Intangibles really matter in a global economy. Why double tax them?

Taxing intangibles remains a contentious issue under indirect taxes. Conflicts typically revolve around the following: appropriate jurisdiction for levying taxes; applicable treatment of intangibles, which could be taxed as services or as goods; and identifying the situs, which could be the place of intangibles? supply or consumption?this conflict is particularly common when the arrangement is between provider and receiver, but for the benefit of a third party.

As the traditional indirect tax structure is replaced by the goods & services tax (GST), it will need to specifically identify the situs for taxability. Unfortunately, identifying situs for taxing intangibles is inherently difficult and assumes even greater complexity given the federal nature of indirect taxes in India. The wider definition given to intangibles under the indirect tax structure?any movable property having intrinsic value other than specific exclusions?has caused intangibles to be taxable both as goods (and therefore under state VAT laws) and services (and therefore under the Central service tax law). This effectively results in a dual tax, with a multiplicity of taxes cascading down to impact costs and prices.

A fractured credit mechanism ?non-availability of state VAT paid on intangibles as credit to offset CENVAT/service tax and vice versa?also remains a major cause of concern for the stakeholders, impacting export refunds of unutilised credits. Fundamentally, international trade should occur at economic value. But given the fractured credit mechanism, it is difficult for a business enterprise to claim (or receive) refunds of all input taxes that form part of export value.

So a long-standing demand of trade and industry is for GST to introduce a more dynamic definition of goods and services, such that transactions in intangibles are not taxed twice. To this end, it is important for the policymakers to a) determine appropriate rules to identify situs for intangibles, b) ensure that interstate and intrastate transactions in intangibles are only taxed at one level, c) determine principles for identifying cross-border transactions in intangibles and ensuring they are in sync with other major economies, and d) identify rules for efficiently tracking and refunding input taxes for intangibles exported .

The European Union, the Organisation of Economic Cooperation and Development and other nodal organisations have evaluated the challenge of taxing intangibles. Their studies recommend levying VAT/ GST or similar consumption taxes on transactions based on the place of consumption, especially when transactions are between business entities (as opposed to between a business entity and an end-user/consumer). The EU and OECD have recommended the reverse charge mechanism for levying and collecting VAT/GST for transactions between two different jurisdictions, enabling the receiver of intangibles to claim input tax credits of reverse charge payments. India may adopt this approach, if its policymakers draft prudent rules and regulations for identifying interstate and cross-border transactions in intangibles and identifying the place where VAT/ GST liability occurs.

Another important concern is appropriately identifying taxable values. Different pricing and costing structures have evolved in transactions of intangibles. For example, software development has evolved from developing software and then identifying its users (as seen in standard software development such as Windows or Lotus Notes) to developing a software framework and customising it for specific client uses (as seen in ERP-based softwares such as Oracle or SAP). Such changes pose additional challenges in identifying appropriate taxable values.

In looking forward to the dual GST structure, India Inc hopes this will reduce complexities, dual taxation, restrictions on credits and so on?smoothening the way for business.

?The author is a tax partner, Ernst & Young, India