Key Takeaways: - Tax challenges due to Digitalisation and Actions initiated by OECD - Scope of Article 12B - Right of Taxation - Specific Provisions for Non-applicability and Excess Payment - Comparison with India's Tax Provisions and OECD's Action - Plan I - Way Forward

1. Article 12B – Income from
Automated Digital Services
CA Divakar Vijayasarathy

2. Research Credits
Gracelin Lita
Sundarrajan S
CA Jugal Gala

3. Legends used in the Presentation
ADS Automated Digital Services
ALP Arm’s Length Price
CFS Consolidated Financial Statements
CIT Corporate Income Tax
EL Equalization Levy
BEPS Base Erosion and Profit Shifting
DST Digital Services Tax
DTAA Double Taxation Avoidance Agreement
FI Financial Institution
FTS Fees for Technical Services
ICT Information and Communication Technology
NR Non-Resident
OECD Organisation for Economic Co-operation and
Development
PAN Permanent Account Number
PBT Profit before Tax
PE Permanent Establishment
TDS Tax Deducted at Source
USTR United States Trade Representative

4. Presentation Schema
Overview
What is Income from
Automated Digital
Services
General Rule of Right
to Taxation
Right to Taxation by
State of Source
Non-applicability of
Article 12B on
Certain Cases
When does Income
from Automated
Digital Services arise
in a Contracting
State?
Automated Digital
Services Rendered to
a Related Party
Digital Service
Taxation in India
Comparisons Way Forward

5. Overview

6. Overview
• Addressing tax challenges of digitalization has become the key priority of International Organisations
and domestic economies in order to combat the base erosion of new business models resulting from
the evolution of ICT
• The OECD BEPS Project’s Action 1 focused to work on nexus and profit allocation rules that would
consider the impacts of digitalisation, relating to the principle of aligning profits with underlying
economic activities and value creation
• However, an unanimity in digital taxation across economies was not available due to the absence of a
specific clause for taxation of the same either in the UN/OECD Model Tax Convention
• On this front, the UN committee has decided to add a new model treaty provision in its Model Tax
Convention, expanding the taxing rights for States from which payments for automated digital
services are made

7. The Milestones Till Now
The top priority for the OECD/G20 Inclusive Framework is the work on tax and digitalization, which has been a key
aspect of the BEPS Project since its inception. The following actions were initiated through its Task Force on the
Digital Economy (TFDE)
Tax Challenges Arising from Digitalisation –
Interim Report
Provided an in-depth analysis of value creation across new and
changing business models in the context of digitalisation and the
tax challenges presented
Public Consultation Document on
“Addressing the Challenges of the
Digitalisation of the Economy”
Described the proposals discussed by the Inclusive Framework at
a high level and sought input from external stakeholders
Policy Note on Digitalisation Challenges
Grouped the proposals made by delegates to the TFDE, into a
Two-Pillar Approach
February, 2019
January, 2019
March, 2018

8. Contd…
Public Consultation Document – Secretariat
Proposal for a “Unified Approach” under
Pillar One
 Efforts to expedite the progress towards reaching a consensus
solution to Pillar One issues pursuant to the 3 proposals
articulated by the Programme of Work (PoW) adopted by the IF
on May 28th, 2019
 It focused on new taxing right to market jurisdictions through
new nexus and profit allocation rules
Public Consultation Document – Global
Anti-Base Erosion Proposal (GloBE) under
Pillar Two
 The GloBE proposal called for the development of a co-ordinated
set of rules to address ongoing risks of base erosion
 It contained 4 component parts such as an income inclusion rule,
undertaxed payments rule, switch-over rule and a subject to tax
rule
November, 2019
December, 2019
January, 2020
Statement by the OECD/G20 Inclusive
Framework on BEPS on the Two-Pillar
Approach to Address the Tax Challenges
Arising from the Digitalisation of the Economy
This document put together the technical work of the Working
parties, comments from the public consultation, etc. and
provided an outline of the architecture of a Unified Approach on
Pillar One

9. The Issue in the Context of Digital
Taxation
Company X
Individual
customers
Country A
Country B
Digital content services
Renders services to customers in
another country without physical
presence or even a PE in such
country (business model dependent
on ICT)
Payment made to
such Non-residentEffectively the income of
Company X arises in
Country B
However, by virtue of the absence of physical presence of Co.X or a PE of
Co.X in Country B due to provision of services over digital platforms, Country
B is denied of its taxing rights
A simple representation of the tax challenges arising due to
digitalisation is enumerated below

