Leasing Firms Cry Foul Over Service Tax

The 5 per cent service tax on leasing and hire purchase income, which comes into effect from July, may end up killing the domestic leasing and hire purchase industry.

Mahesh Thakkar, executive director, Association of Leasing and Financial Companies, said: "We are at present working on a very low margin of 2-3 per cent. The imposition of service tax will reduce it further, making it virtually impossible to run leasing and hire purchase businesses."

ICICI and State Bank of India (SBI), the two aggressive players in this segment, may close their leasing businesses it has become unremunerative.

Sources in these organisations say it will not be easy to build new assets as spreads are shrinking. With costs rising, leasing is no more a preferred means of capital formation for corporates.

 

SBI accounts for about 50 per cent of the industry's business, while the rest is shared by ICICI and a clutch of NBFCs.

The industry's business volume had already slumped drastically from Rs 60,000 crore in 1998-99 to just around Rs 5,000-6,000 crore in 2000-01.

The stream of leasing business is fast drying up, thanks to the income-tax department's refusal to give depreciation benefits on financial leasing (a transaction where the lessor is the owner of the asset and gets the rental while the lessee bears the risk), a complex sales tax structure and the introduction of international accounting standards (IAS) 19 by the Institute of Chartered Accountants of India with effect from April this

year.

The Central Board of Excise & Customs is believed to have decided against imposing any tax on the principle amount of leasing and hire purchase income. The tax is to be imposed on the interest, apart from a one-time lease management fee.

However, bankers still do not know while the tax will be imposed on gross interest income or net (gross income minus cost of funds). "Lease rentals are treated as the sale of goods on which sales tax is already imposed. How can it be subjected to service tax again?" asked a banker.

Pure leasing and hire purchase players are contesting the service tax, and argue that banks do not pay any service tax on loan assets.

Since the tax burden will be shared by the lessee (the company) as well as the lessor (bank or an NBFC) the cost of leasing will go up for corporates. "Leasing has been a preferred alternative funding option as it is a cheaper way of capital formation. With the new tax burden, consumers will not opt for leasing any more," said another senior banker.

The leasing industry's woes started recently with the income-tax department treating a financial lease as a normal commercial loan and denying the banks and NBFCs the depreciation benefit. "In some transactions such as leasing of boiler and generator sets, banks used to get a 100 per cent depreciation benefit during the very first year and to that extent saved tax. The benefit was shared by the lessor and the lessee. But the I-T department is not allowing the benefit any more," said an industry source.

The sales tax on lease assets varies, depending on the place of signing the agreement (for an existing asset) or delivery of goods, making for a complex tax system.

Finally, the introduction of IAS 19 in April this year has allowed the lessee to capitalise the lease assets on its books while the lessor shows it as receivables. This has also strengthened the IT department's case for not allowing tax benefits on financial lease assets. "The 5 per cent sales

tax is the proverbial last nail on the coffin. This segment of the business will die soon," said a banker.

While some of the players are planning to get out of the leasing business altogether, others want to convert their lease assets into loans. Says S K Mitra, managing director, Birla Global Finance Ltd: "We can convert a part of our leasing and hire purchase assets to loan. But one has always better control of lease assets than vanilla loans."