It is internationally recognised that rapid digitalisation has had a tremendous impact on the manner in which businesses are conducted globally and that the existing principle of taxation laid down in the brick-and-mortar environment are inadequate. Over the past decade, the Organisation for Economic Co-operation and Development (OECD) has led initiatives among 140 countries aiming for a fair share of taxes to countries based on economic contribution and to eliminate avoidance by taxpayers who shift profits to tax havens.
The Group of Seven (G7), which consists of the United States, Japan, Germany, UK, France, Italy, and Canada, made two important decisions on global taxation on June 5, 2021, expressing clear support for a framework of new international tax rules.
Allocation of taxing rights to market countries
The G7 recommended that market jurisdictions would have taxing rights on at least 20 percent profits of excess profits (i.e. over 10 percent) earned by large multinationals to ensure equitable allocation of taxes. Discussions at the OECD suggest that this would only apply to multinationals that meet a €750 million consolidated group revenue threshold. The G7 also indicated that the new rules should replace digital services taxes introduced by several countries as unilateral measures to tax digital transactions in the past few years.
This move could provide a push towards global uniformity for aligning taxing rights with economic value by enhancing the share of countries where companies operate with a minimal physical presence. India has one of the largest user bases in the world and represents a big market for foreign multinationals. So, while the G7 recommendations are a step in the right direction for India, the Indian tax administration would want to evaluate whether the G7’s recommendations are adequate from its perspective.
Currently, the equalisation levy in India is chargeable at 2 percent on a wide range of online sales and services. There has also been a recent expansion in the definition of business presence by India, through the introduction of the significant economic presence provisions. While these are interim measures until global consensus is achieved on the subject, the annual revenue threshold for both (Rs 20 million) is relatively low and the nature of businesses covered may be comparatively broader than under the new rules, meaning that the new recommendations are likely to cover fewer taxpayers than at present.
Whether the G7 recommendations increase tax on foreign companies as compared to the equalisation levy is an open question as the levy is chargeable on the revenues generated from India and not merely on profit margin.
In the context of Indian headquartered companies, the G7 recommendations may not have a widespread impact as the OECD focus seems to be on companies engaged in the provision of automated digital services and consumer-facing businesses.
Global minimum tax
The G7’s second decision is to back a global minimum tax rate of at least 15 percent on a country-by-country basis, in order to avoid harmful tax competition, yet ensure profits of multinationals are subjected to a minimum rate irrespective of their domicile or the markets of operation. While each country would be within its right to set its own tax rate, this proposal could permit corresponding countries to levy additional taxes if a multinational’s tax liability falls below the prescribed threshold.
Like the earlier one, this recommendation will also require further deliberations by all the stakeholders. However, one area of impact could be in the case of overseas investments by Indian multinationals. Presently, the global income of a foreign subsidiary of an Indian multinational is taxable in India only if its place of effective management is in India. The recommendations could result in India bringing in legislation to tax profits of a subsidiary set up in a low-tax jurisdiction, even if its place of effective management is outside India.
The road ahead
While the framework of the new principles is broadly laid out by the OECD, there are various aspects that still require international deliberations. Whether and to what extent the recommendations are accepted by India and other countries would also be relevant. In any case, achieving international consensus and actual implementation through amendments in domestic laws and tax treaties could still take a while.
Further discussions amongst a wider set of countries (including India) are expected at a G20 meeting next month. The aim would be to eventually reach global consensus through coordination by the OECD, to provide certainty to taxpayers and ensure fair tax while curtailing avoidance opportunities.
—Ravi Mahajan is Tax Partner, EY India. Khushroo Patel, Senior Manager, EY also contributed to the article. Views expressed are their personal
(Edited by : Ajay Vaishnav)