India's tax authorities have issued notices to as many as five large foreign digital companies, asserting that their activities in India meet the threshold of a permanent establishment (PE), according to sources familiar with the development. The move could significantly alter the tax position of global digital firms operating in the country and trigger prolonged litigation.
The companies are preparing to challenge the assessments, either before the assessing officer or the Dispute Resolution Panel (DRP).
According to a source, "Four to five large foreign digital companies have already received tax notices that their Indian operations constitute a permanent establishment. In some cases, assessments have already treated them as PE."
What Constitutes a Permanent Establishment
A permanent establishment refers to a fixed place of business through which a foreign enterprise carries on business in another country. Once a company is classified as having a PE in India under domestic law or applicable tax treaties, it is considered to have a taxable presence in the country.
In such cases, Indian tax authorities are entitled to attribute a portion of India-linked income to the PE, allow deductions for related expenses and tax the resulting profit. For foreign companies, the applicable corporate tax rate is 35%.
Testing the PE Boundary in the Digital Economy
At the heart of the dispute lies the interpretation of permanent establishment in the digital economy, where companies can generate significant revenue without maintaining a traditional physical office.
Tax authorities are examining whether digital, operational or technical arrangements, even in the absence of conventional infrastructure are sufficient to establish a taxable presence in India.
"The demand depends entirely on how the PE is calculated. Once that is decided, income attribution follows," the source said.
While the principle is to tax revenue minus expenses, determining attributable profits is often contentious.
"In theory, it is simple, but in practice, it is exceedingly complex. Every assumption is contested," the person added.
Digital Firms Push Back on PE Classification
The foreign digital companies argue that their presence in India is limited to communication or facilitation arrangements, which they claim do not create a PE.
"They are saying their digital Indian operations do not amount to a permanent establishment. Accepting the tax department's view would fundamentally change their tax position," the source said.
The companies have engaged with the tax department and are expected to formally initiate litigation at the assessment or DRP stage. Once a case enters the judicial process, the Central Board of Direct Taxes (CBDT) typically refrains from administrative intervention.
Government Weighs Presumptive Tax Model
The complexity of PE-based profit attribution has prompted the government to examine alternative taxation models for digital businesses.
An internal report has suggested a presumptive tax regime, under which tax would be levied as a fixed percentage of revenue, instead of relying on detailed and dispute-prone profit calculations.
"MeitY is pushing a presumptive tax approach. A similar model was adopted earlier for electronic manufacturing companies," the source said. Such a framework could significantly reduce disputes over margins, expenses and cost allocation.
However, foreign digital companies are resisting the proposal.
"From their perspective, agreeing to a presumptive tax model is equivalent to conceding that they have a PE in India, which is precisely what they want to avoid," the person said.
High-Stakes Litigation Ahead
With high-value tax demands and unresolved questions on how PE concepts apply to digital businesses, officials and companies expect the disputes to move through multiple appellate levels.
"This is the first real test of how India will apply the permanent establishment concept to digital companies. The outcome will set the tone for future cases," the source said.
As India sharpens its tax approach to the digital economy, the cases are likely to play a critical role in shaping the country's cross-border taxation framework in the years ahead.
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