Why additional cost to digital businesses will impact the India startup story

Why additional cost to digital businesses will impact the India startup story
Kazim Rizvi
19 May, 2020

Just before the entire nation went into a complete lockdown on March 24 as a part of its fight against the global pandemic, the parliament approved certain amendments to the provisions of the Finance Bill, 2020. A slew of these amendments affected the digital taxation framework and specifically ecommerce operators. This included extending TDS obligations on ecommerce operators to all platform owners, extension of the lower withholding rate applicable on ‘fees for technical services’ to that of royalty payments as well and the expansion of the scope of the equalization levy.

Among these changes, that came into effect from April 1, 2020, the expansion of the scope of the equalization levy has been the source for criticism from the industry. 

The equalization levy was first introduced as a part of the Finance Act of 2016, wherein a tax was imposed on digital companies collecting revenue from India for online advertising and allied services. It was calculated at a rate of 6% on considerations (above Rs 1,00,000) for ‘specified services’ received by non-residents from Indian residents or non-residents that have a permanent establishment in India. 

However, it’s implementation led to this tax being more of a hindrance to businesses, both local and international.

To add to the woes of the digital sector and startups, the government with its move to expand the equalisation levy, has now extended its application to include cross border ecommerce within its ambit.

According to the latest amendment, ‘any e-commerce operator’ is liable to pay a tax at the rate of 2% on the amount of consideration received by them from ‘e-commerce supply or services’ made, provided or facilitated to both residents and non-residents. The government would be able to impose a new tax on foreign billings or transactions where companies are taking payment abroad for the digital services provided in India. It also applies to ecommerce transactions for online marketplaces.

The short time-frame provided for companies to comply with these expansive measures, especially in times of international duress due to Covid-19, as companies are struggling to cope with dynamic shifts, has proven to be a major concern for the economy.

The inbuilt ambiguity in the drafting of said provision is also proving to be a hurdle for implementation. 

Presently, the definition of ecommerce operators, as per the Finance Act, is significantly wide and covers a range of digital service providers such as banking companies, payment processing/facilitation companies, telecom, etc. However, in normal parlance an ecommerce platform is usually comprehended as a marketplace where goods are purchased from sellers via an intermediary. By providing such wide ambit to the term under this provision, the applicability is expanded to include all those sales where merely orders are placed online, whereas other elements of the sale such as price negotiation and enquiry take place offline. 

This is problematic for a host of stakeholders, as a host of additional brick-and-mortar businesses are now forced to bear the burden of the tax, contrary to its original intentions.

Additionally, now companies that are involved in the business of digital advertising as well as ecommerce have to face the double whammy of the equalisation levy. The definition fails to take into account the overlapping nature of businesses of many companies. Entities which are providing a platform for advertisement, as well as taking part in ecommerce transactions, might have to pay a levy of 6% under section 165 as well as 2% under section 165A of the Act. 

Even though the exclusions are provided in the amended provisions, it is once again ambiguous with respect to whether the companies paying taxes under the original section are completely excluded or are excluded for only those products for which digital advertisements have been shown.  

Another implementation hazard that has come to light is the extremely low thresholds (at Rs 2 crore for sales, turnover or gross receipts of the ecommerce operator) notified for companies that are required to pay equalisation levies. Such a threshold is too low and is expected to affect a large number of small businesses and place additional burdens on them, which might be passed on to Indian consumers in the form of increased prices. 

In fact at this juncture, in light of business suffering owing to the Covid-19 outbreak, startups and small businesses might succumb to the burden of added costs given that their businesses are already suffering from Covid-19.

The pushback received against the levy is not limited only to industry bodies in India, that have expressed their concerns regarding the levy to the government via representations. Many international groups have also expressed their displeasure regarding the same to the government. In light of ongoing deliberations regarding development of a multilateral framework  for the taxation of digital companies by the Organization for Economic Cooperation and Development (OECD), such unilateral measures by the government have the potential to impact trade relations of India. 

India is a critical market for investors globally and such measures are likely to invite countermeasures or set a bad precedent for future investments in India. 

In addition to these concerns, this tax also adds to a list of difficulties faced by companies doing businesses in India and hamper’s India’s goals of improving its standing on the global ease of doing business index.

Due to the lack of public consultations held by the government while drafting changes to the existing policy on the equalisation levy, stakeholders were not presented with an opportunity to place such concerns before the government before the law was implemented. 

In light of the variety of hurdles in implementation and the possible geopolitical impact of such a move, it is advisable that the government defer the implementation of the expanded provisions. An extensive and thorough consultation process, coupled with a legal and economic analysis of such a move by a special committee of experts, is necessary before such a policy is revisited.

Kazim Rizvi

Kazim Rizvi

Kazim Rizvi is founding director of emerging public policy think-tank, The Dialogue. The views in this article are his own.