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Equalization Levy: A Step Into Uncharted Territories

Equalization levy will be charged at the rate of 6 per cent of the amount of consideration for 'specified services' received by a non-resident not having a permanent establishment in India

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At present, revenues from online advertisements earned by non-resident companies are not subject to income tax in India, primarily for the reason that their online presence (through websites) does not qualify as permanent establishment in India. In case of online advertisements, owing to challenges in establishing a nexus between the transaction and a taxing jurisdiction, tax could not be levied. Given this challenge, the Organization for Economic Cooperation and Development (OECD) has recognised and recommended in its Base Erosion and Profit Shifting (BEPS) project under Action Plan 1, several options to tackle such tax challenges arising in the digital economy. One such option contemplated, though not recommended, under Action Plan 1, is the imposition of an Equalization levy in cases of online transactions. It is in line with this Action Plan, that the Indian Union Budget 2016-17 has proposed to introduce the Equalization levy on online advertisements.

Contours of the equalization levy in India

Equalization levy will be charged from a date to be notified by the Central Government. It will levied at the rate of 6% of the amount of consideration for "specified services" received by a non- resident not having a permanent establishment in India, from a resident in India who carries out business or profession, or from a non-resident having a permanent establishment in India. For this, "Specified Services" is defined to include:


a) Online advertisement;
b) Digital advertisement;
c) Any other facility or service for the purpose of online advertisement;
d) Any other services as may be notified by the Central Government.

Such income on which Equalization Levy is chargeable would be exempt in the hands of the non-resident in India under the Income-tax Act, 1961 ("IT Act"). However, the ability of the non-resident to take a tax credit for such levy in its own country would need to be examined.

Online advertising involves a number of players, including web publishers, who agree to integrate advertisements into their online content in exchange for compensation, advertisers, who produce advertisements to be displayed in the web publisher's content and advertising network intermediaries, who connect web publishers with advertisers seeking to reach an online audience. Advertising network intermediaries include a range of players, including search engines, media companies, and technology vendors. All such players appear to be in the net of this new levy.

While the scope presently focuses on online advertisements in particular, several other e-commerce transactions are not yet within the purview of the levy (including other varieties of e-commerce, app stores, cloud computing, participative networked platforms, high speed training, and online payment services); the Central Government has the power and may notify services which will be subjected to this levy.

The levy is proposed to be collected in a manner similar to a withholding tax, wherein the Indian resident will deduct this levy while paying for services of online advertisement to the non-resident. Further, the Indian resident will be required to comply with procedural requirements, including deposit of tax to the credit of the Central Government, and filing of periodic statements. In case of default, the Indian resident will also be liable to pay interest and penalties. Significantly, failure to deduct and/or deposit this levy, will result in disallowance of the expenditure and hence the Indian resident must be vigilant of such transactions.

Another interesting facet is that the levy is introduced not as a part of the Income-tax Act, 1961 (IT Act) but in terms of Chapter VIII of the Finance Bill, 2016; although certain provisions of the IT Act have been made applicable to this Chapter VIII, for purposes administrative besides assessment and collection.

Noteworthy in this context is the law declared by the Supreme Court to the effect that the Indian Legislature has the powers to enact on extra-territorial aspects, if these have some impact on the territory of India or the interests, welfare, well-being or security of inhabitants of India.

Commercial impact?

At first blush this levy seems to bring in "equalization" since transactions with domestic e-commerce players who may provide online advertisements and are liable to Indian Income tax in India are not liable to this new levy.

On the other hand, there is a possibility that the levy might adversely impact smaller vendors and start-ups in India who advertise on giant multinationals like Google, Amazon, Facebook etc. The non-resident service providers may require the Indian service provider to bear the burden of the levy. Though, the present levy is not applicable in case the aggregate consideration received from the Indian resident in a year is below Rs 100,000 (approximately $1,500) - this threshold seems to be set quite low and brings within the ambit of the levy, a large number of the transactions.

Other levies - service tax

Online advertisement services provided by non residents are already subject matter of Service tax under the reverse charge mechanism, i.e. tax is payable by the Indian service recipient. With the introduction of Krishi Kalyan Cess @ 0.5% with effect from 1st June, 2016 (proposed the Union Budget, 2016-17), the rate of Service tax will be hiked from 14.5% to 15%. Such service tax is eligible for set off against output service tax liability of the service recipient.

Clearly, the cost of doing business in Digital India will increase with this levy.

Conclusion

The new levy has made various players sit up and take notice, especially since this is India's first step to tax digital economy, and one of the first few internationally. The Central Government, in notifying other "specified services" which will suffer the levy in future, as well as the rules for implementing the levy, will now be closely watched and monitored.

(Disclaimer: This article has been authored by Ranjeet Mahtani, who is an Associate Partner and Stella Joseph, who is an Associate Manager at Economic Laws Practice (ELP), Advocates & Solicitors. The information provided in the article is intended for informational purposes only and does not constitute legal opinion or advice. Readers are requested to seek formal legal advice prior to acting upon any of the information provided herein)

Disclaimer: The views expressed in the article above are those of the authors' and do not necessarily represent or reflect the views of this publishing house. Unless otherwise noted, the author is writing in his/her personal capacity. They are not intended and should not be thought to represent official ideas, attitudes, or policies of any agency or institution.


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taxation income tax direct taxes corporate tax

Ranjeet Mahtani

Ranjeet Mahtani is an associate partner in the tax practice of Economic Laws Practice (ELP), focusing on indirect taxes. He specialises in indirect taxes including central excise, customs, sales tax/ VAT and service tax as also the foreign trade policy

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