Technology plays a vital role in today’s world making our daily lives simpler. From medical diagnoses to business operations, from communication to education, everything seems impossible without technology. This pandemic has evidenced the same. Life would have come to stand still without it. But nothing stopped. Technology has infiltrated every aspect of our lives, changing the way we work, the way we learn and the way we shop.
There has been an ongoing paradigm shift in business from physical to digital. With technological advancement, it is possible for digitally enabled businesses to operate in various markets globally. Increasing dependency on such technology has helped companies to boom with escalated revenues. Such companies operate in multiple countries with limited managerial jurisdiction and without having physical presence in any of them. Many countries provide a huge customer base and help them earn big sum but for no gain. This has been a pinching point for such nations for years. As a result physical nexus based tax rules are no longer appropriate to bring incomes from the market (where such companies don’t have place of business) under the tax net.
India being a developing country is a large market for such technology giants providing a huge subscriber base. It is quite justified if the country claims it’s fair share of the mushrooming revenues of these technology companies. This led to implementation of the concept of ‘Significant Economic Presence’ in the Indian Income Tax Law. The Finance Act, 2018 has widened the scope of Business Connection to include Significant Economic Presence, thus bringing in the Indian operations of such foreign corporations within the ambit of the Indian Tax System.
Meaning of SEP
Significant Economic Presence means transactions of goods and services with any person in India, including provision of download of data or software in India, if either of the following conditions is met:
- the aggregate of payments arising from such transactions exceeds a specified limit, or
- the engagement with Indian consumers exceeds a specified number
This inclusion has expanded the scope of income of a non resident that accrues or arises in India and taxable in India. This concept basically targeted income from operations in online/ digital space such as e-commerce and online streaming.
In 2018, when the scope of business connection was widened, the thresholds were not defined. It waited for OECD nations to develop a consensus where most of such tech-giants are based. But it didn’t come from their side. Finally in May 2021, India came forward with threshold limits to operationalize the SEP for non resident companies
Government prescribed limits for SEP as below
- Transaction in respect of goods and services carried out by a non resident with any person in India including provision of download of data or software in India, if the aggregate of payments arising from such transactions during the previous year exceeds INR 20 million or
- Systematic and continuous soliciting of business activities or engaging in interaction with more than 3,00,000 users in India
Recently, income tax law was amended to provide that SEP would include the income from:
- Advertisement targeting an Indian resident customer or a customer accessing the advertisement through an Indian IP address
- Sale of data collected from Indian residents or from persons who use an Indian IP address, and
- Sale of goods or services using data collected from Indian residents or from persons who use an Indian IP address
However, the above list is not an exhaustive list. Any revenue generated from activities covered under the definition of Significant Economic Presence would also be taxed
Ambiguities still to be addressed for SEP
1. In order to avoid double taxation of income across globe, every country enters into DTAA (Double Taxation Avoidance Agreement) with various nations. DTAAs don’t provide for taxation of business income of non residents in the absence of Permanent Establishment (PE) of the non resident in the source country. Hence, unless the DTAA provisions are reframed to incorporate changes as per SEP, the impact of the same would be limited. Currently, it would be applicable only tothose non residents residing in countries with which India does not have tax treaty ;and to those non residents who are not eligible to claim benefits of DTAA. Many DTAA partners would be unwilling to broaden their tax rules as it wouldleave them exposed to higher taxes in India.
2. There are some uncertainties attached to SEP scheme which needs to be clarified before the same could be implemented.
- The phrase ‘systematic and continuous‘in the definition of SEP needs to be elaborated.
- Data source for the above transactions is to be figured out
- The threshold prescribed seems to be on a lower side, needs to be reworked with consensus of OECD nations.
- It is still not clear that only resident users will be considered for computing the threshold limits or any user located in India at the time of undertaking the transaction using Indian IP address would also be taken & into account.
FAQs — Significant Economic Presence (SEP)
1. What is Significant Economic Presence (SEP)?
Significant Economic Presence (SEP) is a tax concept introduced into the Indian Income-Tax Act to determine when a non-resident has a “business connection” in India — even without a physical presence — based on digital or economic activity in India. Under Explanation 2A to Section 9, SEP is deemed to create business connection for a non-resident, causing their income attributable to SEP activities to be taxable in India.
2. Why was SEP introduced?
SEP was introduced because traditional tax rules depended on physical presence (like a permanent establishment) to tax non-resident income. With digital businesses, a company can earn significant revenue in India without physical operations here, so SEP helps ensure such economic activity is not outside the Indian tax net.
3. What activities can create SEP in India?
SEP may arise when a non-resident:
- Carries out transactions of goods, services, or property with a person in India if payments exceed a threshold.
- Is systematically soliciting business or interacting with users in India through digital means above a specified user threshold. These activities form SEP irrespective of where the agreement was signed or where the non-resident has a physical location.
4. What are the prescribed thresholds for SEP?
Under Rule 11UD of the Income-Tax Rules:
- Monetary threshold: Aggregate payments exceeding ₹20 million (₹2 crore) in a financial year.
- User threshold: 3 lakh users in India in a year through digital means.
A non-resident meeting either threshold may be considered to have SEP in India.
5. Does SEP mean the entire income of a non-resident will be taxed in India?
No. Only the income attributable to the SEP activities in India will be taxable. SEP creates a business connection, so the portion of profits from Indian economic activity is taxed, not the global income of the non-resident.
6. Does SEP require a physical office or employees in India?
No. Unlike the traditional permanent establishment (PE) concept, SEP does not require any physical office, location, or personnel in India. SEP looks at economic engagement (transactions or user interactions) to establish business connection.
7. How is SEP different from a Permanent Establishment (PE)?
A PE typically requires a fixed physical presence (like an office, branch, or dependent agent) in India. But SEP is not based on physical presence — it considers economic activities such as digital transactions or user engagement that indicate economic involvement in India.
8. Will SEP impact only digital businesses?
Although SEP is especially relevant for digital and e-commerce companies with online transactions and user bases, its definition in the tax law technically covers any business income from transactions with Indian residents that cross the prescribed thresholds.
9. How does SEP affect tax treaties (DTAA)?
Many Double Taxation Avoidance Agreements (DTAAs) still rely on the PE concept. SEP may not automatically override treaty provisions, so relief under treaties — including the absence of a PE — may limit India’s ability to tax SEP-based income if the treaty does not explicitly recognize SEP.
10. Do Indian customers or users need to report anything under SEP?
No. The onus of compliance and reporting rests with the non-resident entity that meets SEP thresholds. Indian customers or users generally do not have reporting obligations related to SEP. (This is a practical interpretation based on the law’s focus on non-resident liability.)
11. How is SEP taxed in India?
Once SEP is established and deemed to be a business connection, the income attributable to activities in India is taxable under Indian income tax rules, and the payer may also have withholding (TDS) obligations on payments to the non-resident.
12. Is SEP applicable only from a specific date?
SEP provisions were introduced in the Income-Tax Act via the Finance Act, 2018 and were made operational from 1 April 2021 (Assessment Year 2022-23).
13. Can SEP lead to double taxation?
Yes — SEP can create tax obligations in India even if a non-resident is taxed in their home country. Tax treaties or credits may help avoid double taxation, but if a treaty doesn’t recognize SEP, relief may be limited. Professional tax advice is often needed.
