What is Digital Tax in India?

With more than half a billion internet users today, India has come a long way from the modest beginning of internet adoption in 1995 to become one of the biggest and fastest expanding global user markets.

The Covid-19 epidemic has pushed organisations to shift job models from conventional to modern. The challenges from a regulatory and tax perspective have only increased with market models emerging due to mass digital transformation. The emergence and availability of technology allowed companies with limited commanding existence to carry on business-as-usual.

Evidently, with over 650 million active internet users, India has the second-largest online user base in the entire world. Thus, from the perspective of its tax revenue collection, digital companies should not be ignored. Nevertheless, as is the case in other countries, Indian tax laws were suitable for traditional business structures such as physical storefront models and were thus in desperate need of reform.

Latest Modifications:

To guarantee that digitally produced value is taxed correctly, two major reforms have been made in Indian tax laws in the recent past.

Since 2016, the' Equalisation Levy'-a tax targeted at international digital firms has been in effect and imposed a 6 per cent tax payable on gross sales from online advertisement services, which in the fiscal year 2017-2018 raked over Rs. 550 crores.

• Effective as of 1 April 2020, the latest amendment effectively extends the equalisation levy from internet ads to virtually all online trading practises. They are carried out in India by firms that do not have a taxable presence in India by adding 2% of their sales to almost all online trade activities.

• In particular, it is imposed on consideration receivable by the e-commerce provider for the supply or services or facilitation of supply or service to an individual resident in India. A non-resident under unique circumstances such as the selling of data obtained from an individual resident in India and a person who purchases goods or services through an IP address located in India.

India has adopted, in extension to the equalisation levy, the Significant Economic Presence (SEP) definition for corporate income tax return purposes, which has been modified to include the following:

• Advertising targeting a consumer residing in India or accessing advertisements located in India via an Internet Protocol (IP) address.

• Sale of data obtained by an individual living in India or using an IP address in India.

• Selling of goods and services utilising data obtained from or using an IP address spread across India by a person residing in India.

One of the most organised attempts to tax digital business models is the Substantial Economic Presence test, combined with the Equalisation Levy. The policy is consistent with the 2015 BEPS Action 1 Report of the Organisation for Economic Co-operation and Growth (OECD) to bring internet giants such as Facebook, Google, Amazon, Netflix, etc. into the sphere of local taxation.

India's Implications:

• The corrections have gotten a rush of positive ramifications for India. Organisations without an actual presence in India, yet having an online or digital presence that were previously avoided in the tax assessment structure, have now been introduced under local duty laws’ bounds. At the start, organisations without an actual presence in India yet procuring incomes from Indian crowd will not have the option to sidestep tax collection by moving their workplaces to tax asylums.
• In addition, digital taxes offer both domestic and foreign businesses a level playing field that would otherwise have gained an unfair competitive edge over small to medium-sized firms and startups. By 2026, the e-commerce sector is projected to rise to $200 billion and having a reasonable share of the pie would significantly raise revenues for the Indian government.
• The imposition of digital taxes, on the other hand, will strain trade ties with countries, especially the USA, which is a home ground for most digital giants, such as Google, Netflix, Amazon, to name a few. This taxation system is expected to have a negative effect on start-ups during their preliminary phases of development and expansion. Higher taxes are likely to slow growth, and corporations are more likely to pass on some of this tax to end-users and/or vendors.

The Issue for the USA:

For example, the obligation to tax web-based organisations, such as Amazon, Netflix and Google, emerges when they get digital income from nations where they don't have an enormous market presence, alluded to as lasting establishments in tax parlance. These are trendy enterprises that can run in another nation utilising virtual networks.

The need to tax the profits generated by such corporations in a specific jurisdiction has been felt by countries worldwide. Countries around the world have felt the need to tax the profits generated by such corporations in a specific jurisdiction. Under the aegis of the Organisation for International Cooperation and Development (OECD), talks started in 2018 to formalise a process for whether and how to tax profits received by such businesses in a region where they do not have a physical or substantive presence.

But the sudden US decision to withdraw from the talks, affecting 137 countries and threats of retaliatory measures against automated tax collectors have reached the deadline of 2020. It causes immense confusion for India, as the nation has already been at the forefront of embracing the notion of international digital firms being taxed. Now it is subject to a US-initiated investigation.

What are those other countries doing?

There is no international consensus at present on the taxation of digital business models. Yet punitive initiatives have been adopted by foreign countries to address the digital tax crisis. France recently negotiated a 3% digital tax (DST) on revenues raised by global technology giants such as Google, Apple, Facebook and Amazon, known as the GAFA tax under the Digital Service Tax Act, in its territories.

Similarly, Italy has imposed a 3% DST on technology firms earning income from digital content and set a minimum revenue generation threshold of just EUR 5,500,000 for Italy. By imposing digital taxes on technology giants, Australia, Malaysia, and Uganda are all following suit.

Enforcement and the burden of administration:

Today, when corporations worldwide suffer from the crippled economic climate due to the pandemic, Equalisation Levy (EL) - 2020, without any guidelines, applies a layer of extra compliance.

Foreign companies can be structured in the form of a variety of business organisations, any or all of which may be subject to EL-2020, with the need to receive tax registers in India and file applications. A community representative definition for DST compliance has been provided by some European countries, making it easier to register.

Therefore, foreign firms are now expected to have adequate networks and processes to cope with technical problems to decide whether their customers' IP addresses are stored in India.

Bottom Line:

The advent of digital taxation reforms at a time when world economies are scrambling for revenue, followed by a dramatic shift in job habits from the conventional brick-and-mortar format to remote working methods, seems to be a step in the right direction in order to focus on people's shifting working and shopping patterns and eventually ramp up revenue collections.

The Indian economy could produce more than $1 trillion from the digital sector by 2025, according to a study by the Ministry of Electronics and Information Technology in collaboration with McKinsey. India is keeping up with the global growth of the digital economy by sufficiently taxing technology giants in this wave of the digital boom.

However, in order to reap the full benefits of this situation, in collaboration with international forums such as the OECD, India needs to eliminate some of the cobwebs around its digital taxation.

In the upcoming Budget 2021, the Indian government can narrow down the reach of EL-2020 in line with global developments so that companies can take decisions more freely and with greater certainty. The government must ensure that such an interim solution would not scare away the nation's investor sentiment.