Enjoying tax holidays, IT firms won't gain much from the rate cut

The effective tax rate for TCS in FY19 stood at 24.1 per cent, while for HCL Technologies, it was 19.8 per cent

Indian information technology (IT) services firms will not gain much from the government’s move to reduce the corporation tax rate. With many of them claiming exemptions under the SEZ (special economic zone) regulations, their effective tax rates are already below the revised corporation tax rate of 25.17 per cent, which includes both surcharge and cess.

Among the top-tier IT firms, Infosys is the only firm that is likely to get a marginal benefit of the new tax rate. The benefit for the company is likely to be around 1.6 per cent, as the Bengaluru-headquartered firm's effective tax rate stood at 26.8 per cent in FY19. 

The effective tax rate for market leader Tata Consultancy Services (TCS) in FY19 stood at 24.1 per cent, while for HCL Technologies, it was 19.8 per cent. Similarly, the effective tax rates for Wipro and Tech Mahindra stood at 21.9 per cent and 22.4 per cent, respectively.

“Tax rates are lower for most of the IT firms because some of their operations are still governed by the SEZ (special economic zone) regulations,” said Shriram Subramanian, founder of corporate governance advisory firm InGovern. “The full extent of the tax benefits will accrue to the IT companies only after tax holidays under the SEZ clause come to an end.”

Though tax benefits will not accrue to IT firms immediately, some of the companies are expected to benefit from the increased IT spending by enterprises in the financial services and manufacturing space.

"The announcement will allow manufacturers to scale up their operations in the existing plants, as well as to plan for setting up newer ones, thus creating new jobs. For engineering services companies, such as L&T Technology Services (LTTS), this is a positive development as it will encourage the implementation of digital engineering and leading-edge technologies in the manufacturing sector, areas in which LTTS specialises," Keshab Panda, managing director and chief executive officer, LTTS.

Friday's announcement of no buyback tax on those programmes announced before July 5 will benefit Infosys and Wipro. Infosys concluded a buyback of Rs 8,260 crore in August, the announcement of which was made in January. Similarly, Wipro concluded a buyback of Rs 10,500 crore, which was announced on June 5.

“The government has taken a giant leap in tax reforms. The clarification on grandfathering of buyback tax on in-flight buyback programmes as of July 5, 2019, is a comforting outcome,” said Jatin Dalal, chief financial officer, Wipro.

Market analysts think that Friday's move of reducing the corporation tax rate will not be EPS (earnings per share) accretive as compared to companies operating in other industry. Also, an appreciating rupee may make IT stocks less attractive in the coming days.

“We do not see any material benefit for the IT firms per se. Also, appreciating rupee is being seen as a negative for IT stocks in the near term,” said Sanjeev Hota, head of research at Sharekhan.