Artificial intelligence is revolutionizing the way businesses operate, and it could be an immediate issue for governments around the world.
India will need to renegotiate some of its bilateral tax treaties as AI-based services become more common. The reason is simple. Traditional international tax rules are based on physical presence, employees and business offices. AI can allow a company to carry out major business activities in another country without having a large physical workforce there.
Indian officials say the country is at the moment taking a wait-and-watch approach. India is waiting for international bodies, including the Organisation for Economic Co-operation and Development and the United Nations, to develop clearer rules for taxing AI-enabled services.
The issue exists in a very early stage but could grow more and more important as companies use AI systems to do work across borders.
Why is AI creating a new tax problem?
International tax treaties were established to determine which country gets the right to tax income earned by businesses working across borders. These agreements keep companies from having to pay two taxes on the same income.
The biggest concept in all of these rules is the concept of a permanent establishment. In other words, a foreign company will be taxable in another country if it has a sufficient physical business presence there.
Business models have helped to make this easy to understand.
Such a foreign company could open an office in India and employ workers there. The physical office and employees would help establish a clear connection between the company and the Indian market.
AI will make it more complicated.
A foreign company could use AI powered software, autonomous systems, or AI agents to perform important business activities for an Indian subsidiary without sending employees to India.
AI could also allow companies to use automated systems for development, customer support, data analysis and other business functions from outside the country.
This presents a hard ask for tax authorities.
If a company earns significant income from economic activity taking place in India but does not have employees or a traditional office in the country, should India still have the right to tax that income?
Indian officials believe existing rules may not cover this situation.
The problem could become even more complex as AI systems become capable of performing increasingly sophisticated tasks.
A foreign company, for instance, could deploy AI based developers or software agents that work for an Indian business. The systems could perform functions that previously required employees to physically work in India.
AI-powered robots could present another challenge. A foreign company could potentially deploy autonomous machines in India for installation, supervision or maintenance.
This could lead to what officials refer to as technology-enabled presence without the traditional human workforce.
The question then becomes whether such activity should create a taxable connection in India.
India Is Waiting for Global AI Tax Rules
India is not expecting to change its tax treaties immediately because of AI. Some officials are waiting for international discussions to produce clearer guidelines.
The OECD already plays a major role in shaping international tax rules. Its model tax convention is an international reference for thousands of tax treaties around the world.
The United Nations is also working on international tax issues including taxation of services.
According to Indian officials, the existing framework may need to expand to cover AI enabled services that do not fit comfortably within current treaty provisions.
When international guidelines become clearer, India might consider changes at both the multilateral and bilateral level.
That could eventually mean renegotiating some of those existing tax treaties with other countries.
We could see a number of areas that need attention. These include tax residency, permanent establishment, fees for technical services and the treatment of expenses related to AI based activities.
Governments may also need to decide where income generated by AI services should be taxed.
The problem is not only with India.
Countries around the world are dealing with the same question as they become more digital and more dependent on AI. The traditional idea that a company needs people and offices in a country to conduct business is becoming less straightforward.
At the same time, AI could potentially change how governments themselves collect taxes.
Tax authorities can use AI to look at huge amounts of financial and transaction data. Such systems can detect unusual patterns and transactions that may be difficult to detect using traditional methods.
This might help governments to better comply with tax laws and to identify tax evasion.
But AI in tax assessment can also lead to new disputes. Taxpayers may question how an AI system reached a particular conclusion and whether tax authorities should rely on automated findings when making important tax decisions.
So governments will need to take both sides of the issue into account.
They will have to create rules for taxing AI based business activities while also deciding how tax authorities should use AI themselves.
For India, the immediate focus is international conversations. They are waiting for detailed frameworks from the OECD and UN before deciding how current treaties should change.
The goal will be to make sure that AI-enabled income does not fall outside the tax system simply because it does not involve a traditional physical presence.
At the same time, new rules will need to avoid creating unnecessary confusion for international businesses.
The growth of AI is therefore creating a tax challenge which governments can’t ignore. As AI systems take on more work and companies are less dependent on physical offices and employees, traditional tax concepts may no longer be enough.
So India could eventually need to revise or renegotiate bilateral tax treaties in order to respond to this new reality.
The country is waiting for global rules to take shape for now, but as AI becomes a more significant part of cross-border business, the question of who gets to tax AI-generated income is likely to be an increasingly important one for governments and companies alike.
