Bangalore/New Delhi: E-commerce companies including Flipkart , Amazon and Snapdeal are funding discounts on their sites using mechanisms as complex as the complicated structures some have adopted to circumvent foreign direct investment (FDI) laws in India.

The three major e-commerce companies operating in India—Flipkart, Amazon and Snapdeal—all operate as marketplaces. That’s primarily because Indian law doesn’t allow FDI in e-commerce sites that sell directly to customers, but allows it in marketplaces that link sellers and buyers. The marketplaces also provide services such as payment, storage and delivery.

As direct retail is banned, marketplaces are not allowed to exercise control over the product prices of the sellers on their platforms, including on the matter of discounts.

Still, Flipkart, Amazon and Snapdeal do actually have a significant say in deciding product prices as all the three sites finance part and, in some cases, the full amount of discounts offered by sellers albeit in an indirect manner, according to six people with direct knowledge of the matter. None of them wished to be identified, given the sensitivity of the matter.

The indirect manner of funding discounts (detailed below) may pose another headache for state tax authorities, which are already struggling to understand the business models of e-commerce firms.

The Karnataka commercial tax department has stopped Amazon India from selling electronics and several other products from its warehouse in the state by cancelling the licences of third-party merchants that work with the local unit of the world’s largest online retailer, Mint reported on 15 September.

Discounts are essential for e-commerce firms. Shoppers have taken to online shopping in a big way, mostly because of the lucrative discounts offered by e-commerce firms. At the same time, the deep discounting has attracted the ire of brick-and-mortar retailers, which are fighting to survive after losing customers to online retailers.

The discounting process highlights some of the ways in which these sites spend the huge amounts of money that they have raised from investors, or in Amazon’s case, received from its parent company.

Since starting out in 2007, Flipkart has raised $1.8 billion from investors such as Tiger Global Management and Naspers, including $1.2 billion this year. Snapdeal will soon receive more than $600 million from investors led by Softbank Corp., adding to the $233.7 million it raised earlier this year, Mint reported on 18 September.

According to analysts, the various methods of offering discounts adopted by e-commerce firms also reinforces the need for state governments to issue clarifications on e-commerce and come up with a clear tax code addressing the nascent but fast-growing business.

Mint lists some of the ways in which the three sites—Amazon, Flipkart and Snapdeal—fund discounts on their sites.

After comparing prices with other sites, Amazon recommends the amount of discounts to its sellers on products, but doesn’t force them to adopt these suggested prices. Sellers, however, end up keeping these suggested prices because Amazon finances the discounts. This is how it works: at the end of a certain period, sellers send a debit note to Amazon titled “promotional funding". This note contains the amount of discount that the seller gave on apparel, electronics, toys and other products sold on the site. Amazon then pays the seller by cheque and in some cases, also gives additional money as the seller’s margin. This debit note is over and above what Amazon collects from the customer.

The debit note also includes service tax that the seller collects from Amazon on the amount of the discounts. The seller then pays the service tax to the central government. In effect, the amount of discounts are currently being treated under central service tax laws rather than state tax laws.

For instance, if a product priced ₹ 100 is sold for ₹ 70 by a seller on Amazon, the online retailer will collect ₹ 70 from the customer, keep a cut for itself, and give the remaining proceeds to the seller. Then, Amazon will also give the seller an additional amount to account for the discount offered by the seller. This amount could be ₹ 30 or lower.

This method potentially poses a problem for state tax authorities. Tax is typically charged on the product when there’s a transfer of ownership.

In the case of e-commerce, sales tax is collected on the cost of the product and then on the price at which it is sold to the final customer. If a product is sold on a site below the cost price—as it happens in some cases—then the tax collected from the customer is much lower than what was paid originally. In this case, the seller would potentially be eligible to get a tax refund from the concerned state tax department.

An Amazon spokesperson insists that, “prices for products on the Amazon.in marketplace are determined by the sellers. We work hard and continually innovate to offer services such as FBA (Fulfilment by Amazon) and Easyship to sellers on our platform, that enables them to significantly lower their cost of selling and reducing defects as they sell to a nationwide customer base. Sellers pass on these savings as lower prices on the platform. On occasions, to promote our platform, we run marketing promotions".

“We cannot comment on the tax practices of sellers who are independent business entities and responsible for their own taxes. As and when requested we extend our full cooperation to the tax authorities so that they are able identify and prevent tax leakages if any," the spokesperson added.

WS Retail Services Pvt. Ltd, a seller on Flipkart, accounts for more than 75% of the site’s sales. For products sold by WS Retail, Flipkart doesn’t fund discounts. However, with other sellers, Flipkart suggests prices but unlike Amazon doesn’t typically pay the amount of discounts to sellers by cheque. Instead, it forgoes commissions or listing fees that marketplaces usually charge their sellers, according to two of the six people cited above.

During Flipkart’s recent Big Billion Day sale, many of the sellers apart from WS Retail were simply promised a certain amount and discounts were almost entirely funded by Flipkart. Sellers were paid through bank transfer by Flipkart, according to the people cited above.

With WS Retail, though, Flipkart has a closer business relationship.

WS Retail was owned by Flipkart co-founders Sachin Bansal and Binny Bansal (unrelated) until September 2012. The Bansals and two of their relatives were also board members at WS Retail.

In September 2012, the Bansals were forced to sell a large stake in WS Retail to former OnMobile Global Ltd chief operating officer Rajeev Kuchhal, just weeks before the Enforcement Directorate launched an investigation into the company’s business relationship with WS Retail. Both the Bansals and their relatives gave up their board seats, too.

Mint reported on 6 October that Tapas Rudrapatna and Sujeet Kumar, known to be close to the Bansals, control 46% of WS Retail, according to filings with the Registrar of Companies (RoC). Rudrapatna and Kumar were employed by Flipkart at least until September 2012. Their email addresses are still those of Flipkart, though Sujeet Kumar is listed as a permanent employee of WS Retail in documents with the RoC.

A Flipkart spokesperson did not reply to an email seeking comment.

Like Amazon, Snapdeal also finances part or full discounts given by most of its sellers. Snapdeal pays sellers by Real Time Gross Settlement, a form of Internet banking, or by cheque. Snapdeal refers to the discounts as “promotional expenses".

During Snapdeal’s recent Buy One, Get One promotional offer, sellers were paid for both products by Snapdeal, which charged its commission fee only on one item.

A Snapdeal spokesperson did not reply to an email seeking comment.

mihir.d@livemint.com

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