The Hindu Business Line : Giving India Inc the edge

The Budget proposals will give a fillip to investments in industry and spur economic growth. The competitive edge of the manufacturing sector will undoubtedly be sharpened. India Inc can no longer be ignored by global players, says H. P. Ranina, discussing some of the salient proposals.

IN the initial stages of the reform process, the industrial sector in India performed below its potential primarily because it was not prepared to face the challenges thrown by the new liberal regime, which ushered in trade liberalisation, foreign direct investment, and industrial reforms.

Starting from 2003, the economy, at long last, showed that selectively it could withstand international competition and the pressures of globalisation. For the first time, a dozen Indian corporates are striving to attain the status of world-class enterprises with acquisition of foreign entities, giving them the multinational status.

At last, the reform process has begun to bear fruit and public opinion is shifting in favour of reforms.

The provisions of the Finance Bill, 2005 need to be considered in the context of this industrial scene. What steps have been taken by the Finance Minister to breathe new life into industry?

While the manufacturing sector has recorded a growth rate of around 7 per cent, exports have reached an all-time high of around $60 billion. The fact that thousands of small and medium scale industrial units are lying idle cannot be ignored. Industrial growth and the rising export trend are explained by the fact that a few large, well-managed, economically viable units are performing exceedingly well, meeting the international benchmark in productivity and competitiveness.

Foreign direct investment has also been instrumental in helping the manufacturing sector by infusion of technology and managerial skills. The fact that India is becoming a manufacturing hub, especially for the automobile sector, component goods industry and petrochemicals, is reflected in the northward bound industrial output.

The first proposal is to bring down the effective rate of corporate tax by about 3 per cent, from 35.875 per cent to 33 per cent, bringing it closer to tax rates prevailing in South-East Asian countries.

To some extent, the reduction has been marginalised by lowering the rate of depreciation on general plant and machinery from 25 per cent to 15 per cent. However, the initial depreciation rate has been increased from 15 per cent to 20 per cent where new plant or machinery are acquired or installed after March 31, 2005.

The implication of this change is that capital intensive industries will be at a disadvantage, but companies that provide services, including information technology enabled services, banking and finance companies and fast moving consumer goods companies will all stand to gain.

One of the significant proposals of the Finance Bill, 2005 is to continue with the weighted deduction for scientific research and development.

Under the existing provisions contained in Section 35(2-AB), where a company engaged in the business of bio-technology or manufacture or production of drugs, pharmaceuticals, electronic equipment, computers, chemicals, etc., incurs any expenditure on scientific research (excluding cost of land or building) or on in-house research and development facility, it is allowed a weighted deduction of 150 per cent of the expenditure so incurred.

However, under the existing provisions, no deduction on such expenditure incurred would be allowed after March 31, 2005. To encourage in-house scientific research, it is proposed to extend the time limit for taking the weighted deduction under the said sub-section by two more years, that is, up to March 31, 2007.

Under the existing provisions of Section 80-IB(8-A), a company carrying on scientific research and development is allowed 100 per cent deduction of the profits of such business for a period of ten assessment years, if such company is approved by the Secretary, Department of Scientific and Industrial Research, Ministry of Science and Technology, before April 1, 2005.

To promote scientific research and development, it is proposed to allow the deduction to companies carrying on scientific research and development, which are approved by the prescribed authority before April 1, 2007.

Another significant provision is the reduction of the rates of tax on royalties and fees for technical services earned by non-residents from 20 per cent to 10 per cent.

Likewise, even the withholding tax will be reduced to 10 per cent. This will put all foreign collaborators on a par with collaborators of such countries with whom India has entered into a Double Tax Avoidance Agreement prescribing a tax rate of 10 per cent.

Since the tax payable by the foreign collaborators is generally passed on to Indian enterprises that use their services, the lower rate of tax will help Indian companies obtain the latest and most advanced technology from anywhere in the world.

Likewise, the technical services fees payable for obtaining the services of foreign technicians will stand reduced as a result of this measure.

During the last decade, a number of companies embarked on a programme of restructuring, which inter alia includes reviewing the size of its workforce. As a result, such companies have introduced voluntary retirement schemes for its employees.

The companies are allowed to amortise the payments to its employees at the time of their voluntary retirement under any scheme framed in accordance with the prescribed guidelines.

However, the existing provisions do not fully reflect this intent. At present, one-fifth of the amount paid to an employee at the time of voluntary retirement is allowed as a deduction and the balance is allowed to be deducted in equal instalments in the four succeeding years.

Where part payments are made at the time of voluntary retirement, only the payment made in the first year is allowed to be amortised over five years. The balance paid in instalments in subsequent years is not allowed as deduction.

The proposed amendment seeks to provide for amortisation of the payment made in any year, each such payment being independently admissible for amortisation over five years.

Units in Special Economic Zones (SEZs) have been put on notice. Under Section 10-A(1-A), an undertaking in an SEZ manufacturing or producing articles or things or computer software after March 31, 2002, is allowed 100 per cent deduction of export profits for five years and 50 per cent for the next two years, followed by a 50 per cent deduction of export profits credited to a special reserve account for the next three years.

To rationalise the provisions of this section, a sunset clause has been inserted to the effect that no deduction under the sub-section would be allowed to any undertaking which begins to manufacture or produce such articles or things or computer software after March 31, 2009 in an SEZ.

Under Section 115-JB, where the income-tax payable by a company in the previous year is less than 7.5 per cent of its book profit, such book profit is deemed to be the total income of the company and it is liable to pay income-tax at the rate of 7.5 per cent. No credit of such tax paid by the company under this section is allowed against the tax liability, which arises in subsequent years under the other provisions of the Act.

Section 115-JAA has been amended to provide that where any amount of tax is paid under Section 115-JB(1) by a company for any assessment year beginning on or after April 1, 2006, credit in respect of the taxes so paid for such assessment year would be allowed on the difference of the tax paid under Section 115-JB and the amount of tax payable by the company on its total income computed in accordance with the other provisions of the Act.

The amount of tax credit so determined would be allowed to be carried forward and set off in a year when the tax becomes payable on the total income computed under the regular provisions.

However, no carry forward would be allowed beyond the fifth assessment year immediately succeeding the assessment year in which the tax credit becomes allowable.

The set-off in respect of the brought forward tax credit would be allowed for any assessment year to the extent of the difference between the tax on the total income and the tax which would have been payable under Section 115-JB for that assessment year. No credit would be allowed in respect of the Minimum Alternate Tax paid in any assessment year prior to 2006-07.

To conclude, the Budget proposals will give a fillip to investments in industry and spur economic growth. The competitive edge of the Indian manufacturing sector will undoubtedly be sharpened. India Inc can no longer be ignored by global players.

(The author is a Mumbai-based Advocate specialising in Direct Tax Laws.)

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