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The Hindu Business Line
Tax Partner, Retail and Consumer Products
Ernst & Young
Indian retailers who deal mainly in physical sale of goods and a bit of Internet-based sales may need to restructure suitably to ensure the business is FDI-compliant.
Momentous announcements were recently made for FDI in Indian retail. However, this victory in a nail-biting finish for the retail sector may possibly prove a twisted turn for e-commerce retailers.
Historically, an e-commerce entity with foreign investment is allowed to undertake B2B business, whereby products are sold to other businesses. With FDI further liberalised, it was anticipated that B2C e-commerce too would be opened to FDI.
However, according to the Ministry of Commerce press note, FDI is not permitted in B2C e-commerce, irrespective of whether the products are single or multiple brands.
The rationale for disallowing FDI in e-commerce multi-brand essentially seems to emanate out of conditions attached to foreign investment.
Geographically, a multi-brand retail store with FDI can be set up only in cities with population exceeding one million, according to 2011 census. Further, the sales outlet should meet specifications related to investment in backend infrastructure. There is possibility that a virtual sales channel could create difficulties in tracking or fulfilling these conditions and, hence, FDI is not permitted.
This restriction may impact existing Indian retailers who deal mainly in physical sale of goods and a bit of Internet-based sales. Such retailers planning to invite foreign investment may need to explore appropriate restructuring to ensure the business is FDI-compliant.
Further, the move to disallow FDI in single-brand e-commerce may impact a host of single-brand players in India who sell through a store-plus-Internet format.
They will have to fold up the Internet-based structure or seek clarifications/ exemptions from the Investment Board.
Rolling back the online structure would involve further consideration from a commercial, income-tax, indirect tax, valuation and FDI standpoint.
Along with FDI, taxation is a key consideration impacting e-retailers’ business model, operational strategy and future growth. Lack of physical boundaries and the intangible nature of operations create several income-tax and indirect tax issues at each stage of the value chain.
Server management: In e-commerce, the company owning and operating the server is likely to be different from the e-commerce entity hosting the Web site. When the server is located outside India, and leased and operated by the e-commerce entity, there could be taxation issues.
Advertisement and promotion: E-commerce companies provide customers various incentives such as credit points, cash back, cash rollover, re-purchase discounts, buy one–get one free, combo-pack discounts and so on. The valuation of products and services for indirect taxes are, in general, based on the stream of considerations received, and an incorrect valuation could expose the e-commerce companies to higher taxes, interest and penalties.
Order processing: If e-commerce companies source products based on customer orders, it may result in a ‘predetermined’ sale, which, in turn, could be considered an inter-State/ CST transaction leading to loss of tax credits.
Stock procurement and management: E-commerce companies engage in activities such as branding, repacking, labelling, re-affixation of MRP, gift wrapping and so on for shipping products to customers. Based on the activity and the value addition to the final product, it may qualify as ‘deemed manufacture’, under the Central Excise Legislation, chargeable to excise duty.
Despatch and delivery: The supply chain of e-commerce companies is usually thin and hence they use drop shipment, wherein the vendor of the e-commerce company directly delivers the product to customers. The vendor, the e-commerce company and the customer could be in different States and the place of taxation could vary based on the transaction. Further, registration and compliance management in the respective States would pose significant challenges to the e-commerce company.
Invoicing and collection: The USP of e-commerce companies is the timely delivery of products. The transactions could be so structured between the vendor, e-commerce companies and the customer that the issue of invoice, which is a document for transfer of ownership, happens at a later date. The time for issuance of invoice and the time and place of ownership transfer are usually regulated by the State VAT/CST legislation; deviation from compliance and ownership aspects could expose the company to the risk of taxes, interest and penalties.