Whatsapp deal and taxation in India

Why the govt's stance on retro tax could impact the Whatsapp-Facebook deal

The much awaited budget has come and gone. The controversy with respect to retrospective amendment remains where it was. The government has officially stated that it will allow all the retro tax triggered litigation to traverse its natural course. Further, a committee is to be formed to look into all new cases which may arise on account of a fresh invocation of the retro tax clause. So there is no point in discussing this issue any further.

The Vodafone judgement of the Supreme Court prompted the government to amend certain provisions of the Income Tax Act, 1961 whereby sale of shares of any company, taking place anywhere in the world will be taxed in India if the underlying assets which contribute to the value of the shares are situated in India.  This seems to be absolutely logical. However, recently I came across an interesting proposed application of this provision.  

I had just finished my lecture when one of the participants wanted to know whether the Whatsapp sale to Facebook could be taxed in India. Without even allowing the question to settle in my mind I replied IMPOSSIBLE.  But the question kept haunting me. At the end of the day I called the gentleman and asked him to explain the rationale behind his question. He replied as follows:

As per the amendment carried out post Vodafone judgement, the sale of shares will be taxed in India if the underlying assets are in India. In the case of the Whatsapp-Facebook transaction, the intangible assets were the basis of valuation and a large part of this is the brand and the user database. According to back-of-the-hand calculations, India would have around 10% of the users of Whatsapp, so  proportionate share of the gains should be taxed in India.

This analysis seemed ridiculous at first but made sense as I started analyzing. In the new age economy where the biggest valuation gains are derived not from brick and mortar assets but from intangibles the analysis raises serious questions. In majority of such transactions, the intangibles are not accounted for in the books and hence tracking the physical location of the assets becomes impossible. The Whatsapp deal is no different from the Vodafone deal for the Indian Taxmen. In the case of Vodafone the valuations were driven by the huge customer base in India and so is the case in Whatsapp (may be a small proportion). The only difference being the location of physical assets. In this day and age, tax policy needs to focus on income earning assets and not on mere physical assets. As the time will progress, more and more such (Whatsapp-type) deals will happen. It is time the tax policy of the emerging nations gets alert to this and frames clear cut regulations which will govern the taxation of such transactions. The idea is not to tax but to take a conscious decision and frame a clear cut policy for such deals. This will be another step in providing certainty to the taxpayer.

Hope the Finance Minister is listening.