EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients.
How EY can help
-
EY India Tax magazine shares insights from EY Tax Partners & Industry leaders on evolving tax and policy change to gear-up the businesses and tax professionals.
Read more
Example 1: A Ltd, a company resident in India, makes management service fees payment to a connected person (S Ltd), a company resident in State S. Under its domestic tax law India can tax the payment at 20%. However, under India-State S tax treaty, the fee is not taxable in India in the absence of a PE of S Ltd. While S Ltd is taxed in State S at a nominal tax rate of 17%, State S exempts income from taxation that is not received in State S. Since S Ltd receives this income in a bank account outside State S, the management service fee is not taxed in State S.
If STTR is included in India-State S tax treaty, the following could be the consequence: Management service fee paid to S Ltd is a covered income for purpose of STTR. The nominal rate of tax would be regarded as 0% since preferential adjustment applies. Hence, India would get a right to tax back up to 9% under STTR, subject to the monetary and mark-up thresholds being satisfied.
Example 2: I Co, a company resident in India and member of X Co group, functions as a re-seller of cloud computing services to customers in India. S Co, a company resident in State S and a member of X Co group, is a regional distributor of the services. I Co makes an arm’s length payment to S Co for cost of services purchased. S Co in-turn makes a tax-deductible payment of 95% of the consideration received from I Co to X Co, the group’s intangible property (IP) owner resident in State X, as consideration for obtaining regional distribution rights. S Co is taxed at 17% on its net income while X Co has a preferential regime under which it is taxed at 5% on IP income. Under the Indian domestic tax law S Co has a taxable nexus in India by virtue of SEP; but not taxable under India-State S tax treaty in the absence of a PE.
If STTR is included in India-State S tax treaty, the following could be the consequence: Income from cloud services could be covered income for purpose of STTR. The term “services” for purpose of STTR would generally be interpreted to mean an action performed for the benefit of another person. The method of delivery is not relevant to the determination. Even though S Co is taxed in State S at a nominal tax rate higher than 9%, the TAAR could potentially apply which allows the intermediary (S Co) to be disregarded in the transaction flow for determining the tax rate for purposes of STTR. The effect of the TAAR would be to treat the original payment by I Co to S Co as a payment of covered income to a connected person in State X and substitute the tax rate to which X Co is subject in State X in respect of the related payments from S Co, resulting in STTR applying.
If S Co is an e-commerce operator and subject to equalisation levy on the amount received from I Co, S Co could be exempt from income-tax by virtue of Section 10(50) of the Income-tax Act, 1961, regardless of STTR.
Concluding remarks
The STTR is a core element of Pillar 2 and, where applicable, the STTR would apply before the Global Minimum Tax Rules. While members of the IF have committed to implement the STTR into their bilateral treaties with members of the IF that are developing countries when requested to do so, the actual timeline for treaty changes to come into force remains uncertain.