Background

The Finance Act, 2016  (FA) in the  chapter VIII (comprising clauses 163 to 180) has introduced a new tax i.e “equalization levy” on consideration received or receivable for any specified services.

The objective is to impose tax on the consideration received by the non-resident since  the consideration paid is tax deductible while computing the income of the payer, the same escapes the source country taxation, because payee does not have a permanent establishment in India or otherwise. The equalization levy is quantified with reference to the consideration received or receivable by the non resident  

Scope

Section163 provides that the provisions of the chapter extends to the whole of India, except Jammu and Kashmir and the same will come into force from 1^st June 2016 i.e  date  notified by the Central Government .

The provisions will apply to the consideration received or receivable for specified services provided on or after the appointed date. By implication, any consideration received after the appointed date for the services provided before the appointed date shall be outside the provisions of the chapter. The provisions of the chapter will not apply to the consideration received or receivable for the services provided outside the territorial jurisdiction. This would require determining the place of provision of the services. Generally, place of provision of service is the location of the service receiver.

Charge

Section 165 deals with the charge of the equalization levy. It provides that the equalization levy @6% be charged on the amount of consideration received or receivable for providing specified services. The other conditions are:

a) The service provider has to be non- resident and

b) It should receive consideration for the services from

i) a person resident in India who is carrying on business or profession or

ii) a non resident having a permanent establishment (PE) in India

                     (herein after referred to as ‘specified persons’ or ‘assessee’)

It also provides that in following cases equalization levy will not be charged:

i) when the non resident providing the specified services has a permanent establishment in India and such services are effectively connected to the permanent establishment i.e when the non-resident offers the income from the specified services as a part of its PE profit.

ii) when the aggregate amount of consideration received or receivable for the specified services from each of the specified persons in a previous year is INR one lakh or less

iii) when the specified persons makes the payment towards specified services not for the purposes of carrying on its business or profession. In such a case even if the payment exceeds INR one lakh, the same will not be subject to equalization levy since the same is not claimed as deduction for the purposes of computing the taxable income of the specified persons.

Collection and Recovery

Section 166 provides for the collection and recovery of the equalization levy. It designates the specified persons as assessee and cast an obligation on them to deduct the amount of equalization levy from the amount of consideration paid or payable to the non resident towards the provision of the specified services.

As noted above the levy is not chargeable when the non resident providing the service has a PE in India and the specified service is effectively connected to such PE. The assesse is either a person resident in India or a PE of a non resident in India. The assessee before deducting the levy will have to ensure that the non resident providing the service has no PE in India and even if it has a PE in India, the said service is not effectively connected to the PE. They may have to possibly depend on the declaration from the non resident in this respect.

Whether a non resident has a PE in the source country or not is generally a contentious issue and it is very rare that the taxpayer and the tax authorities would agree at the initial stage. If it is ultimately found or held that the levy was not chargeable, can the refund be granted to the assessee? There are provisions in the chapter for grant of the refund to the assesse on processing the statement furnished by the assessee. Such a case may not be covered by the said refund provision and also because there are limitations of the time to grant refund under such cases. Can the refund be claimed on the ground that the levy is without any authority of law and hence the limitation should not apply? 

Consideration to be exempt from tax in the hands of non residents

A new clause (50) has been introduced in section 10 of the Income tax act (ITA).

It provides that income of the non resident from provision of the specified services to the assessee under chapter VIII of the FA is exempt from income tax in the hands of the non resident if the same is chargeable to equalization levy. However, it does not mean that the income of the non resident from the specified services would be charged to income tax if the same is not chargeable to equalization levy.  The charge to income tax has to be independently established under the ITA.

Disallowance of the payment in certain cases

 A new clause (ib) has been introduced in section 40 of the ITA with effect from 1^st June,2016. Section 40 provides for the cases when the amount is not permitted to be deducted while  computing the income under the head “profits and gains of business or profession” or permitted to be deducted subject to certain conditions.

In this respect, the following may be noted:

1. Chapter VIII of the FA provides for due dates of payment of the equalization levy and consequence of the delayed payment. For the purpose of section 40(ib) of the ITA, the same is irrelevant. The relevant date for the same will be the due date of furnishing the return of income under section 139 of the ITA.

2. Section 166(3) of the FA envisages a situation when the assessee fails to deduct the levy from the amount paid or payable to a non resident. As per the said section, the assesse is liable to pay the levy even if he has not deducted the same from the payment. Section 40(ib) of the ITA envisages situation of deduction of the levy and payment thereof thereafter. Can a view be taken that cases under section 166(3) of the FA are not covered by section 40(ib) of the ITA? Whether in such a case, provision of section 43B would be applicable?.

3. What will be the impact of non discrimination article of the relevant double tax avoidance agreement (DTAA) on section 40(ib) of the ITA? Relevant extract of article 24(4) of the OECD and UN model convention (both are identical) is reproduced hereunder for ready reference: 

24(4) Except where the provisions of paragraph 1 of Article 9, paragraph 6 of Article 11, or paragraph 4 of Article 12, apply, interest, royalties and other disbursements paid by an enterprise of a Contracting State to a resident of the other Contracting State shall, for the purpose of determining the taxable profits of such enterprise, be deductible under the same conditions as if they had been paid to a resident of the first-mentioned State…..

Section 40(ib) disallowance is applicable in respect of consideration paid or payable to non resident for specified services and not to the resident. Hence, prima facie, the assessee can invoke the said article of the DTAA. Article 24(6) provides that the provisions of non discrimination article will not be restricted to the taxes covered under Article 2 and the article  extend to taxes of every kind and description. In view of this, equalization levy would be covered by Article 24 notwithstanding what is the scope of Article 2 of the DTAA. The question that may still survive is whether payment towards specified services would be covered within the words “other disbursements” appearing in article 24(4)?

Questions and Challenges

A question that arises is whether it is a tax on the income of the non resident? Certainly, It is not a tax on the income of the non resident. In fact the income of the non resident which is subject to the levy is specifically made exempt from tax. Who is the person chargeable to tax? Under the FA, the assessee is the person making payment towards the specified services and claiming the said payment as expenditure while computing its taxable income.

From the analysis of the provisions of the chapter, it appears that the subject of tax is the specified services. From the harmonious reading of the section 165 and 166 , it appears that the person liable to pay tax is non resident, but the collection and the recovery is made from the persons paying the considerations towards the specified services by way of deduction and they are being regarded as assessee. It is interesting to note that the non resident receiving the consideration has no obligation whatsoever under the chapter.

What is the difference between a person charged to tax and a person liable to pay tax? Can a person who is charged to tax be not liable to tax? Can a person who is regarded as assessee, be a person who is not charged to tax? Is it that in the scheme of equalization levy, these questions does not matter? These questions pose a significant challenge to the new tax.