10. Income from Automated
Digital Services

11. What is Income from Automated Digital
Services?
Article 12B.4
“The term “income from automated digital services” as used in this Article means any payment in
consideration for any service provided on the internet or an electronic network requiring minimal human
involvement from the service provider. The term “income from automated digital services” does not,
however, include payments qualifying as ‘fees for technical services’ under Article 12A”

12. Analysis
Article 12B.4 gives an overview of what falls under the purview of “income from automated digital services”
A service is regarded as automated when the user is able to make use of service with minimum human involvement
on the side of the supplier of service
The above means that the user is able to obtain the service automatically, as opposed to requiring a bespoke
interaction with the supplier to provide the service
Furthermore, the definition focuses on provision of service and therefore does not include human interventions in
creating or supporting or maintaining the system needed for provision of service [Example: Amazon customer care
staff providing guidance and facilitating the online transaction]
The threshold of minimal human intervention would not be crossed where the provision to new users involves very
limited human response to individual user requests
An important indicator of the concept of automated is that once the service offering of an automated digital business
is developed (such as music catalogue or social media platform), then the business can provide that service to one
user, or to many more, on an automated basis with the same basic business processes
On other hand, a non-automated digital business would see a proportionate increase in per unit costs in connection
with providing the services to new customers

13. Inclusions
The definition of “income from automated digital services” in Article 12B.4 is exhaustive. Other payments for services
are not included in the definition and are not dealt with in Article 12B. Broadly, the term includes the following:
• Online services aimed at placing advertisement on a digital interface
(Eg. Yahoo! Gemini, Google Ads, etc.), including services for the
purchase, storage and distribution of advertising messages, and for
advertising monitoring and performance measurement (Eg: Nike’s
free applications for performance tracking and similar performance
advertising)
Online advertising services
• Such services involve a digital interface available to users for the
purpose of enabling interaction between users, including for the
sale, hire, advertisement, display or other offer by users of particular
goods, services, user-generated content or other property to other
users (Eg: Amazon Marketplace, Apple Play Store, Facebook, etc.)
Online intermediation platform
services and Social media services
• Those services imply the automated provision of data in digital
form, such as computer programs, applications, music, videos, texts,
games and software (Eg: Amazon Prime, Spotify, Google Maps, etc.),
other than the data represented by a digital interface (Eg: Data
stored in a USB driver and accessed in a PC)
Digital content services

14. Contd…
• Such services are those providing standardized on demand network
access to information technology resources (Eg: Google Pay, iCloud,
Dropbox, etc.)
Cloud computing services
• Provision of data to a third party customer, where the data is
generated by users of a digital interface (all directly/indirectly
identifiable personal data), and is collected, compiled, aggregated
or otherwise processed into data through an automated algorithm
(Eg: Data exchange platforms in which advertisers bid for access to
data about customers that has been collected through tracking and
tracing of user’s online activities)
Sale or other alienation of user data
• Those services involving the provision of an online education
programme provided to an unlimited number of users, which does
not require:
• (i) the live presence of an instructor; or
• (ii) significant customisation on behalf of an instructor to a
particular user or limited group of users, whether with respect to
the curriculum, teaching materials, or feedback provided (Eg:
Recorded standardised music or vocabulary classes)
Standardised online teaching services

15. Exclusions
The expression “income from automated digital services” does not include the following:
Customised services provided by professionals
• Services (whether individually or as a firm) provided by a lawyer, accountant, bookkeeper, architect, engineer,
medical professional or financial or other specialised expert consultant
Customised online teaching services
• Live or recorded teaching services delivered online, where the teacher customises the service (such as by
providing individualised, non-automated feedback and support) to the needs of a student or a limited group of
students and the Internet or electronic network is used as a tool simply for communication between the teacher
the student
• [Eg: WizIQ, provides an online learning platform with virtual classroom like environment and online student-
teacher interaction]
Services providing access to the Internet or to an electronic network
• Such services include the provision of access (i.e. connection, subscription, installation) to the Internet or to an
electronic network irrespective of the delivery method, namely over wire, lines, cable, fibre optics, satellite
transmission or other means, which typically requires a degree of local infrastructure and is subject to local
telecommunication regulations

