Mr. Arun Jaitley, India’s Finance Minister (FM), while presenting the Budget for 2016–17 has outlined nine distinct pillars as part of the “Transform India” agenda. Fiscal deficit and tax reforms have been identified as two of these distinct pillars. As far as fiscal discipline is concerned, the FM has indicated his resolve to maintain fiscal deficit target for FY17 at 3.5% of GDP, which has since then cheered the bond markets with the hope of an eminent rate cut by the Reserve Bank of India. Inherent in this fiscal deficit working, is the assumption of nearly 12% increase in tax revenues along with a nearly 10% decline in major subsidies comprising fertilizers, food and petroleum. A break-up of these numbers reveal that overall tax buoyancy of 1.06 has been assumed for FY17, as compared to a high of 2 for FY16. The FM, therefore, has been reasonably conservative in his tax revenue growth projections. However, there is a relatively high tax buoyancy assumed for personal income tax at 1.73, which translates into a nearly 19% increase in revenues on this account. Clearly, the FM expects incremental revenues to accrue due to increase in the surcharge rate from 12% to 15% in case of individuals earning more than INR10 million and the Special Dividend Tax of 10% on resident individuals earning in excess of INR1 million dividend income. The other key highlights of the tax proposals are as follows:
Corporate tax reforms: The FM made a much awaited announcement to indicate a road map to reduce corporate tax rate from 30% to 25% and phasing out tax exemptions and deductions over the next four years. Considering the tepid performance of exports, it is heartening to note extension of the tax benefits for units set up in Special Economic Zones (SEZs) before 1 April 2020. The reduced rate of 25% (in lieu of not claiming any tax incentive) will apply to newly set up companies engaged in manufacturing activities. This is likely to be a dampener as the industry was expecting a phased reduction in corporate tax rates across the board beginning 1 April 2016.
Make in India initiatives: The FM announced tax incentives for employment generation to all sectors by way of deduction of 30% on additional wages paid to certain categories of employees. This deduction was earlier restricted only to the manufacturing industry and due to the restrictive nature of the prescribed conditions, it did not seem to have benefitted the industry as a whole. As promised by the Prime Minister, there is a 100% exemption from tax on profits earned by a start up in any three out of the first five years. However, the applicability of Minimum Alternate Tax (MAT) to such start-ups is a dampener. There is a rationalization in customs and excise duty rates on certain inputs used in the information technology hardware, capital goods, textiles, chemicals and petrochemical industries, which seems to be a move to improve the competitiveness of the domestic industry by reducing costs. However, in certain sectors, there are still inherent inefficiencies arising out of an inability to claim input tax credits, which unnecessarily drive up the cost of those businesses and which, therefore, need to be rectified forthwith. The FM has announced a special concessional tax regime for taxing royalties earned by Indian residents from patents developed and registered in India at a reduced rate of 10%. India thus follows the footsteps of quite a few countries worldwide for example, UK and the Netherlands in a bid to attract development of original research in India. While this is a laudable move, it is hoped that conditions prescribed are not too onerous to make this scheme non-workable.
Base Erosion and Profit Shifting (BEPS) action plan: BEPS has inspired two changes in the FM’s Budget this year. One expected change is the Country by Country Reporting for a multinational headquartered in India and with global revenue of US$750 million, which will enable the Indian tax authorities to have transparent access to the value creation in the entire group on a global basis and to ascertain fair attribution of revenues to India. However, the unexpected BEPS-related provision is the new equalization levy at 6% on online advertisement revenue earned by a non-resident from Indian residents carrying on business in India. India could perhaps have waited for a multilateral consensus among the G20 countries as the vexed area of digital taxation is still inconclusive under the BEPS agenda.
Dispute resolution: There are four different schemes announced by the FM in an attempt to reduce the backlog of disputes in India. First, there is a scheme to enable settlement of past cases pending before the Commissioner (Appeals) if the taxpayer pays up the disputed tax and applicable interest plus 25% of the minimum penalty applicable to the disputed demand. While this is a good attempt to clear the backlog, the requirement to pay 25% minimum penalty may prove counter-productive especially, since it is well known that in very many cases, penalty proceedings are initiated even in respect of adjustment to taxable income arising out of differences in interpretation rather than concealment of income. The second scheme relates to tax demands arising out of retrospective amendments and which are contested by the taxpayer before any Appellate Authority or Arbitration Council under an applicable investment treaty. Under this window, if the taxpayer pays up the disputed tax and withdraws all proceedings in appeal/arbitration, there is a waiver of interest and penalty provided for. While this is a good attempt by the Government to try and resolve long-pending cases arising out of the ill-conceived retrospective amendments of the past, it remains to be seen whether the affected companies will be sufficiently enthused to cough up large amounts of tax liabilities, since they rightly perceived these demands to be unjust in the first place.
There is a revamp of the penalty provisions with a distinction being made between penalties arising out of under-reported income and mis-reported income. The prescribed penalty of 50% of the tax payable in respect of under-reported income is a welcome move as it recognizes situations of genuine errors on part of the tax payer while reporting his taxable income. However, there is a special penalty of 200% of tax payable on mis-reported income and the fear here is that even in cases of tax demands arising out of differences in interpretation between the taxpayer and Revenue Authorities, this penalty of 200% will compulsorily be payable by the taxpayer, which is clearly an unfair proposal and this needs to be recalibrated. Finally, there is a one-time disclosure scheme for unaccounted income where-under a taxpayer is required to pay a total of 45% of such undisclosed income in lieu of immunity from prosecution. This scheme does not extend to undisclosed income outside of India, which was already covered under the Black Money Act 2015. Although the Government has declared that this is not a revenue-raising measure, it will be interesting to ascertain the response to this scheme considering the fact that the offshore black money scheme proved to be a damp squib due to the onerous conditions imposed thereunder.
The FM will need to watch tax revenues very closely in FY17 as he has set himself a rather ambitious target to garner and increase the non-taxable revenues to the extent of
25% in FY17. The main components of the non-tax revenues are the disinvestment target of INR360 billion and Spectrum sale target of INR990 billion. Let us hope that the FM is able to meet these non-tax revenue targets, else it is feared that the burden will fall on tax revenues to ensure the adherence of the overall fiscal deficit target of 3.5%. There is also a down-side risk of turmoil in the global economy and marginal increase in oil price, which could derail the fiscal consolidation plan of the FM. Since the Indian economy continues to march forward, it is not going to be an easy job for the FM to manage the many contradictory forces at play. We wish good speed to him to help him achieve this ambitious budget plan to transform India in a sustainable manner.