Don’t budge on SEZ taxes

The Centre should refrain from restoring tax benefits to units in Special Economic Zones (SEZs) and developers of these enclaves that were withdrawn in the 2011-12 Budget. SEZ units and developers now incur a 20 per cent minimum alternate tax (MAT) on their book profits. In addition, there is a 15 per cent dividend distribution tax (DDT) that is levied on developers. True, exemption from these taxes was an incentive for attracting investments into SEZs under a policy unveiled in 2006. This policy granted units in SEZs full waiver of import duty, excise and service tax on inputs procured by them, besides 100 per cent income tax exemption on exports for the first five years and 50 per cent for the subsequent five years. The latter benefits were significantly diluted by the introduction of MAT/DDT. As a result, the SEZ units/developers do have a point when they claim there was a reneging on policy commitments based on which they had made investment decisions.

While stability and predictability in the tax regime is no doubt important, the issue really here is one of distortionary incentives that follow from preferential fiscal treatment. Units should ideally choose SEZs only for the special infrastructure these enclaves are expected to offer: reliable power, water supply, drainage, effluent treatment and warehousing facilities, besides road and port connectivity. If the choice of location is solely guided by tax advantage, it means there is nothing ‘special’ about an SEZ. Worse, it leads to an artificial concentration of investments in SEZs to the detriment of other locations that would have received these in the normal case. An environment in which firms in SEZs don’t pay taxes either on inputs or incomes — even while those outside aren’t exempted from these — is essentially unsound. Such blanket exemptions shouldn’t have been given in the first place. Even the 20 per cent MAT on book profits is below the standard corporate tax rate of 32.445 per cent.

This is, however, not to say we shouldn’t have fiscal measures to incentivise investment. Tax sops are fine so long as they don’t encourage diversion of profits from taxed to exempt sectors. Profit-linked incentives such as those given to SEZ units only serve to promote such tax arbitrage. A better way to boost investments is through investment-linked incentives, which allow capital expenditures to be set off against profits for computing tax. The last Budget, for instance, has allowed a 15 per cent deduction on annual investments above ₹25 crore in new plant and machinery for the next three years. There is no harm in granting even a higher investment-linked allowance in select sectors — say, infrastructure and agricultural cold chains. But at the end of the day, it is not tax policy alone as much as the overall ease of doing business in India that will attract investors, both domestic and global.

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