Significant Economic Presence Rules
The concept of Significant Economic Presence (“SEP”) was introduced by Finance Act 2018 by amplifying the Scope of Business connection in India with the pursuit of bringing income of non-resident operating in the online/digital space within the ambit of India-sourced income. Business connection shall be established if it has SEP in India and income as is attributable on account of SEP a shall be taxable in India. Unlike the Permanent Establishment concept, SEP looks to tax enterprises based on factors other than physical presence in the country. Now, SEP is defined to mean::
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.
Further, note that it shall remain unaffected whether or not agreements for such transactions are entered in India or the non-resident has a residence or place of business in India or the non-resident renders services in India.
Recently, Income Tax Department vide notification dated 3rd May 2021 notified Income-tax (13th Amendment Rules) Rules, 2021 on threshold for Significant Economic Presence. In accordance with the same, the amount of aggregate of payments arising from transactions carried out by a non-resident with any person in India pertaining to any goods, services, property, provision of download of data or software in India during the previous year shall be Rs. 2 Crores to trigger SEP. Another consideration to trigger SEP is the number of users with whom systematic and continuous business activities are solicited or who are engaged in interaction and limit prescribed for the same is 3 lakhs. Such rules shall come into effect retrospectively i.e. from April 1, 2021.
It is noteworthy to mention that the Organization for Economic Co-operation and Development (OECD) is being deliberating on the issue and yet to reach consensus on taxation on digital economy. The consensus-based solution to be delivered by OECD in the expected OECD Report shall have effect to automatically amend the treaties. However, Indian authorities notified the thresholds for SEP even before the OECD reaching consensus on this issue and it is envisaged that rationale behind notifying such thresholds is to get their fair share of tax from business-to-consumer transactions. Indian Tax Authorities aims to tax profits of those online and offline businesses that don't have an actual presence in India, however, get huge financial worth from India.
Further, it is observed that the thresholds to trigger SEP are announced quite low which can have a considerable impact on Multi-national enterprises (MNEs). However, such MNC can seek protection under Double Taxation Avoidance Agreement(“Treaty”) as treaties still encompass conventional concept of PE based on physical presence in India until the treaties are negotiated and amended to incorporate such changes. On the other side, it is pertinent to highlight that jurisdiction that doesn’t have treaties with India would be hardly hit by the SEP provision. Even, the early startups of such jurisdictions would have to bear the heat of above-mentioned provisions owing to the fact of minimal thresholds and consequently end up paying more taxes in India.