16. Contd…
Online sale of goods and services other than automated digital services
• Such services refer to the sale of a good or service completed through a digital interface where:
• (i) the digital interface is operated by the provider of the good or service;
• (ii)the main substance of the transaction is the provision of the good or service; and
• (iii) the good or service does not otherwise qualify as an automated digital service
• Eg: A seller of books or tangible product listed on the intermediation platform will not be under the ambit of Article
12B
Broadcasted services including simultaneous internet transmission
• Services that are simultaneously provided via broadcast to the general public over communication networks other
than the Internet or electronic networks
Composite digital services embedded within a physical good irrespective of network connectivity (“internet of things”),
provided that there is no separately identifiable automated digital service revenue stream attached to that physical good
• Eg: Smartwatch, Amazon Alexa, Google Nest, Home automation wherein its possible to have remote control of home
energy monitors, etc.
Note:
 Apart from the discussed exclusions, services falling under the scope of Article 12A shall not be governed by
Article 12B. However, where part of services amongst bundle of automated digital services are falling within scope
of technical services, taxation of such part only would be governed by Article 12A and for the remaining, Article 12B
would apply
 Unlike Article 12A, Article 12B also applies to automated digital services provided to individuals for their personal
use

17. General Rule of Right to
Taxation

18. Right to Taxation by State of Residence
“Income from automated digital services arising in a Contracting State and paid to a resident of the
other Contracting State may be taxed in that other State”
Article 12B.1

19. Analysis
• Article 12B.1 lays down a general principle on situs of taxation for income from automated
digital services
• Accordingly, the State of Residence of the person to whom the payment is made “may” have
the taxing rights
• However, since the clause is drafted with the words “may be taxed”, it is imperative that the
State of Residence shall not have the exclusive right of taxation

20. Right to Taxation by State of
Source

21. Right of Taxation by State of Source –
Gross Basis
“However, income from automated digital services arising in a Contracting State may also be taxed in the
Contracting State in which it arises and according to the laws of that State, but if the beneficial owner of
the income is a resident of the other Contracting State, the tax so charged shall not exceed ____ percent
(the percentage is to be established through bilateral negotiations) of the gross amount of the income”
Article 12B.2

22. Analysis
Article 12B.2 lays down the principle that the Contracting State in which income from automated digital services
arise may tax those payments in accordance with the provisions of its domestic law
However, if the “beneficial owner” of the income is a resident of the other Contracting State, the amount of tax
imposed by the State of Source may not exceed a maximum of percent of the gross amount of the payments, as
may be negotiated
When considered in conjunction with Article 23 (Methods for the Elimination of Double Taxation) it is implied that
the Country in which the recipient of the income is resident, is obligated to prevent double taxation of those
payments either by credit or exemption method

23. Factors to Consider While Negotiating
Withholding Tax Rate
Contracting States should consider the following factors while negotiating the maximum withholding tax rate on
payments in consideration of automated digital services:
• The possibility of high withholding tax rate imposed by a Source Country getting reflected in the cost
charged by the non-resident service provider to customers in the Country
• The above would mean that the Source Country would increase its revenue at the expense of its own
residents rather than the non-resident service providers
• The possibility that a tax rate higher than the foreign tax credit limit in the residence country might deter
investment
• The possibility that some non-resident service providers may incur high costs in providing automated
digital services, so that a high rate of withholding tax on the gross payment may result in an excessive
effective tax rate on the net income derived from the services
• The relative flows of payments in consideration for automated digital services (e.g. from developing to
developed economies)

24. Who is a “Beneficial Owner” ?
Beneficial owner
Where the recipient of payments in consideration of automated digital services does have the right to
use and enjoy the income unconstrained by a contractual or legal obligation to pass on the income
received to another person, the recipient is the “beneficial owner” of such income
The following persons cannot be considered as beneficial owners
Agent Nominee
Conduit company acting as
a fiduciary or administrator
 In the above cases, though the payment is made to such agent/nominee/conduit company resident in the other
Contracting State, it is clear that, in substance, they are involved in the interposition of a recipient who is obliged
to pass on payments in consideration of automated digital services to someone else
 Therefore, the fact that the recipient of payments in consideration for automated digital services is considered to
be the beneficial owner of such income does not mean, however, that the limitation of tax provided for by
paragraph 2 must automatically be granted

