The challenge of taxing value-creation
Mains Paper 4: International Relations
Prelims level: OECD
Mains level: India and its neighborhood- relations. Bilateral, regional and
global groupings and agreements involving India and/or affecting India's
- French finance minister Bruno Le Maire announced the introduction
of a GAFA tax named after Google, Apple, Facebook, Amazon on large
technology and internet companies in France from 1 January 2019.
- Similar proposals had surfaced in both the UK and the European
Union (EU) earlier. The French proposal is set to target only those
profitable companies that have heavy annual global revenue.
Rationale behind the framework
- The rationale behind devising a separate framework to tax online
service providers is this: existing tax norms that are framed envisaging
brick and mortar business models are not suitable to regulate online
- This is because the digital economy is characterized by a unique
system of value creation resulting from a combination of factors such as
sales functions, algorithms and personal information of users.
- What distinguishes technology companies from traditional
businesses is user participation in creating value, which, in turn,
translates into revenue.
- Although using consumer data to improve businesses is not
exclusive to the digital economy, the unique ability of digital businesses
lies in their power to analyse big data collected via constant user
interaction and data mining.
- The need for India to consider the adoption of an accurate
methodology to assess value created in India through user contributions so
that digital service providers in India can be taxed more effectively.
Improving the tax rule
- To develop a simple, approximate tax rule, the Finance Act, 2016,
accommodated a 6% equalisation levy (EL) in lieu of specified digital
services provided to residents in India.
- However, EL can only be imposed on advertising services.
Thereafter, through the Finance Act, 2018.
- The Income Tax Act was amended to expand the meaning of business
connection to “significant economic presence”, which includes digital
- As a result, any income attributable to significant economic
presence is taxable in India. An entity can have significant economic
presence in India if it
- (i) provides data or software in India exceeding a payment
threshold (yet to be notified) or
- (ii) engages in systematic and continuous solicitation of business
activities to a prescribed number of users digitally.
Acknowledgement by OECD
- The Organisation for Economic Co-operation and Development (OECD)
acknowledges the need to tax value at its source and has identified
different ways in which companies operating in the digital economy create
- Yet, it has been unable to devise a definite method of assessing
the value that users generate in a source country.
- Due to this anomaly, the GAFA tax and other proposals floated in
the EU, UK and France impose an approximate digital tax of 3% on the revenue
generated by entities that operate in the digital economy above a certain
- This resulted mostly from the slow ongoing process of quantifying
user contribution and political pressure to resist further delay of taxing
- The lack of consensus is exacerbated due to a difference in the
interests of developed (residence) countries and developing (source)
- The imposition of an EL instead of a more precise assessment of
user contribution poses several questions regarding its enforceability.
- These unilateral measures are all interim policies attempting to
get some taxes while trying to reach a consensus.
- People have argued such steps are disruptive of the international
- An even bigger challenge that the OECD highlights, however, is
that the assessment of value of user contribution in the source country is
- So the government of the source country would always try to argue
that the value of user contribution that has translated into the entity’s
revenue is far more than what the state where the entity is established
would claim it to be.
- This could, in turn, create greater friction and undermine the
efficacy of double taxation agreements.
- It is imperative, therefore, that policymakers deliberate upon the
possibility and feasibility of adopting a methodology to assess value
creation objectively to tax digital players more effectively in the source
Q.1) International Organization for Migration (IOM), sometimes in news,
(a) a non-governmental international organization.
(b) an inter-governmental agency sponsored by the OECD.
(c) an inter-governmental organization related to United Nations.
(d) an inter-governmental organization sponsored by the European Union.
Q.1) Policymakers must deliberate upon adopting a methodology to assess value
creation objectively. Explain it.