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R. Anand

R. Anand on the malady of multiple taxation in the NBFC sector

NON-BANKING finance companies (NBFCs) are the target of multiple regulators. While the nodal regulator, the RBI, governs and controls various aspects of the functioning of NBFCs — such as registration, submission of returns, investment and accounting norms, and so on — there are other regulators at the Central and State levels chipping in with their share of information and allied requirements. Notable among them are the Department of Company Affairs (DCA), the Central Board of Direct Taxes (CBDT), State sales tax authorities, and so on.

After the euphoria of the 1980s and 1990s, the industry faced a major shakeout, thanks to an amendment carried out in the RBI (Amendment) Act of 1997. Post-1997, several companies had to close shop leaving the healthy and robust companies to carry on the business of asset-based financing. The Financial Companies Regulation Bill, 2000, was tabled in the Lok Sabha in December 2000 and was a subject matter of heated debate.

Pursuant to the representations by the various associations and chambers, this Bill was referred to a Standing Committee on Finance. The Committee submitted its report to the Lok Sabha on July 24, 2003. This piece of document comprehensively deals with, among other aspects, the vexatious issue of multiple taxation of NBFCs.

Multiple levies

Today, NBFCs, like all other entities, have to pay corporate tax at the appropriate rates. They are exposed to local sales tax laws wherever applicable and this depends on the type of asset financed, whether they are single- or multiple-point levies, and so on. With value-added tax (VAT) now placed in the backburner, the existing sales tax laws will apply for various hire purchase and allied transactions put through by NBFCs.

Some of the States also have a turnover/entry tax which have to be taken into account in putting through a transaction. The recent levy of service tax on the hire purchase transactions of NBFCs has opened a new dimension to the problem of taxation. The issue is now before the Madras High Court, where the final word on the subject has to be decided on merits.

The fact is: How can a transaction which is basically exigible to sales tax also be exposed to service tax levy? In the domain of operations and conduct of business there are taxes under the Motor Vehicles Act, which will have to be considered even though the hirer/customer will have to bear the levy.

The Committee's report

The Standing Committee on Finance specifically deals with the issue of multiple taxation and the extract of their submissions is as follows:

The Association of NBFCs has apprised the Committee that NBFCs are subject to multiple taxation (service tax, sales tax, and so on) and companies which are into infrastructure financing are not provided with tax benefits.

On multiple taxation, a representative of the Hire Purchase and Leasing Association, stated thus:

"We do not enjoy tax benefits that are on a par with banks and financial institutions because when it comes to regulation, all prudential norms are applicable to banks as they are to financial companies. When it comes to tax benefits, they have deductions for the provisioning they make for non-performing assets (NPAs), which we do not enjoy. Hire purchase and leasing are the only activities that are subject to both sales tax and service tax. Any financial transaction can either be a sale or a service, not both. But unfortunately, we are being subject to both sales tax and service tax."

It has also been informed by NBFCs that under the existing provisions under Section 36(1)(vii a) of the I-T Act, a provision for bad and doubtful debts made by banks and financial institutions is allowed as a deduction to the extent of 7.5 per cent from the gross total income.

NBFCs are also compulsorily required to make provisions for NPAs. However, provisions made by NBFCs in line with such prudential norms fixed by the RBI are disallowed by tax authorities when assessing their income-tax liabilities. These provisions made against NPAs are in the nature of business expenses, incurred wholly and exclusively for business operations by the NBFC and for prudent accounting of NBFCs.

In regard to providing tax relief to NBFCs, The Finance Ministry, in a written note submitted to the Committee, has stated thus:

"Service tax is leviable on specified banking and other financial services provided by NBFCs and other corporates with effect from July 16, 2001. With regard to the proposal to provide any relief/tax benefits/depreciation to NBFCs, it may be noted that any NBFC, engaged in providing long term finance by way of loan or equity to infrastructure, housing and other undertakings, would be entitled to exemption from tax in respect of interest and dividend income. However, some issue in connection with enhancement of flow of institutional finance to the unorganised sector for providing tax benefits to NBFCs under the Income-tax Act, are under examination. Sales tax is a state subject under Entry 54 (List-II) of the 7th Schedule to the Constitution of India. Relief/tax benefit, if any, in respect of the levy of sales tax can only be granted by the concerned State Government."

In the ultimate analysis, the orderly growth of NBFCs would depend, inter alia, on the several factors such as shrinking margins, competition (even and sometimes uneven) and the overall growth of the economy with particular reference to transport sector.

A simple system of taxation will help their cause immensely. It is in this context that the report of the Committee has to be appreciated by the authorities concerned. Quick remedial action should be taken so that a) multiple levies are eliminated forthwith; and b) tax reliefs applicable to similarly placed institutions such as banks/FIs are given to the NBFC sector.

This will bring NBFCs into the mainstream financial services sector so that the various players can have a level-playing field.

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