25. Relief or Exemption by State of Source
The direct recipient of the income qualifies as a resident but no potential double taxation arises as a consequence
of that status, since the recipient is not treated as the owner of the income for tax purposes in the State of
residence
Where an item of income is paid to a resident of a Contracting State acting in the capacity of agent or nominee it
would be inconsistent with the object and purpose of the Convention for a State to grant relief or exemption
merely on account of the status of the direct recipient of the income as a resident of the other Contracting State
Relief or exemption in respect of an item of income is granted by a State to a resident of the other Contracting State
to avoid in whole or in part the double taxation that would otherwise arise from the concurrent taxation of that
income by the State of residence
Addressing such abuse
of provisions
States can include specific anti-abuse provisions and general anti-abuse rules in
domestic law and treaties, judicial doctrines such as substance-over-form or
economic substance approaches, and the interpretation of tax treaty provisions
Note: Subject to other conditions imposed by the Article, the limitation of tax in a State remains applicable when an
intermediary, such as an agent or nominee located in the other Contracting State or in a third State, is interposed
between the beneficiary and the payer but the beneficial owner is a resident of the other Contracting State

26. Illustration
Ultimate Residence Country X
Intermediate
Country Y
Market
country Z
Company A
Ultimate service
provider/
Beneficial owner
Automated
digitalservices
High Tax
Withholding
tax on ADS
Low Tax
Payment made for
services received
Letter box company of Co.A
Company B
Such amount remitted to Co.A, packaged
as a complex financial instrument
 Co.A is the creator of an OS for mobile phones and maintains a
worldwide Internet App store, through which users of Co.A can
download the application
 Now say, Co.B (the letter box company of Co.A) acts as a marketing
intermediary to sell applications of Co.A to customers in the market
economy
 As per the agreement, entire payment for the services rendered will be
received by Co.B on behalf of Co.A
 However, the same is remitted to Co.A, in the form of convertible bond
 Assume, under Country X’s law the payment is treated as interest and
deductible for tax purpose and under Country Y’s Law, the payment is
treated as dividend and benefits tax exemption
 In this case, Co.A is the beneficial owner and Co.B is just placed in an
interposition between the customer and provider of service
 In such a case, it would not be right for Country Z to grant relief to Co.B
(as per Article 12B.2) only on the basis of payment made to a resident
of another Contracting state (Co.B), wherein, the beneficial owner is in
the third State (Co.A)
 Bu virtue of the domestic laws of Country X, it is implied that Co.A
obtains exemption for the ultimate services rendered to Country Z due
to the income being interposed through its agent
 Therefore, specific “substance over form” rules would be required to
counter such treaty-abuse
Transaction

27. Right of Taxation by State of Source – Net
Basis
Article 12B.3
“Notwithstanding the provisions of paragraph 2, the beneficial owner of the income from automated
digital services referred to in that paragraph may require the Contracting State where the income from
automated digital services arises, to subject its qualified profits from automated digital services for the
fiscal year concerned to taxation at the tax rate provided for in the domestic laws of that State. For the
purpose of this paragraph, the qualified profits shall be 30 percent of the amount resulting from applying
the beneficial owner’s profitability ratio or the profitability ratio of its automated digital business
segment, if available, to the gross annual revenue from automated digital services derived from the
Contracting State where such income arises. Where the beneficial owner belongs to a multinational
group, the profitability ratio to be applied shall be that of the group or, if available, of the business
segment of the group relating to income covered by this Article”

28. Analysis
Paragraph 3 gives the beneficial owner of the income from automated digital services the option to be taxed on its
qualified profits for a net basis annual taxation, as against the withholding mechanism provided for in paragraph 2
Accordingly, Article 12B.3 provides an option to the recipient to subject its “qualified profits” from automated
digital services to taxation at domestic law rates (Taxes withheld at source, if any, as per paragraph 2, would be
taken into account against the tax liability determined on net basis)
“Qualified profits” for this purpose has been deemed at 30% of the overall profitability of the beneficial owner or
the profitability of its automated digital services segment (if available)
If the beneficial owner belongs to a multinational group, the profitability ratio to be applied shall be that of such
group, or of its automated digital services segment, if the same is available (Total annual profits divided by total
annual revenue as reported in consolidated financial statements)
Note: In consideration of circumstances where the overall profitability ratio could be reduced due to compensation
of losses from few business segments, it is also proposed that Paragraph 2 may be modified to introduce a
mechanism wherein, the beneficial owner’s profits would be higher of the following:
 the group’s overall profitability ratio
 the beneficial owner’s overall profitability ratio
 the beneficial owner’s profitability ratio of the automated digital services business segment

