalization Levy” may be imposed on digital transactions, by introducing the necessary statutory provisions by a separate chapter in the Finance Act, 2016. This will not be a part of the Income-tax.

The Equalization Levy should be chargeable on any sum that is received by a non resident from a resident in India or a permanent establishment in India as a consideration for the specified digital services.

The rate of Equalization Levy may be between 6 to 8 percent of the gross sum received

Specified services may be defined as following:

(i) online advertising or any services, rights or use of software for online advertising, including advertising on radio & television;

(ii) digital advertising space

(iii) designing, creating, hosting or maintenance of website

(iv) digital space for website, advertising, e-mails, online computing, blogs, online content, online data or any other online facility

(v) any provision, facility or service for uploading, storing or distribution of digital content

(vi) online collection or processing of data related to online users in India

(vii) any facility or service for online sale of goods or services or collecting online payments

(viii) development or maintenance of participative online networks

(ix) use or right to use or download online music, online movies, online games, online books or online software, without a right to make and distribute any copies thereof

(x) online news, online search, online maps or global positioning system applications

(xi) online software applications accessed or downloaded through internet or telecommunication networks

(xii) online software computing facility of any kind for any purpose

(xiii) reimbursement of expenses of a nature that are included in any of the above

It may be clearly explained in the provision that for the purposes of the above, ‘online’ means a facility or service or right or benefit or access that is obtained through the internet or any other form of digital or telecommunication network including radio & television, whether analog or digital.

It may also be clearly explained that Equalization Levy would be payable if the sum received is a consideration for any of the above, irrespective of how it may be described in the books of the beneficial owner or the payer

Equalization Levy should not be charged unless the consideration received for specified services in a year from a person in India is more than one lakh rupees.

Equalization Levy should also not be charged on payments received by a permanent establishment of a non-resident in India, which are attributable to that permanent establishment and taxable under Income-tax Act, 1961. A written declaration by the beneficial owner in a prescribed form including Indian PAN and a Tax Identity Number in country of residence for this purpose should be sufficient.

Every person that has received any sum chargeable to Equalization Levy, would be required to pay the Equalization Levy chargeable on that sum to the central government. The Equalization Levy payable by that person will be the Equalization Levy payable on the sum chargeable to Equalization Levy as reduced by the Equalization Levy deducted by the payers from such sum at the time of payment or credit of such sum.

Every person that has received any sum chargeable to Equalization Levy, would be required to file a return of Sum chargeable to Equalization Levy as prescribed, if such total sum received by that person in a year exceeds ten crore rupees. Necessary facility for filing of such return online in a simple form should be made available. The details sought in the form should include the name and address of the payer, amount and date of payment of each payment of sum that is received by that person and the amount of Equalization Levy deducted by the payer on it.

The payer should be liable to deduct the Equalization Levy, if the payment is incurred for the purpose of a business in India and likely to be claimed as an expenditure (including capitalized expenses). This obligation should be similar to the obligation that exists in respect of Tax deducted at source under Income-tax Act, 1961.

The payer should also be required to get a certificate from an Auditor, within 60 days after the end of the year, that Equalization Levy has been deducted from all sums chargeable to it, and paid to the Central Government within 30 days of such deduction. The payer should also be required to file an annual return of deduction of Equalization Levy, in a simple form including the name and address of the payer, amount and date of payment of each such payment, the amount of Equalization Levy deducted on it and the details of payment of such deducted amount to the Government.

B. Corresponding Changes in the Income-tax Act, 1961

Any income arising from a transaction on which Equalization Levy has been paid should be exempted from income-tax, by necessary amendment in Section 10 of the Income-tax Act, 1961

The allowability of the payment as an expense for determining the taxable profits under the Income-tax Act, 1961 may be linked with the payment of Equalization Levy, similar to the allowability under Section 40 of that Act, including the allowance of such deduction in the year in which it is paid.

Payments subjected to Equalization Levy may also be notified under Section 195 (7) of the Income-tax Act, 1961, along with an exemption provided in the notification itself to those cases where Equalization Levy is paid, so as to strengthen the deterrent against noncompliance.

Other Recommendations

The definition of “business connection” in section 9 of the Income-tax Act, 1961 may be expanded to include the concept of significant economic presence

Work on exploring the possibility of deduction of Equalization Levy by the payment gateways should be initiated immediately, and should include a review of rules and regulations as well as the systematic requirements for implementation of such a mechanism, which may substitute or complement the deduction of Equalization Levy by the payer.

