The demand creates a new headache for WhatsApp and its US parent Facebook, which have placed big bets on the South Asian nation to expand their payments and other businesses.
"The proposed changes raise grave concerns regarding the implications for the choice and autonomy of Indian citizens," the Ministry of Electronics and Information Technology wrote in an email to WhatsApp boss Will Cathcart dated January 18.
"Therefore, you are called upon to withdraw the proposed changes," the ministry wrote in the letter seen by Reuters.
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California-based Facebook invested $5.7 billion last year in the digital unit of Indian conglomerate Reliance with a huge part of that aimed at drawing in tens of millions of traditional shop owners to use digital payments via WhatsApp.
With 400 million users in India, WhatsApp has big plans for India's growing digital payments space, including selling health insurance via partners.
Those aspirations could take a hit if Indians switch to rival messengers such as Signal and Telegram, downloads of which have surged after WhatsApp said on Jan. 4 it could share limited user data with Facebook and its group firms.
It is of "great concern" that Indian users have not been given the choice to opt out of this data sharing with Facebook companies and are being given less choice compared to the app's European users, the tech ministry letter said.
"This differential and discriminatory treatment of Indian and European users is attracting serious criticism and betrays a lack of respect for the rights and interest of Indian citizens who form a substantial portion of WhatsApp's user base," it said.
The ministry asked WhatsApp to respond to 14 questions including on the categories of user data it collected, whether it profiled customers based on usage and cross-border data flows.
The company said last week it would delay the new policy launch to May from February, after facing criticism from users in India and elsewhere to the new terms.