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Alerts:

Direct Tax Alert - India-USA agree on a transitional approach on Equalisation levy

26 November 2021

Background

Given the increasingly larger share of digital business in most globally integrated economies, addressing the tax challenges was critical for many countries.  As a result, countries started introducing unilateral measures such as Digital Service Tax (DST). India, being the frontrunner, had introduced Equalisation Levy (EL) in 2016 to tax certain digital transactions. In 2020, it enlarged the scope of EL to include additional transactions. The US Revenue Authorities had raised objection to the enlarged EL scope.

Taking cognisance of challenges in taxing the digital economy, in 2015 the OECD initiated the work on taxation of digital economy. Over these years, it released many consultation papers to arrive at a consensus based Two Pillar Solution. Recently, on 8 October 2021, the OECD announced that 136 countries have reached agreement on a sweeping overhaul of the international tax system that will impose a 15% minimum tax rate on MNEs and reallocate more than USD 125bn of profits from approximately 100 of the world’s largest and most profitable MNEs to countries worldwide. Please click here to read our detailed alert on the OECD proposals.  While the statement has introduced Pillar 1 and Pillar 2 for allocation of taxing rights, it also provides that all the unilateral measures (i.e., Digital Services Taxes) currently in place be rolled back and that no new digital tax shall be implement post 8 October 2021 through the earlier of 31 December 2023 or the coming into force of the Multilateral Convention.

Pursuant to this statement, recently, India issued a Press Release1 that it has agreed with the USA on the transitional approach on Equalisation Levy during the interim period before Pillar One Rules come into effect.

We, at BDO in India, have analysed and summarised both these Press Releases hereunder:

  • India and the USA have agreed that the terms mentioned in the Joint Statement issued by the USA, Austria, France, the UK, Italy, and Spain (‘21 October Statement’) shall also apply with respect to India’s charge of Equalisation levy on e-commerce supply of services.
  • The Interim Period that will be applicable with respect to India-USA will be from 1 April 2022 till the implementation of Pillar One or 31 March 2024, whichever is earlier.
  • India and the USA will remain in close contact to ensure that there is a common understanding of the respective commitments and endeavour to resolve any further differences of views on this matter through constructive dialogue.
  • The final terms of the Agreement between India and the USA shall be finalised by 1 February 2022.

BDO Comments

In the year 2020, the USA had conducted an investigation and was of the opinion that DST and other relevant measures adopted by various countries were discriminatory against USA’s digital companies and were inconsistent with principles of international taxation. Considering this ongoing dispute and the uncertainty revolving around the taxability of DST and relevant measures, the Press Release referencing the Joint Statement is an important development. It will put to rest the trade dispute of USA with these countries and help in bringing tax certainty to some extent. While the exact modalities of how this will be implemented by India needs to be worked it has given reference to the Joint Statement dated 21 October 2021 of the USA, Austria, France, the UK, Italy, and Spain. Hence, this statement could give some guidance on the modalities that could be applied for India.

As per this Joint Statement, Austria, Italy, France, Spain, and the UK are not required to withdraw the Unilateral Measures they have enacted until Pillar One takes effect. However, to the extent taxes under these existing Unilateral Measures that accrue during the interim period exceed an amount equivalent to the tax due under Pillar One Amount A in the first full year of implementation (adjusted proportionally with the length of interim period), such excess will be creditable against the income tax liability under Pillar One in these countries. The credit is to be applied in the first year that Multi-National Enterprise (MNE) is subject to Amount A tax liability arising under Pillar One. If the credit exceeds the liability arising under Pillar One in a taxable year, the excess will be carried forward for use in subsequent years until the credit is fully utilized against Pillar One liability. However, the credit will not be available for an MNE that first becomes subject to Pillar One more than four years after it comes into effect in the particular country. In return, as part of the Unilateral Measures Compromise, the USA agrees to terminate proposed trade actions and commit not to impose further trade actions against Austria, Italy, France, Spain, and the UK with respect to their DST until the end of the Interim Period.

However, few uncertainties may still remain. For instance, the Joint statement of 24 November 2021 only considers 2% Equalisation levy on e-commerce supply of services. It does not mention about 6% Equalisation levy on online advertisement revenue. It is pertinent to note that the OECD in its document have stated that all the unilateral measures need to be rolled back. Further, the Joint Statement of 21 October 2021 states credit will not be available for an MNE that first becomes subject to Pillar One more than four years after it comes into effect in the particular country. Thus, MNEs not within the scope of Pillar One may not receive relief for DST liability accrued during the interim period.

The Press Release indicates that an agreement between India and USA shall be finalised on 1 February 2022 and accordingly we can expect a few India-specific modifications in the final agreement. With the Union Budget 2022 scheduled on 1 February 2022, some amendments may be made by the Budget to give effect to this Press Release.


1 Press Release ID 1774692 dated 24 November 2021