29. Illustration
Withholding tax basis under Article 12B.2 Net Apportionment basis under Article 12B.3
• Dropbox Inc. renders cloud storage services to its customers worldwide
• It renders such services to customers in Thailand directly from its head-office in USA
• As per Thailand’s domestic laws, WHT at 5% is applicable on income from e-commerce supplies of goods and
services in the country. The FI facilitating the transaction would be responsible to withhold and remit the tax
• Thailand’s corporate income tax rate is 20%
Say, Dropbox charges a consideration of $5000
for a particular subscription
Say, Dropbox’s profitability from gross annual revenue from sale
of cloud storage services to customers in Thailand is $20 billion*
 The income received ($5000) by Dropbox Inc. from
such sale of cloud storage service to a customer in
Thailand would suffer withholding at the rate of 5%
 However, US-Thailand DTAA can provide for a lesser
withholding rate of taxation on such services, by
virtue of the payment made to the beneficial owner
(Drop Box Inc.) being a resident of the other
Contracting State (USA)
 Dropbox Inc. can avail the option to subject 30% of
his qualified profits (i.e. $2 billion *30% = $0.6
billion) to taxation as per domestic laws of Thailand
 Accordingly, $0.6 billion would be taxable at the
CIT rate 20% in Thailand
 In such a case, taxes withheld at source, if any,
would be allowable against tax payable on net basis
*Say, if annual revenue from ADS segment in Thailand is not ascertainable (not in our case of Dropbox Inc.) then 30% of the overall
profits attributable by such NR company to sources in Thailand, shall be taxable at CIT rate of 20% (more like a PE concept)

30. Non-applicability of Article 12B on
Certain Cases

31. Non-applicability of Article 12B on Certain
Cases
The provisions of paragraphs 1, 2 and 3 shall not apply if the beneficial owner of the income from the rendering of
automated digital services, being a resident of a Contracting State, carries on business in the other Contracting State
in which the income from automated digital services arises through a permanent establishment situated in that
other State, or performs in the other Contracting State independent personal services from a fixed base situated in
that other State, and the income from automated digital services are effectively connected with:
(a) such permanent establishment or fixed base, or
(b) business activities referred to in (c) of paragraph 1 of Article 7.
In such cases the provisions of Article 7 or Article 14, as the case may be, shall apply
Article 12B.5

32. Analysis
Paragraph 5 of Article 12B is an exception Clause which states that the provisions of the Article will not apply if the
person providing the automated digital services has a permanent establishment or fixed base in the State in which
the income arises and the income is effectively connected with that permanent establishment or fixed base
In such a case, the income arising from automated digital services will be taxable in the State in which the permanent
establishment or fixed base is located in accordance with Article 7 or Article 14
Paragraph 5 also stipulates that Paragraphs 1,2 and 3 is not applicable if the income from ADS are effectively
connected with business activities in the State in which the income arise that are of the same or similar kind as those
effected through the PE
The decision as to whether the services is effectively connected with such a PE/ fixed base is to be determined on facts
and circumstances of the case (because the term “effectively connected is not defined)
In general, income from automated digital
services would be considered to be effectively
connected with a PE/fixed base
if the automated digital services are closely
related to or connected with the PE or fixed
base or if the business activities are similar to
those carried out through the permanent
establishment
This will be the case where the remuneration paid to the person providing the services is borne by the permanent
establishment or fixed base in the State in which the income arise.

33. Illustration
X Inc.
(US)
Online media
services Company
Permanent
Establishment of X Inc.
Provides online media services in India
through its PE (ABC Ltd.)
Summary:
 ABC Limited is a permanent establishment (PE) of X
Inc. situated in India
 ABC Ltd. provides online media services on behalf of X
Inc. to the customers in India
 Business activities carried on by ABC Limited and X Inc.
are similar
 Hence, PE is effectively connected to X Inc.
 Therefore, income earned by X Inc. from automated
digital services provided in India through its PE ABC
Ltd. is taxable under Article 7 and not under Article
12B
ABC
Limited
(India)
Provider of Online Video
Streaming Services
Customers in India

34. When does Income from Automated Digital
Services arise in a Contracting State?

35. When Income from Automated Digital Services
arises in a Contracting State?
For the purposes of this Article, subject to paragraph 7, income from automated digital services shall be
deemed to arise in a Contracting State if the payer is a resident of that State or if the person paying the
income, whether that person is a resident of a Contracting State or not, has in a Contracting State a
permanent establishment or a fixed base in connection with which the obligation to make the payment was
incurred, and such payments are borne by the permanent establishment or fixed base – Article 12B.6
For the purposes of this Article, income from automated digital services shall be deemed not to arise in a
Contracting State if the payer is a resident of that State and carries on business in the other Contracting
State through a permanent establishment situated in that other State or performs independent personal
services through a fixed base situated in that other State and such expenses are borne by that permanent
establishment or fixed base – Article 12B.7
Article 12B.6 & 12B.7

