Business Connection in India – Definition Expanded

India has been a front-runner in implementing the initiatives of the Organisation for Economic Cooperation and Development (OECD) and the G20 on the Base Erosion and Profit Shifting (BEPS) Action Plans. The final report on the BEPS Action Plan had recommended various amendments to domestic laws and tax treaty provisions to deal with international tax issues faced globally due to changing business environment.

Some of the proposals of the BEPS Action Plan, like equalization levy, Country-by-Country-Reporting, limiting interest deduction, etc. were already implemented by India in its domestic tax laws.

India has taken one more step in implementing the BEPS suggestion into Budget 2018 and has amended the definition of 'business connection' under the local laws. The expanded definition of business connection under the Indian domestic tax laws now provides for a more stringent definition of Dependent Agent Permanent Establishment (DAPE); it also introduces the concept of Significant Economic Presence (SEP) for digital transactions in line with BEPS Action Plan 7 and 1.

Both the above amendments for business connection under the domestic tax law are explained below:

Dependent Agency Permanent Establishment Post the expansion of the definition of DAPE under Multilateral

Instrument (MLI), the provisions of Indian domestic laws had become more beneficial as compared to the tax treaties. Accordingly, the definition of DAPE has now been aligned with the definition provided under MLI. The existing Indian domestic tax laws provide that a foreign enterprise shall have a business connection in India:

"If business activity of such foreign enterprise is carried out through person in India who is acting on behalf of such foreign enterprise and:

  • Habitually exercises the authority to conclude contract;
  • Habitually maintains stock of goods in India;
  • Habitually secures order in India."

The revised definition would now be as follows:

"Where the person in India on behalf of non-resident principal:

  • Has and habitually exercises in India, an authority to conclude contracts on behalf of the non- resident or habitually concludes contracts or habitually plays the principal role leading to the conclusion of contracts by the non-resident principal and the contracts are:

    • In the name of the non- resident; or
    • For the transfer of the ownership of, or for the granting of the right to use, property owned by that non-resident or that non-resident has the right to use; or
    • For the provision of services by the non-resident.
  • Habitually maintains stock of goods in India;
  • Habitually secures order in India."

Typically, most agency arrangements in India are structured in such a manner that the entire sales function is performed by the agent in India and mere signing of the ultimate contract is done by the foreign principal. Based on the earlier definition, such situations were not brought under the tax net as contracts were concluded outside India. This issue was highly litigated in India.

In order to capture such situations, the revised definition provides that a DAPE would be established even in cases where the agent plays a principal role in concluding contracts. The term 'principal role' has not been defined and it would be interesting to see how the Indian tax authorities, as well as taxpayers, would interpret this term. In common parlance, the principal role would mean playing an important role in concluding the transaction and not merely acting as a coordinator. The commentary to BEPS Action Plan 7 provides some guidance on what may be considered as 'playing a principal role'. It specifically mentions the following situation which would qualify as 'principal role':

  • The conclusion of contracts as a direct result of the actions of Indian agents; or
  • Cases where the agent convinces the customers to sign the contract.

However, given that the term is not specifically defined, this may result in litigation. Furthermore, it also appears that the revised definition would also capture cases where contracts (including service contracts) are in the name of an Indian party but a majority of the obligations of the contract are to be fulfilled by the foreign company.

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