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Expert Speak Details


S. R. Patnaik, Partner Cyril Amarchand Mangaldas, New Delhi
Reema Arya Pathania, Consultant Cyril Amarchand Mangaldas, New Delhi



With the advent of globalisation and increasing market presence of Indian middle-class, the presence of MNCs in developing countries viz India have become a norm rather than an exception. The mode of operation of MNCs is typically through the constitution of a regional headquarters to enable better management of the group companies globally. Thus, in most cases, administrative and support services are rendered by intra-group companies which are compensated by the recipient entities, resulting in flow of consideration across jurisdictions.

Further, MNCs also try to exploit beneficial domestic tax provisions and loopholes in the relevant Double Taxation Avoidance Agreements (DTAA) to ensure the most economic tax outgo.

As per the conventional international tax rules, where an enterprise is a resident in one state with income originating in another state (source country), the source country will have the taxing rights over such income only if the enterprise has a permanent establishment (PE) in such source state. Even developed economies who had traditionally argued for residence based taxation, have started looking at source based taxation to increase their share of the taxes since many enterprises from developing countries have become exporters of technology and capital.

With the advancement of technology, particularly the digital economy, it has become possible to undertake business operations in a country with minimal physical presence in the form of a PE in that country e.g. via cloud computing, app stores, etc. The tax challenges that have arisen as a consequence of these developments have rendered the existing tax rules inadequate. Consequently, tax authorities have started to force-fit the existing tax rules, designed for a non-digital world, aiming to increase their revenue share, resulting in asymmetry, double taxation and excessive profit allocation.


Recent changes in the international taxation arena

Global tax rules for digital transactions are in evolution, with ideas being debated upon. One of the significant ideas has been Base Erosion and Profit Shifting (BEPS). Technically, BEPS has been initiated by the G-20 countries to "identify tax avoidance strategies of MNCs that exploit gaps and mismatches in tax rules to artificially shift profits to low/ no-tax locations".

BEPS Action Plan 1 has tried to identify the main difficulties that digital economy poses for application of existing international tax rules and provides options to address them.

It is pertinent to note that India was one of the earliest countries to tax digital economy through Equalization Levy since 2016.

Based on recommendation of BEPS Action Plan 7, the definition of PE in DTAAs is proposed to be revised while India has also made similar changes in its domestic tax regulations in 2018.


Important rulings

In this environment, there has been a spate of tax rulings in the year 2018 that have managed to create significant concerns in the minds of taxpayers, especially for MNCs operating in India. Some significant tax rulings and their impact have been discussed below:


(a) Bangalore ITAT judgment in the case of Google India[1]

Google India was appointed as a non-exclusive authorised distributor of advertisement space (Adwords program) in India by Google Ireland, for further resale to Indian advertisers ‐ in the nature of marketing and distribution rights. Google India was also engaged in providing information technology (IT) and information technology enabled services (ITES) to its group companies. Google India was remunerated on cost-plus mark-up basis for all services i.e. distribution services, IT services and ITES. Google India repatriated distribution fee to Google Ireland without withholding taxes in India on the ground that such payments were not liable to tax in India.

Google India gave contended that distribution fee was not in relation to 'transfer of any right' or 'right to use' any patent/ invention, etc. Further, the said transaction didn't involve any use of patents, invention, model, design, secret formula, process, trade mark or similar property.

However, in an extremely well written decision, the Bangalore ITAT engaged in a detailed factual assessment along with its own research and held that payments made to Google Ireland were covered under limb of 'similar property' in Explanation 2 of section 9 (1)(vi) of the domestic tax law which deals with royalty since the activities undertaken by Google India were significantly more in scope than those it was proposed to carry out.


How this case could impact similar businesses:

Generally, income streams in technology driven businesses seem to be at greater risk of being classified as royalties/FTS, even if the services are otherwise comparable to those provided in a non-digital context. The fact that technology was used to improve the range and pricing of advertisements was a crucial factor in the ITAT's decision to distinguish from advertising in traditional media like magazines and newspapers and held it to be royalty / FTS.

However, this decision has made tax planning for digital businesses significantly more complex because in most cases, the taxes were never considered as payable to begin with. It remains to be seen how the taxability of digital income develops over the years.

