Will Budget 2021 slow down the digital tsunami?

The govt has been responsive to the needs and asks of industry and keenly focused on Ease of Doing Business. We hope that answers to some of the ambiguities find their way into the upcoming budget

The Indian government introduced provisions for Equalisation Levy (EL 1.0) on digital advertising and related services in 2016. This levy was extended to a wide variety of digital activities through the Finance Act, 2020 (EL 2.0). EL 1.0 was introduced based on the work of the Organisation for Economic Cooperation and Development (OECD) under the Base Erosion and Profit Shifting Project under Action Plan 1 on Digital Economy. While the Action Plan 1 did not give any specific recommendations, it discussed a few alternative approaches, one of them being an Equalisation Levy-type provision, which India adopted.  

Subsequently, OECD itself decided that more work was needed to evolve a consensus approach to address the challenges of the Digital Economy and set up the Inclusive Framework. The Inclusive Framework has since made recommendations referred to as Pillar 1 proposals which provide an approach by which digital businesses could be taxed. However, the proposals are still under discussion and a complete unity is yet to emerge among all countries. India and the US, two key stakeholders, are also not fully aligned to the current proposals.

Meanwhile, an international consensus has remained elusive, even as many countries have legislated unilateral measures similar to EL to tax digital companies. Developed countries like the UK, France, Australia, Spain, Austria, etc, and many developing countries like Indonesia, Turkey, Malaysia, Chile, etc, have proposed or already implemented such levies. EL2.0 was introduced by India in the wake of these developments. Ideally, countries should wait for an international consensus, which can avoid risks of double taxation that can be detrimental for the digital ecosystem. However, the counter from countries is that such a wait cannot be inordinate, and that the unilateral measures would be withdrawn once such a consensus emerges. While there is no official line from India on this, it is expected that if an international consensus emerges, India would reconsider EL 1.0 and EL 2.0.

Another key development relevant with regard to the future of EL 2.0 is the US Trade Representative (‘USTR’) investigation under Section 301 of the Trade Act of 1974. According to the relevant law, USTR is empowered to investigate actions by countries which can cause harm or is prejudicial to the US interests and propose retaliatory measures. Such an investigation has been launched by the USTR against DST from almost all countries, including EL 2.0 by India. The investigations against France started earlier in 2019. After concluding that the French law was discriminatory and prejudicial to US interests, as a counter measure, it proposed tariffs on various French products. France agreed to defer its DST and the matter is now in a stalemate. The USTR report on the EL 2.0 was released earlier this month. India has strongly objected to the findings and maintained that the levy is equitable and does not particularly discriminate against any US companies. The next step usually is for the USTR to propose measures, like in the French case. However, the course of action may also be impacted by the new administration in Washington and in case the Inclusive Framework discussions progress further.

Where does that leave digital companies that are doing business in the Indian market? EL 2.0 has been on the statute for almost a year. The compliance with the same has been gradually increasing. However, it could be much higher if many of the ambiguities in the law could be addressed. The upcoming Budget is a good opportunity for the government to provide some guidance.

• The scope of EL 2.0 is not entirely consistent with the above developments which all along have been focused on the digital economy. The existing language seems wide and could cover a range of business models including brick-and-mortar companies if they do any activities such as intra group services or sale of their goods online and bring them into the ambit of EL 2.0.  
• The date of effect of EL 2.0 was April 1, 2020. However, the government did realise that some of the existing provisions on taxation of royalties, fees for technical services, etc, could create a dual taxation, and hence provided an exemption from such taxes for income which is subject to EL 2.0. However, such exemptions kick in from April 1, 2021, thereby creating a risk of double taxation for Financial Year 2020-21.  
• The law levies 2 per cent of the amount of consideration received or receivable by e-commerce operators, without defining the term ‘consideration’. This has created ambiguity as to what would be the amount of consideration that needs to be taken for marketplaces. It is unclear whether EL 2.0 should be paid on the net commission which is their own income or whether on the entire consideration collected on behalf of sellers.
• Another issues that arise on account of the lack of definition of ‘consideration’ is the treatment of discounts, sales returns, bad debts, etc. These are genuine business situations in which the income of digital providers is reduced and hence it should be clarified that such situations will reduce the base liable to EL.
• EL 2.0 provisions bring into its ambit revenues of non-Indian digital companies from specified revenues earned from other non-Indian customers, if an Indian IP address is used or is in relation to Indian data. Monitoring of such Indian touchpoints are administratively onerous and may not even yield enough revenues to justify the onerous task.

The government has been very responsive to the needs and asks of industry and keenly focused on the Ease of Doing Business in India. We hope that answers to some of the above ambiguities find their way into the upcoming Budget.  The government could also consider providing a clear road map on this levy as the OECD works towards creating a consensus, to provide certainty to taxpayers that this is only an interim measure. Finally, with India increasingly playing a regional and a global role on many matters, it could play an active role on moving beyond the current impasse and helping reach a consensus on this critical area.

The author is partner (tax & regulatory), PwC India