36. Paragraph 6 lays down the principle that the State in which income from automated digital services arise for the
purposes of Article 12B is
• the State of which the payer of the income is a resident or
• the State in which the payer has a permanent establishment or fixed base if the payments for the automated
digital services are borne by the permanent establishment or fixed base
It is not necessary for the services to be provided in the Contracting State in which the payer is resident or has a
permanent establishment or fixed base
Where there is an obvious economic link between automated digital services being provided and the PE/Fixed
base of the payer to which the services are provided, the income from automated digital services are considered to
arise in the State in which the permanent establishment or fixed base is situated
This result applies irrespective of the residence of the owner of the permanent establishment or fixed base, even
where the owner resides in a third State
Analysis

37. Contd.
Where there is no economic link between the automated digital services and the PE/fixed base, the payments
for automated digital services are considered to arise in the Contracting State in which the payer is resident
If the payer of fees for automated digital services is not a resident of a Contracting State, Article 12B does not
apply to the income from automated digital services unless
• the payer has a PE/Fixed base in the Contracting State and
• there is a clear economic link between the automated digital services and the PE/Fixed base
Paragraph 7 of Article 12B states that income from automated digital services shall not arise in a Contracting
State (Country of Source) even if the payer of the income is a resident of such Contracting State, if the payer
• carries on business through a permanent establishment in the other Contracting State (Country of
Residence) [OR]
• performs independent personal services through a fixed base in the other Contracting State or in a third
State [AND]
• the payments for automated digital services are borne by that permanent establishment or fixed base

38. Illustration
SSR Ltd.
(UK)
Provides cloud computing
services to
RSN & Co.
(Japan)
Resident in
Japan
Has a fixed
base in UK
RSN Advisories
& Co. (UK)
Pays consideration for
the cloud computing
services provided to
RSN & Co. (Japan)
Summary:
 RSN Advisories & Co. (UK) is a fixed base of RSN & Co. (Japan)
 RSN & Co. avails cloud computing services (automated digital services) from SSR Ltd.
 However, the consideration is paid by RSN Advisories & Co.
 Hence, income earned by SSR Ltd. from cloud computing services is deemed to arise in
UK (Paragraph 7 of Article 12B)

39. Illustration – ADS deemed to Arise in a
Contracting State
E-Funds IT Solutions Inc.
PE of Company X
Company X
(WOS of Adobe Systems Inc. )
Contracting State S
Third State T
Contracting State R
Provides network publishing
services and IP owner
IP Management and Co-
ordination services
PE of Company X operates
State R/S websites, owns
digital inventory and
performs payment
processing and settlement
Adobe Systems Inc.
Rights to IP
Provides software solutions for
services to be rendered by Co.X
in State R
Services rendered
Payment for services
rendered to PE
Sub-licence to IP
 In this case, Co.X (WOS of Adobe Systems Inc.) makes
payment for services rendered by E-Funds IT Solutions to
its PE in State S and there is an economic link between
the ADS and the PE of payer in case of Scenario 1
 Therefore, income from ADS rendered by E-Funds IT
Solutions is deemed to arise in State S irrespective of the
fact the ultimate owner of PE (Adobe Systems Inc.) resides
in third State or the payment borne by Co.X in State R
 However, in Scenario 2, there is no economic link
between ADS and PE of Co.X. Hence, the income from
ADS would deem to arise in State R (State of Residence of
Payer- Co.X)
Tax implications
PE of Company X
• Performs back-office operations
and support services of other
business activities of Company X
(no economic link between ADS
and activities of PE)
• No Sub-licence of IP by Co.X to
PE
Scenario 1
Scenario 2
Royalty

40. Illustration – ADS deemed not to Arise in a
Contracting State
E-Funds IT Solutions Inc.
PE of Adobe Systems Inc.
PE of Adobe Systems Inc.
Contracting State R
Third State T
Contracting State S
Adobe Systems Inc.
Payment for services renderedScenario 1
Scenario 2
 In this case, income from ADS is deemed not to arise in State of Residence of payer (State
R) because the payment made by Adobe Systems Inc. is charged on the PE on ALP and
remunerated by its PE in the form of service fee
 Therefore, for Scenario 1, the situs of taxation is the State in which PE is situated through
which Adobe Systems Inc. carries on business (this applies even if PE is located in third
State – Scenario 2)
 It is implied then that State R cannot exercise taxing rights within the scope of Article 12B
 It is also to be noted that where payments in consideration for automated digital services
are incurred for the purpose of a business carried on through a PE/Fixed base, those
payments will usually qualify for deduction in computing the profits attributable to the PE
under Article 7 or the income attributable to the fixed base under Article 14
Tax implications
Provides software
solutions