It may also be noted that General Anti Avoidance Rules (GAAR) provisions have been introduced and appropriate caution is required before entering into any arrangement / structure, especially if it violates the "substance over form" principle.


(b) AAR ruling in the case of Mastercard Singapore[2]

Mastercard Singapore approached the Authority for Advance Rulings (AAR) to ascertain whether the fees proposed to be collected by Mastercard Singapore from India would be subject to tax in India. Mastercard Singapore argued that activities undertaken in India are limited to transmission of encrypted data and significant authorization processes are undertaken outside India and hence, is not taxable.

However, the AAR held that it would constitute fixed place PE, dependent agent PE as well as service PE. Significantly, the AAR held that automatic equipment can also create PE, and it is not necessary that the equipment should be fixed to the ground, so long as it is at the disposal of Mastercard Singapore, to establish a PE.

The AAR observed that functions actually being carried out by Mastercard India were not forming part of Functions, Assets and Risk (FAR) analysis and hence, a proper FAR analysis shall have to be carried out as required under transfer pricing regulations.


How this case could impact similar businesses:

It is pertinent to note that this ruling is very important for companies where substantial business is undertaken through digital platforms from outside India without having any establishment or significant human intervention in India. It is likely that tax authorities, armed with the current decision of AAR, may approach entities such as Visa and American Express (which undertake operations similar to Mastercard in India) aggressively. It remains to be seen whether such entities will change their business model or practices to immunize themselves from such exposure.

Mastercard has already filed a writ petition before the Delhi High Court against the decision of AAR. The final outcome of this case is much awaited.

It must also be noted that notwithstanding the various grounds available with the taxpayers, this decision is significant and could force MNCs operating in similar fields to review, revise or realign their business models.

The short point emerging from this decision is that adequate care must be taken while formulating the business model and drafting the agreements, to keep them closer to reality. Digital business models could become more vulnerable to the changing tax landscape.



To conclude, the business structure of companies may need a relook and Indian subsidiaries may be set up having ownership of server and overseeing quality control and transmissions. Alternatively, the MNCs may analyse, subject to business and commercial objectives being met, whether it would be possible to have the corresponding key equipment placed outside India.

Further, with regard to the advertisement industry, the introduction of Equalisation Levy seems to limit the taxation of such transactions to 6% in accordance with the global BEPS initiative on digital economy taxation. In order to be covered within its ambit, it is important that the foreign company shouldn't have a PE in India. Thus, it will have to be seen whether the tax authorities would still go after entities who have paid Equalisation Levy on the ground that they have a PE.

A holistic review of the complexities surrounding the modern day digital world and its tax implications is required. While BEPS Action Plan 1 deals exclusively with digital transactions, with differences across each country's domestic laws and varied interpretation, India should develop a standard code for digital transactions which specifies the taxability of such transactions in detail so that room for vagueness and multiple interpretations may be reduced. Else, we could see conflicting rulings and vague interpretations leading to unrest and discomfort amongst corporates that could take a while before being settled by higher authorities.


About the Author


S. R. Patnaik is a Partner who leads the Tax Practice in Cyril Amarchand Mangaldas, New Delhi. Mr. Patnaik has more than 20 years of post-qualification experience. In addition to being a lawyer, he is also a qualified Chartered Accountant. Previously, he was a Partner ‐ Direct Tax & Structuring at Luthra & Luthra Law Offices, New Delhi for more than 5 years. He has experience and expertise in various aspects of direct tax, such as international tax, transfer pricing, corporate tax, in-bound and out-bound M&A transactions, etc.


Reema Arya Pathania works as a Consultant in the Direct Tax Practice of Cyril Amarchand Mangaldas, New Delhi. She is a member of the Institute of Chartered Accountants of India and has previously worked with the Taxation and Regulatory services team of EY, Delhi for more than 5 years.



Disclaimer: Above expressed are the personal views of the author, and the publisher or the author disclaim all, and any liability and responsibility, to any person on any action taken on reliance of it.



[1]Google India Private Ltd. (2018) 53 CCH 0027 BangTrib

[2] MasterCard Asia Pacific Pte. Ltd. Singapore (2018) 102 CCH 0076 IAAR, (AAR No. 1573 of 2014) [TS-304-AAR-2018]