India’s online gaming sector needs tax certainty in the face of retroactive taxation, ET LegalWorld

The online gaming industry in India is currently going through a turbulent phase, characterized by significant tax requirements under the Goods and Services Tax (GST) Act effective from July 2017 to September 2023. The investigative arm of the GST administration, the Directorate General of GST Intelligence (DGGI) , has issued show cause notices to 71 online gaming companies for a total amount of Rs 1.12 lakh crore, excluding interest and penalties. This total can potentially go up to over Rs 2.3 lakh crore considering the 100% penalty imposed under the GST Act. The industry is now awaiting the Supreme Court’s judgment that will determine its fate, but uncertainty affects business continuity.

At the heart of these tax demands is the classification of all online gaming as wagering, regardless of whether the play involves skill or chance. This position is contrary to established case law in which the Supreme Court and various high courts have consistently distinguished games of skill from gambling and betting. Notably, the Karnataka High Court has quashed the Rs 21,000-crore order issued to Gameskraft, highlighting the need for an individual assessment of each game to determine its nature.

In the pre-GST period, online gaming was taxed as a service under the category of online information retrieval and database access services (OIDAR) and not as betting or gambling. However, a Group of Ministers (‘GoM’) has been formed to assess the different tax treatments under GST. The government has recommended that the GST levied on online gaming should be the same as the tax on lotteries, betting and gambling, taxable at 28%. An amendment was subsequently adopted to implement the recommendation. Although this is contrary to established case law, the industry has since adapted to the new tax system and accepted the additional burden.

These burdens were intensified by additional tax demands 6 years before the amendment. Although DGGI insists that the amendment includes an explanation authorizing it to make additional demands before the amendment is implemented, this could not have been foreseen by the industry or the tax authorities and is therefore not taxable. All the more so because the industry relied on established case law distinguishing skill games from bookmaking and OIDAR standards.

If the judiciary upholds the validity of these tax decisions, the consequences could be dire: many startups could face bankruptcy, foreign investments exceeding Rs 20,000 crore could be lost, and the sector could witness significant job losses and relocation of businesses to more favorable locations. (often illegal) tax jurisdictions. This will also be a loss for the state treasury. Finance Ministry data shows a six-fold increase in industry revenues in the first three months after the October amendment, with GST contributions of around Rs 3,500 crore and potential annual collections of Rs 12,000 to Rs 14,000 crore.

For any industry to remain compliant, legal certainty and reasonable interpretation are essential. In the context of the online gaming sector, this principle is crucial to avoid ambiguity and ensure the smooth administration of the tax system. The 28% GST notification clearly states that it will be effective from October 1, 2023. For the legislature to impose this tax retrospectively, the notification must specify an earlier effective date, which is not the case. The Supreme Court has held that amendments are not deemed to have retrospective effect unless they are merely clarification in nature, which is not the case with the current GST amendments introducing new definitions and provisions.

The GST Council and the government must address this uncertainty immediately. “On-the-fly” clarification or guidance from the board could bridge the communication gap between policymakers and executives responsible for implementation, reducing unnecessary litigation and increasing investor confidence. Providing legal certainty will protect the interests of the online gaming industry and uphold the principle of fair taxation, creating a positive environment for investment and growth in India.

By resolving retrospective tax demands and clearly defining the tax regime for online gaming, the government can ensure a solid revenue stream while supporting the gradual development of this emerging sector. The GST Council must act wisely and decisively to protect the interests of all stakeholders, ensuring the continued contribution of the online gaming industry to the Indian economy. Any different decision will undermine the foundations of the rule of law and will have a huge impact on the already weakening sentiment of foreign investors. It is the need of the hour for wiser minds to prevail and ensure fair and equitable tax treatment for online gaming in India, balancing the interests of all parties.