41. Automated Digital Services are
Rendered to a Related Party

42. Where, by reason of a special relationship between the payer and the beneficial owner of the income from
automated digital services or between both of them and some other person, the amount of the income,
having regard to the services for which they are paid, exceeds the amount which would have been agreed
upon by the payer and the beneficial owner in the absence of such relationship, the provisions of this Article
shall apply only to the last-mentioned amount. In such case, the excess part of the income shall remain
taxable according to the laws of each Contracting State, due regard being had to the other provisions of
this Convention
Automated Digital Services to Related
Party
Article 12B.8

43. Paragraph 8 states that if the consideration paid by the payer to the person providing the automated digital
services is in excess of the arm’s length price due to a special relationship between the parties or by the parties
with a third party, then only the arm’s length price should considered for the purpose of Article 12B
Special relationship can be by way of legal or blood relationship. However, the criteria for special relationship is
not specified in the Article
Analysis
With regard to the taxation treatment to be
applied to the excess consideration paid above
the arm’s length price, the exact nature of such
excess will need to be ascertained according to
the circumstances of each case,
in order to determine the category of income
into which it should be classified for the
purposes of applying the provisions of the tax
laws of the States concerned and the provisions
of the Convention

44. Contd.
it will be necessary to resort to the mutual agreement procedure provided by the Convention in order to
resolve the difficulty
for the purpose of taxing the excess part of payments in consideration for automated digital services,
Where the principles and rules of their respective laws oblige the two Contracting States to apply different
Articles of the Convention
If two Contracting States have difficulty in determining the other provisions of the
Convention applicable, as cases require, to the excess part of the remuneration for
automated digital services,
there would be nothing to prevent them from introducing additional
clarifications in the last sentence of paragraph 8, as long as they do not
alter its general purport

45. Illustration
Contracting State A
Contracting State B
Company A
Company B
(Related Company of A)
Payment for services received
not made at ALP
Provides online-
intermediation services
Assumptions of the case
 Co. B charges $2 crores for the specific kind of service
rendered to its associate company A
 However, it charges $1 crore for the similar service
rendered to its other unrelated customers (uncontrolled
transaction)
Recommendations of Article 12B
 Article 12B.8 proposes that the Contracting States can
reclassify such excess remuneration made (Here, $1 core) in
such a way as to give them a different character
 The States can negotiate as to treat such excess as interest
or dividend and accordingly, such portion would suffer
withholding taxes in accordance with other provisions of
the Convention

46. Digital Service Taxation in
India

47. Equalization Levy
Equalisation Levy is charged on the following transactions
Sum received or receivable by a non-resident for
online advertisement and related services rendered
to a resident or NR having PE in India
Sum received or receivable by a non-resident who
owns, operates or manages digital or electronic facility
or platform for provision of e-commerce supply of
goods or services to specified persons*
Section 165 – EL at 6% Section 165A – EL at 2%
 A resident
 A non-resident in specified circumstances such as
 Sale of advertisement which targets a customer who is resident in India or a customer who accesses the advertisement
through IP address located in India; and
 Sale of data collected from a person who is resident in India or from a person who uses IP address located in India
 A person who buys such goods or services or both using internet protocol address located in India
*Specified persons
If the aggregate consideration from India for supply of
such services is not in excess of Rs.1 lakh
Sales or gross turnover of receipts from such e-
commerce supply, service or facilitation provided is
lesser than 2 crore rupees during the previous year
Exemption threshold
 India was one among the first countries to impose Equalization levy, a mechanism of digital tax being an outcome
of BEPS Action 1 Report
 Following its introduction in 2016, the Finance Act, 2020 widened the scope of EL to include e-commerce
operators as well
Note: Non-resident providers of digital services are required to collect indirect taxes (first service tax, followed by GST
since December 1, 2016)

48. Section 194-0 – TDS on E-Commerce
Payments
The Finance Act 2020, has proposed the insertion of Section 194-O (w.e.f. 01.10.2020) that provides for deduction of
tax at source from e-commerce payments
• Under Sec 194-0, an E-commerce operator (Resident or Non-resident) is liable to deduct tax at source
from payments made to a resident e-commerce participant in respect of the sale of goods or provision
of services facilitated by the Operator through its digital or electronic facility or platform
• The tax to be deducted is 1% on the gross amount of such sales or service or both (5% in case of non-
availability of PAN)
• The Operator shall not be liable to deduct tax at source under this section on sums credited or paid to a
Participant (being an individual or HUF) if the gross amount of sales or services or both of such
individual or HUF through that Operator during the previous year does not exceed Rs. 5 lakhs

