The Hindu Business Line : Streamline the corporate tax structure

Favourable tax rates for corporate houses may have to be combined with a broadening of the tax collecting system, by reducing the loopholes and incentives.

A recent report in The Economist says that Johnny Hallyday, the French Rock idol, has chosen to move to Switzerland to flee punitive French taxes. Many other high-earning French celebrities have become tax exiles because of the steep wealth and inheritance taxes, which take away 70 per cent of their earnings. Tax competition across the globe is intensifying.

A recent paper by Dhammika Dharmapala and James R. Hines Jr of the University of Michigan shows that roughly 15 per cent of countries are tax havens. Panama, Bermuda, the Caribbean, Ireland, Luxembourg, Switzerland, Hong Kong and Singapore have experienced heavy inflow of foreign capital, thanks to low or zero tax.

The authors of the paper observe: "A 10 per cent tax reduction (for instance, reducing the corporate tax rate from 35 per cent to 31.5 per cent) is typically associated with a 6 per cent greater inbound foreign investment."

Rate cuts

A global corporate consultancy firm surveyed the tax rates across the globe and found a consistent and dramatic reduction in corporate tax rates in the last decade. As one major industrialised economy cuts its rates, the others seem compelled to do the same in a process of international tax competition that continues and intensifies over time.

The survey concludes that transnational corporations are sensitive to income-tax rates, and the enhanced mobility of capital and labour all over the world increases their ability to transfer functions from a high-tax regime to a low-tax country.

India's corporate tax rates are neither too high nor too low. According to FICCI, India apparently levies 30 per cent tax but with the addition of surcharge and cess, the Fringe Benefit Tax (FBT) and the dividend distribution tax, the corporate tax burden goes up to 40 per cent. Any debate on corporate tax reduction invariably ends up with the problem of incentives, exemption and tax holidays. Critics point out that effective tax rates the corporates pay will be only 20 per cent if exemptions are taken into account.

The incentives given to Special Economic Zones (SEZs) is eating into government revenues. And then there are area-based tax concessions, such as those given to the hilly areas of Himachal Pradesh, Uttranchal and the North East. No doubt, such incentives attract large capital to these underdeveloped States, but the revenue loss to the Centre is around Rs 1,500 crore.

Revenue considerations will certainly stand in the way of adoption of the `Singapore Headquarter Initiative' sought for by the chambers of commerce. The initiative allows a group company to offset losses through profit made by its subsidiaries and also restricts the corporate tax burden to 20 per cent.

To widen the tax base, the Institute of Chartered Accountants of India has suggested taxing agricultural activities of companies. Favourable tax rates for corporate houses may have to be combined with a broadening of the tax collecting system, by reducing the loopholes and incentives. Scandinavian countries and Ireland adopted this method and successfully enhanced their tax revenues. This system is now being followed in Eastern Europe and Germany too.

Book profit tax

There is an urgent need to look into the efficacy of the book profits tax levied on companies, which report losses for income-tax purposes even while showing sizable profits before shareholders and the general public. Companies often revalue assets and claim enhanced depreciation on such revalued assets, and it may be worthwhile to amend the law so as to stipulate that depreciation can be claimed only on the original book value and not on the revised book value arrived at after the revaluation of assets.

This will prevent the attempt to reduce tax liability even under MAT by revaluing assets in order to claim higher depreciation. As corporate revenues are booming, this may be an appropriate time to radically alter the corporate tax structure by removing some incentives, bringing in sunset clauses for some more incentives and ignoring non-economic considerations in legislating corporate taxes.

(The author is a former Chief Commissioner of Income-Tax.)