Corporate tax cuts don't go far enough

Finance Minister Nirmala Sitharaman presented her maiden Budget in Parliament amid soaring expectations in regard to revival of investment sentiment, acceleration of economic growth and provision of tax incentives. In the backdrop of a slowing economy, weakening consumption, rural distress and high unemployment, she had an arduous task — to revive public and private investment, drive consumption and yet keep the fiscal deficit under control. 

The Budget has attempted to stimulate the economy by incentivising businesses, promoting the rural economy and improving education. There are measures to promote “ease of living”, incentivise home-grown start-ups, recapitalise public sector banks, divestment of PSUs, further opening up of specific sectors to foreign direct investment, reforms in the banking and financial sector, streamline labour laws, and affordable housing.

The following are some notable corporate tax proposals:

Corporate tax rate: The single most long-standing demand of India Inc has been a reduction of the corporate tax rate, including abolition of MAT. In the Budget speech of 2016, the then FM had laid down the road map for reduction in corporate tax rates along with corresponding phasing out of exemptions and deductions. With incentives and deductions being phased out rapidly, the demand for a reduction in the corporate tax rate and abolition of MAT seemed to be the need of the hour. The Budget proposes to extend the benefit of concessional corporate tax rate of 25 per cent to companies having a turnover of up to Rs 400 crore (for the year ended March 31, 2018), which will cover 99.3 per cent of companies.

While this is a welcome move, large companies have been left out, though they contribute the maximum in terms of growth, employment and tax revenues. While there is no significant overhaul of MAT provisions, the proposal to reduce the tax rate to 25 per cent for companies with turnover of Rs 400 crore, though small, is still a step in the right direction.

Start-ups: The government recognises the need to foster economic growth through innovation and entrepreneurship, and has committed to supporting start-ups and establishing a conducive growth environment for them. A few announcements have been made in this Budget, such as further relaxation of conditions relating to carry-forward and set-off of losses, and announcements addressing the “angel tax” issue. The angel tax issue, while acknowledged by the FM in her speech, does not find place in the Finance Bill. One can expect necessary circulars/instructions clarifying the issue. Further, at present, start-ups are not required to justify the fair market value of their shares issued to Category-I Alternative Investment Funds (AIF). It is proposed to extend this benefit to Category-II AIFs also.  

In light of the above announcements, start-ups, who have been dealing with much litigation on the valuation front, should breathe a sigh of relief. 

NBFCs: NBFCs and banks face similar market conditions and challenges. The recent surge in NPAs has led to a credit crunch for both. NBFCs must be given parity in tax treatment. Interest income in relation to certain categories of NPAs of NBFCs is proposed to be taxed in the year of receipt, as is the case for banks. This is a step in the right direction. The Budget has however, missed extending the exemption of limitation of interest deduction to NBFCs, which is currently available to banking companies.  

Buyback tax: Buyback of shares by unlisted companies is taxed at a rate of 20 per cent plus applicable surcharge and cess in the hands of the unlisted companies. Capital gains, if any, earned by shareholders on such buyback of shares are exempted from tax. This was done in 2013 to remove the arbitrage of lower capital gains vis-a-vis dividend distribution tax. As an “anti-abuse” measure, this Budget now proposes to extend the buyback tax to listed companies as well.  Whereas such arbitrage may arguably have existed in closely held companies, this doesn’t necessarily hold good for publicly listed companies, and it may not be correct to call it a tax avoidance measure and introduce it as an anti-abuse provision.

Listed companies are guided by various considerations, and not necessarily only by tax savings, in deciding on buy-back. In this respect, therefore, such a levy was not warranted and in any case, not as an anti-abuse measure. Further, levying buyback tax at a flat rate of 20 per cent (plus applicable surcharge and cess), irrespective of the period for which shares are held will be a dampener for equity shareholders who take inherent risks while investing.  

Some progressive announcements, such as making available pre-filled tax returns and faceless e-assessment of tax returns will help enhance compliance and expand the taxpayer base.

Overall, despite the various limitations and the headwinds facing the economy, the government has partially increased the coverage of the lower corporate tax rate of 25 per cent and announced its intent to provide targeted incentives to sunrise sectors. The corporate tax proposals align with the vision to propel India to a $5 trillion dollar economy and provide that vision with a firm grounding.

The writer is Partner and Head of Tax, KPMG in India