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Profits from digital business: India against OECD formula for taxation

Sumit Jha

India's share of tax from multinational digital companies like Google and Facebook, among others, would be substantially lower than the current mop-up under equalisation levy if the taxation formula suggested in the OECD consultative paper is applied. The OECD formula seeks to distribute 'residual profit' among jurisdictions where taxability is established.

The government collected about Rs. 900 crore in equalisation levy for FY19.

India and other developing countries want that the entire profit of these companies should be in play for taxation. The portion of total profit liable for taxation in a given territory should be proportional to the sales made by the firm within the jurisdiction, an official said.

But the consultative paper released by OECD said that the ‘residual profit’ should be apportioned among countries. This deemed residual profit would be the profit that remains after allocating what would be regarded as a deemed routine profit on activities to the countries where the activities are performed, the paper said.

"The distribution of residual profit was suggested by the US and has been presented in the consultative paper but this formula would yield little in terms of taxes to countries like India. It would be substantially less than what we have collected under equalisation levy in last fiscal year," a senior income tax official said.

However, sources said that India’s suggestion-which were part of the G24 contribution to the exercise-will have to be considered before a final taxation framework is published by the end of next year. "No proposal on how to tax digital firms that earn revenue from jurisdictions, where they don’t have a permanent establishment in the conventional sense, can be finalised without India’s approval," the official said. He added that India's position was that profit distribution formula should be arrived at afresh and not be relied on transfer pricing methodology.

"OECD approach is bottom up where a portion of profit would be distributed among territories after deducting the routine profit. But the Indian view is that it should be top-down and the amount liable for taxation should be proportional to sales," said Amit Agarwal, director at Nangia Andersen Consulting. He said that routine profit for digital firms could be calculated through transfer pricing method.

The government, however, agrees with the nexus rule, or tax presence, for digital companies as defined in the consultative paper. The paper said that the new nexus would not be dependent on physical presence but largely based on sales. The new nexus could have thresholds including country specific sales thresholds calibrated to ensure that jurisdictions with smaller economies can also benefit.

"India's position is that the profits should be distributed into various locations on the basis of revenues as it would be fair as well as simple to operate and physical presence should matter little. However, OECD's approach to distribute the profits of digital businesses first into 'routine' profits and then allocating the 'residual' profits would be complex and would accrue little tax revenues to jurisdiction other than their home countries," said Amit Maheshwari, partner, Ashok Maheshwary & Associates.

In the absence of global consensus on taxing digital companies transact business in a country without necessarily having any physical presence, the government in 2016 implemented an interim tax called equalisation levy to tax advertisement revenue.

A business entity advertising on Google or Facebook worth over Rs. 1 lakh in a year is required to withhold a 6% tax on the amount.