On March 29, 2018, India published the Finance Act 2018 in the official gazette, thereby becoming one of the first countries to expand its permanent establishment (PE) rules to include activities of non-residents that do not give rise to a physical presence in India. The foregoing measures will apply from April 1, 2019.
Editor’s Note: India proposed the unilateral digital PE rules before the OECD issued its 2018 Interim Report on March 16, 2018, “Tax Challenges Arising from Digitalisation.” The Interim Report is a consensus-based document, which the OECD presented during the G20 meeting in Argentina on March 19-20, 2018. According to the Interim Report, countries in favor of introducing interim measures understand that the measures should be (1) compliant with a country’s international obligations; (2) temporary; and (3) targeted; and minimize (1) over-taxation; (2) impact on start-ups, business creation, and small businesses; and (3) minimize cost and complexity.
Clause 4 of Finance Act 2018 also implements the OECD BEPS Action 7 recommendations on tax treatment of dependent agents.
Clause 53 of Finance Act 2018 amends India’s country-by-country (CbC) reporting rules.
Each measure is discussed below.
Digital Presence Measures (BEPS Action 1)
Clause 4 of Finance Act 2018 introduces rules to tax business profits under a digital economy model. The rules did not change from the 2018-19 Union Budget proposals in Finance Bill 2018, issued on February 1, 2018.
The scope of Section 9(1)(i) of India’s Income Tax Act, 1961 (ITA) provides for a nexus rule based on physical presence to tax a non-resident’s business income in India. Explanation 2 of Section 9(1)(i) limits the taxability of certain activities or transactions of a non-resident to those carried out through a dependent agent. Therefore, newer business models, such as digital businesses, which do not require physical presence or any agent in India, are not covered under Section 9(1)(i).
As a result, Clause 4 of Finance Act 2018 amends Section 9(1)(i) to provide that significant economic presence in India also constitutes a business connection. “Significant economic presence” will mean either of the following:
- Any transaction in respect of any goods, services, or property carried out by a non-resident in India, including downloading data or software in India, if the aggregate payments arising from such transaction(s) during the previous year exceed a specific threshold.
- Systematic and continuous soliciting of its business activities or engaging with a certain number of users in India through digital means.
The foregoing transactions or activities will constitute significant economic presence in India, regardless of whether the non-resident has a residence or place of business in India, or renders services in India.
The amendment in the ITA will allow India to negotiate for inclusion of the new nexus rule of “significant economic presence” in its income tax treaties. However, unless modifications to PE rules are made in the treaties, the cross-border business profits will continue to be taxed according to existing treaty rules.
The amendment will take effect from April 1, 2019, and will apply to assessment year 2019-20 and subsequent assessment years.
Dependent Agents (BEPS Action 7)
As with the significant economic presence measures, the measures in Clause 4 of Finance Act 2018 on India’s tax treatment of dependent agents did not change from those in Finance Bill 2018.
Under Section 9(1)(i) of the ITA, all income accruing or arising, directly or indirectly, through or from any business connection in India will be deemed to accrue or arise in India. Explanation 2 under Section 9(1)(i) says that a business connection includes any business activity carried out through a person who, acting on behalf of the non-resident, does one of the following:
- Has and habitually exercises in India an authority to conclude contracts on behalf of the non-resident, unless his activities are limited to the purchase of goods or merchandise for the non-resident.
- Has no such authority, but habitually maintains in India a stock of goods or merchandise from which he regularly delivers on behalf of the non-resident.
- Habitually secures orders in India, mainly or wholly for the non-resident.
The scope of “business connection” under the ITA is similar to the provisions relating to a dependent agent PE in India’s income tax treaties. In terms of the dependent agent PE rules in tax treaties, if any person acting on behalf of the non-resident is habitually authorized to conclude contracts for the non-resident, this agent would constitute a PE in the source country. However, in many cases, with a view to avoiding the establishment of a PE under Article 5(5) of the tax treaty, the person acting on the behalf of the non-resident negotiates but does not conclude the contract.
The BEPS Action 7 recommendations are included in Article 12 of the OECD’s multilateral instrument to implement the tax treaty-related parts of the BEPS project under Action 15 (MLI), to which India is a signatory. Clause 4 of the Finance Act 2018 modifies India’s tax treaties covered by the MLI when India’s treaty partners have also opted for Article 12.
Finance Act 2018 amends Section 9 of the ITA to align it with the provisions in the tax treaties, as modified by the MLI. Therefore, “business connection” under Section 9(1)(i) will include any business activities carried out through a person who, acting on behalf of the non-resident, habitually concludes contracts or habitually plays the principal role leading to the conclusion of contracts by the non-resident. Also, the activities will have to be (1) in the name of the non-resident; (2) for the transfer of the ownership of, or for the granting of the right to use, property owned by that non-resident or that the non-resident has the right to use; or (3) for the provision of services by that non-resident.
The amendments will take effect from April 1, 2019, and will apply to assessment year 2019-20 and subsequent assessment years.
CbC Reporting Amendments (BEPS Action 13)
The CbC reporting amendments in Clause 53 of Finance Act 2018 did change slightly from those in Finance Bill 2018.
Section 286 of the ITA contains provisions relating to a multinational group’s CbC report. Clause 53 of Finance Act 2018 contains the following amendments:
- The deadline to submit the CbC report, in the case of parent entity or alternative reporting entity (ARE), resident in India, is extended to 12 months from the end of the reporting accounting year. The deadline to submit the CbC report by the ARE (that has a foreign parent entity) with its resident tax authority will be the due date specified by that country or territory.
- An Indian-resident constituent entity with a foreign parent will have to submit the CbC report if the foreign parent entity has no obligation to file the report in its country or territory. The deadline to submit the CbC report will be a date set by the Central Board of Direct Taxation (CBDT). Previously, such constituent entities did not have CbC report filing requirements in India.
- Indian-resident constituent entities the foreign parents of which reside in a jurisdiction with which India does not have an agreement for the exchange of CbC reports will receive an extension for filing their CbC reports in India.
The amendments entered into force retroactively from April 1, 2017, and apply to the assessment year 2017-18 and subsequent years.
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