Article on international taxation - published in IFA (Aug'09)

“Cross border Services – Need for Double Taxation Avoidance pacts!!!”


International trade in service has expanded rapidly as a result of globalization, aided significantly by the revolution of communication technology. With increasing globalization, international business models have developed to assist in organizing supplies in the most cost efficient manner to a business group located across the globe.

The business models those are unique for procurement of goods such as establishing a centralized procurement entity to ensure quality and competitive procurement, is being adapted to services procurements through new business models such as framework agreements (referred as “umbrella agreements”) and/or centralized procurement service agreements.

Evolution of the above business model has made the international community to realize that there is a need to evolve a global taxation principle to avoid double taxation or non taxation of the cross border services transactions. The principles laid down inrelation to taxing cross border transaction of goods, seems to work less effectively in cross border services due to uniqueness such as, intangible nature and different approaches followed by Countries as regards taxation of services. For example, while certain countries adopt distinct statutes to tax sale and services, others with a view to avoid confusion prefer to tax the same under a combined levy known as Goods and Service Tax.

As a result of the above complexities, the International community had to face difficulties and many studies have been conducted in the global organizations such as OECD to evolve the best practices on taxing cross border transactions that would achieve the objective of avoiding non taxation or double taxation of the cross border services.

From Indian Service tax perspective, inline with the consultation paper of OECD’s the legislation has framed the concept of ‘export of service’ to nullify the taxation impact on ‘export of services’ and the concept of ‘import of services’ to levy taxation on import of services. However, the provisions established to achieve the objectives are subject to varied interpretations and would require a revisit.

For instance, the OECD guideline has evolved the concept of “contractual consumption” to tax cross border services, which proposes to decide the country of taxation based on the ‘contracts’ rather than actual performance or delivery of services.

To illustrate in Case Company A, India (service provider) enters into contract with Company B, USA (global procurement entity) for provision for software services to a subsidiary of Company B which is located in India, say Company B1. The services would be delivered by Company A, India directly to Company B1, India and would be used by Company B1, India. However, billing and contract would be between Company A, India and Company B, USA and the consideration for the services would be paid in convertible foreign exchange.

In the above illustration, the OECD guideline has recommended that the transaction would have to be taxed in USA as import of services, emphasizing only on the aspect of “contractual obligations”, without attributing weightage for the factors such as place of performance of service, usage of service etc.

However, from Indian Service tax legislation perspective, it has to be established that the services are “used outside India” to qualify for exemption as ‘export of service’, the term “used outside India” is subject to varied interpretations and in the above illustration whether the services would qualify for exemption in India is subject matter of litigation.

Similarly, in case of ‘import of service’ from Indian Service tax legislation perspective, whether receipt or consumption of services physically in India or contractual receipt would attract levy requires clarity.

The above illustrative scenarios, brings out the potential double taxation impact into focus that the service could be potentially be taxed in both the exporting and importing jurisdictions.

The need of the hour is therefore to develop a robust and uniform taxation principle of services across countries to avoid the situations of double taxation or non taxation of cross border services. In an alternate, is it a time for global Organizations such as OECD to evaluate and evolve a Double Taxation Avoidance Agreements (‘DTAA’) between the global economies, is a point to ponder!