Significant Economic Presence: Widened Tax Scope for Non–Residents
For a very long time, nexus based on physical presence was used to tax the income of non-residents. However, owing to advancement in communication & technology, new business models operating remotely through digital mediums have emerged. Under such business models, non-resident enterprises interact with customers located in different countries without any physical presence in that country which results in the avoidance of taxes in the source country. To address this challenge, the OECD under it’-s BEPS Action Plan 1 introduced the concept of Significant Economic Presence’ (SEP) under which a non-resident would create taxability in that country in which he had sustained or continuous interaction with the aid of technology & other automated tools.
In line with this background, the Finance Act 2018 enlarged the scope of “Business Connection” to include the concept of “Significant Economic Presence”. However, since the threshold limits had not been specified, the concept of SEP had remained inoperative.
As per Explanation 2A to s. 9(1)(i) SEP means:
- Revenue – Linked : Transaction in respect of any goods, services, or property carried on by a non-resident with any person in India including the provision of download of data or software in India, if the aggregate of payments arising from such transaction or transactions during the previous year exceeds the prescribed threshold limits as may be prescribed; or
- User–Linked : Systematic and continuous soliciting of business activities or engaging in interaction with several users in India as may be prescribed.
Income attributable to services referred to in (a) and (b) shall be deemed to accrue or arise in India.
SEP will arise irrespective of whether:
- The agreement for such transactions or activities is entered in India; or
- The non-resident has a residence or place of business in India; or
- The non-resident renders services in India.
Income attributable to transactions referred to in clause (a) and (b) above also include income from the following:
- Advertisements that target a customer who resides in India or who accesses an advertisement through an internet protocol (IP) address located in India.
- Sale of data collected from a person who resides in India or who uses an IP address located in India.
- Sale of goods or services using data collected from a person who resides in India or who uses an IP address located in India.
The CBDT vide notification dtd. 3rd May 2021 has prescribed the threshold limits for non-residents to constitute SEP in India.
- Revenue – Linked : Threshold limit of INR 2 million
- User – Linked : Threshold limit of 3,00,000 Indian users.
These provisions become applicable from AY 2022 – 2023 (FY 2021 – 2022) onwards.Though, the threshold limits have been notified, guidelines are awaited from the government in connection to practical aspects.
The concept of SEP is similar to the concept of Permanent Establishment (PE) which forms a part of Double Taxation Avoidance Agreements (DTAA). However, since SEP is governed by the provisions of the Indian Income Tax Laws, non-residents will have the option to rely on the provisions of the DTAA if those are more beneficial. Thus, the concept of SEP will not hold relevant for most non-residents with whom India has signed DTAA.
At the time of the introduction of SEP in 2018, the government had stated that this proposed amendment will enable India to negotiate for the inclusion of the new nexus rule in the form of ‘significant economic presence’ in DTAAs and had also clarified that unless the corresponding modifications to PE Rules are made in the DTAAs, cross border profits will continue to be taxed as per the prevailing treaty rules.
Apart from this, the interplay between the provisions of the Equalization Levy (EL) and SEP also needs to be accurately considered.