49. Expansion of Scope of Indian Income
Explanation 3A has been inserted in Section 9 to confirm that income attributable to the operations carried out in
India, shall include:-
- Advertisement which targets a customer who resides in India or a customer who accesses the advertisement
through internet protocol address located in India;
- Sale of data collected from a person who resides in India or from a person who uses internet protocol address
located in India; and
- Sale of goods or services using data collected from a person who resides in India or from a person who uses internet
protocol address located in India.

50. Comparisons

51. Difference between DST in India and
Article 12B
Basis of difference Equalisation Levy Newly Proposed Article 12B
E-commerce
supply of goods or
services to fall
within the ambit
of EL
EL at 2% shall be chargeable on consideration
received by a NR who owns, operates or
manages digital or electronic facility or platform
for online sale of goods or provision of services
or both
The Commentary to Article 12B specifically
excludes from its scope, “online sale of
goods or services other than ADS wherein,
the digital interface is operated by the
provider of good/service”
Exemption
thresholds
Section 165 and 165A provides the following
carve-outs from chargeability of EL:
- If sales, turnover or gross receipts, from such
e-commerce supply or services made or
provided or facilitated is less than Rs.2 crores
during the FY
- If aggregation consideration from India for
supply of online advertisement and related
services is not in excess of Rs.1 lakh
- No such turnover thresholds proposed
in the Article
- Instead, even in the instance of the
taxpayer opting for taxation on net basis
(i.e. 30% of his qualified profits), the
profitability ratio shall apply to his
turnover from ADS segment irrespective
of thresholds
Note:
 Equalisation levy is a unilateral levy imposed under the Finance Act. It is not an income tax and therefore, outside
the scope of tax treaties (this is one of the important reasons the USTR has launched an investigation against
countries including India levying such unilateral digital tax)
 However, the Finance Ministry of India has acknowledged previously that the equalisation levy is an interim
measure till tax treaties account for the changes in the digital economy

52. Difference between Article 12B and
OECD’s Action Plan 1
Article 12B is much broader in the sense, that it does not propose any size, profitability, and local revenue
thresholds that are envisioned in the OECD approach for Amount A (formula based amount which in scope meets
a nexus test in the market jurisdiction concerned and to the agreed quantum of profit represented)*
Moreover, Article 12B is more streamlined simply because, without those thresholds, the determination of
taxable income in the source country is more straightforward
Since, OECD’s unified approach under Pillar 1 involves certain complexities such as the formulaic approach for
allocation of profits, Article 12B’s gross withholding taxing rights would be a consensus based solution
However, as discussed earlier, in order to avoid treaty abuse, application of “allocation rules” in identifying the
beneficial owner would be required
*OECD’s Unified Approach under Pillar One encompassed 3 types of taxable profit
that may be allocated to a market jurisdiction (where user is located)
 Amount A - A share of residual profit allocated to market jurisdictions using a formulaic approach applied at an
MNE group (or business line) level [PBT from CFS is the preferred profit measure]
 Amount B - A fixed remuneration based on the ALP for defined baseline distribution and marketing functions that
take place in the market jurisdiction
 Amount C - – The return under Amount C covers any additional profit where in-country functions exceed the
baseline activity compensated under Amount B (the scope of Amount C is still being discussed and yet to reach an
overall agreement)

53. Way Forward
The digital industry which is vulnerable to tax challenges will be addressed only when an acceptable
global mechanism of taxation is uniformly adopted across countries
In this direction, the newly proposed treaty provision by the UN Committee would bring in a
global consensus while several countries have adopted own practices to collect their own share
of tax
However, there may not be a flawless solution for digital taxation given the constant
technological advancement, cross border nature of business and complexity of business models
Hence, the issues have to be sorted with effective negotiation of treaties with the newly
proposed Article along with a framework that is well established with nexus and profit
allocation rules (as suggested by OECD BEPS Action Plan 1)
It is to be noted that the proposal of Article 12B made by the Drafting Group is yet to be reviewed by
the Committee of Expert’s Digital Economy Subcommittee and then again by the full UN Committee of
Experts

54. Thank You!
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