Owing to the advent of digitalization, India adopted the concept of 'Significant Economic Presence' (SEP) through the Finance Act, 2018. It expanded the scope of income for a non-resident doing business with India. The provisions expand the scope of 'business connection' {similar to Permanent Establishment (PE)} for non-resident, which may result in higher tax liability and compliances for non-residents. The tax rate applicable would be 40% (plus applicable surcharge and cess). A SEP is defined to include:
- Transaction in respect of any goods, services or property carried out by a non-resident in India, including the provision of download of data or software in India, subject to payment threshold to be prescribed; or
- Systematic and continuous soliciting of business activities or engaging in interaction with such number of users as may be prescribed in India through digital means.
Furthermore, SEP can be triggered irrespective of whether the agreement for transaction or activity has been entered in India, whether the non-resident has a residence or place of business in India, whether the non-resident renders services in India. However, only income attributable to operations in India or transactions in India would be taxable.
It is pertinent to note that even though SEP provisions were notified three years ago, the same remained inoperative in the absence of the thresholds and extension of applicability. SEP provision was deferred on the grounds that a multilateral solution under the OECD is being considered where all tax treaties will get amended automatically. However, as the OECD countries are yet to reach a consensus on taxation of the digital economy, India has notified the 'prescribed threshold' and made the provisions governing SEP functional from the financial year 2021-22 onwards. The below thresholds have been prescribed:
- Transaction Threshold: Any non-resident whose revenue exceeds INR 20 million for transactions in respect of goods, services or property with any person in India. This will include transactions on the download of data or software.
- User Threshold: Any entity that systematically and continuously solicits business activities or engages with users in India, the threshold prescribed is 0.30 million users in India.
Our Comments
It is imperative to note that the threshold has been kept quite low and it may bring many non-residents under the ambit of SEP. However, SEP provisions would have a limited impact on foreign MNEs as non-resident are still eligible to get treaty protection owing to the restrictive definition of permanent establishment (PE) for taxing business profits of a non-resident.
However, non-residents from non-treaty jurisdictions may have a huge impact as the limits are very small. Similarly, Indian companies would also have to more vigilant while applying withholding tax in light of these provisions. SEP provisions provide that revenue attributable to India would be liable to tax in India. Indian Companies making payments would not be able to determine the revenue attributable to India, so they may have to apply 40% (plus applicable surcharge and cess) on the gross payments or ask the non-resident to get a lower withholding tax order from the tax department. Similarly, in a case where Indian companies are granting exemption under the Indian Income-tax Act (even for Treaty Countries) would have to check the applicability of SEP.
These provisions are applicable from 1 April 2021, so in a sense, the same can be said to be retrospective. Companies would have to check payments made during April 2021 to see if these provisions would have an impact.
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