The implementation and impact of Equalization Levy may be monitored on a regular basis, particularly as the digital services that can be provided and availed without physical presence, continue to evolve and expand in India. A Standing Committee may be constituted for this purpose.

 

Appendix -1

A Summary of the Proposed Equalization Levy

Charged on

Consideration received by a non-resident for specified services, from a resident in India or a permanent establishment in India Provided that Equalization Levy shall not be charged unless

– the consideration received from a person for specified services in a year is more than Rs. 1 lakh

Rate

At a rate that is between 6 to 8 % of the gross amount of consideration for specified transactions

Payable by

The beneficial owner of the consideration for specified transactions

Specified Services

(i) online advertising or any services, rights or use of software for online advertising, including advertising on radio & television;

(ii) digital advertising space

(iii) designing, creating, hosting or maintenance of website

(iv) digital space for website, advertising, e-mails, online computing, blogs, online content, online data or any other online facility

(v) any provision, facility or service for uploading, storing or distribution of digital content

(vi) online collection or processing of data related to online users in India

(vii) any facility or service for online sale of goods or services or collecting online payments

(viii) development or maintenance of participative online networks

(ix) use or right to use or download online music, online movies, online games, online books or online software, without a right to make and distribute any copies thereof

(x) online news, online search, online maps or global positioning system applications

(xi) online software applications accessed or downloaded through internet or telecommunication networks (xii) online software computing facility of any kind for any purpose

(xiii) reimbursement of expenses of a nature that are included in any of the above

(For the purposes of above, ‘online’ means a facility or service or right or benefit or access that is obtained through the internet or any other form of digital or telecommunication network.)

(Equalization Levy would be payable if the sum received is a consideration for any of the above, irrespective of how it may be described in the books of the beneficial owner or the payer)

Exemptions

Equalization Levy would not be chargeable if the beneficial owner of the consideration for specified transactions

– has a permanent establishment in India, and

– the consideration forms a business receipt of that permanent establishment, and

– the income derived from the sum is attributable to such permanent establishment in India, and taxable under the provisions of the Income-tax Act, 1961, and

– the beneficiary makes a declaration in writing in the prescribed form to this effect

Mode of Payment

The beneficial owner shall pay the Equalization Levy to the Government on the total Equalization Levy payable by that person, as reduced by any Equalization Levy that is already deducted by payers.

Mode of Reporting

Compliance The beneficial owner shall file an online annual return of receipts for specified services, if such receipts exceed ten crore rupees. There will no such obligation if such receipts from India do not exceed ten crore rupees.

Obligation of Deduction at Source by Payer

Any person paying or crediting a sum on which Equalization Levy is chargeable shall deduct the Equalization Levy at the applicable rate from that sum if such payment is made for the purpose of a business in India

(A PE in India making a payment to the Headquarters or to any other non-resident on which Equalization Levy is chargeable shall also deduct the Equalization Levy at the applicable rate from that sum)

Mode of Reporting Compliance of Deduction

The deductor shall file an online annual Return of Deduction of Equalization Levy

Provided that a person who is not required to maintain its books of accounts under any law in India shall not be required to file such return

The deductor shall obtain a certificate of the Auditor in the prescribed form to the effect that Equalization Levy has been correctly deducted on payments

Provided that a person who is not required to get its books of accounts audited under any law in India shall not be required to obtain such a certificate

Whether the payment chargeable to Equalization Levy would include indirect taxes/levies paid in India

The Committee recommends that Equalization Levy should be chargeable on the amount received by beneficial owner excluding any indirect taxes/levies paid in India.

Corresponding Changes in Income-tax Act, 1961

Exemption of Income from a specified transaction on which Equalization Levy has been paid

Any income arising from a transaction on which Equalization Levy has been paid should be exempted from income-tax, by necessary amendment in Section 10 of the Income-tax Act, 1961

Payment for specified transactions on which Equalization Levy is chargeable not to be allowed as expenses if Equalization Levy has not been deducted

The allowability of the payment as an expense for determining the taxable profits under the Income-tax Act, 1961 may be linked with the payment of Equalization Levy, similar to the allowability under Section 40of that Act, including the allowance of such deduction in the year in which it is paid.

Non Statutory Measures

Notifications on specified transactions under section 195 (7)

Payments subjected to Equalization Levy may also be notified under Section 195 (7) of the Income-tax Act, 1961, along with an exemption provided in the notification itself to those cases where Equalization Levy is paid, so as to strengthen the deterrent against non-compliance

 

 

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