A big tax overhaul
A slew of proposals have got unprecedented attention in this Budget
Source: Business Standard
Finance Minister Arun Jaitley has pulled off a crucial Budget after the build-up of expectations and nervousness in the markets. Two important events on Budget eve — the Railway Budget and the Economic Survey — set the tone right. While India has emerged strong on macroeconomic fundamentals, with robust forex reserves and moderate inflation, challenges remain in the form of expenditure management and falling exports that have pushed economic reliance on domestic demands. Some of these are certain to permeate into the next fiscal year — such as increased expenditure burden due to the implementation of the Seventh Pay Commission recommendations and the acceptance of the one rank, one pension demand.
The finance minister set forth “nine pillars” for Budget proposals, largely revolving around themes of stimulating a steady trajectory to realise double-digit gross domestic product (GDP) growth in the medium term, guided by an overarching principle of fiscal prudence and inclusive socio-economic growth. Unprecedented budgetary allocations for flagship social schemes such as MGNREGA, roads, rural electrification, water resource management, education and skill development underline the predominance of socio-economic themes in the second full-year Budget of this government. Further, Jaitley’s Budget speech, while recognising the challenge of increasing the ease of doing business, has introduced measures in tax administration and a new framework for resolving disputes arising out of the public-private partnership (PPP) model.
While the FM adhering to the fiscal deficit targets of 3.9 per cent and 3.5 per cent for the current and next fiscal year was anticipated, a couple of important macroeconomic policy overhauls emerged as significant. For example, the proposal to abolish Plan versus Non-plan classification of expenditure signifies progressive policy thinking. Rechristening the Department of Disinvestment as the Department of Investment is another example of ushering in fresh policy thinking — typical of the Narendra Modi administration.
Among regulatory reforms, there were a few important announcements. The roll-out of a comprehensive Bankruptcy Code should provide a specialised resolution mechanism that would help in the management of distressed assets — particularly in the financial sector — and encourage entrepreneurship. Similarly, the proposed Public Utility Dispute Resolution legislation will serve as an effective tool for commercial dispute resolution under the PPP framework. Rolling out guidelines for renegotiation of PPP concession agreements, and a credit rating system allowing fair pricing of loans are important policy reforms proposed for the infrastructure sector. Incremental changes to the foreign direct investment (FDI) policy signify the government’s continued commitment to the ease of doing business.
Tax administration proposals have received unprecedented attention. Predominant among these are: a) relief for marginal taxpayers, and taxing the super-rich; b) incentivising indigenous value creation and addition under the aegis of Make in India; c) discouraging tax litigation through a much-improved dispute resolution mechanism, d) a voluntary disclosure scheme (VDS), and e) an overarching intent to dissuade tax adventurism through policy-level interaction. While an increase in tax rebates for small taxpayers and a marginal reduction in corporate tax rate for micro, small and medium enterprises are largely revenue-neutral proposals, Jaitley has held back an across-the-board reduction in corporate tax rates, perhaps constrained by budgetary compulsions. Businesses would still hope that the road map for tax rate reduction is articulated before the phase-out of tax incentives takes effect. He has, however, given more time to special economic zones (till March 31, 2020) and largely held on to the draft floated by the Department of Revenue on the phase-out schedule.
The proposal to exempt special purpose vehicle projects held by REITs /InVITs from the levy of dividends distribution tax (DDT) is a singularly positive move for real estate and infrastructure investment trusts. It should make them more competitive investment-pooling vehicles vis-à-vis the corporate holding structure. FDI reforms and tax pass-through status to asset reconstruction companies (ARC) are also welcome moves; these should incentivise the resolution of bad debts as part of financial sector reforms. Tax holidays for start-ups and capital gains exemptions are along anticipated lines, although a three-percentage-point increase in surcharge for the rich and the levy of a 10 per cent income tax on dividends for resident non corporate promoters — in addition to DDT — come as additional burdens. The age-old regime of exempt-exempt-exempt (EEE) tax shall not survive for contributions from April 2016 towards superannuation and provident funds, bringing them on par with the National Pension Scheme — 60 per cent to be taxed on withdrawal at the time of retirement.
Mr. Jaitley has made another attempt to undo the menace of retrospective tax by making a legislative exception to levy tax (and give immunity from interest and penalty) on indirect transfers, outside of the judicial and international arbitration process.
That the orders of the dispute resolution panel can no longer be appealed by the revenue department makes perfect sense. In addition, a new income declaration scheme (like VDIS) gives errant taxpayers a one-time opportunity, with an incremental tax cost of 15 per cent over and above the base tax rate of 30 per cent. The rate is far more reasonable and simpler to implement than the foreign undisclosed assets law legislated in the 2015 Budget.
The proposal to tax non-resident e-commerce enterprises by way of imposing an equalisation levy of six per cent on specified revenue streams, and the implementation of country-by-country reporting requirement for transfer-pricing compliances are significant moves towards alignment with action points 1 and 13 respectively of the Organisation for Economic Cooperation and Development’s work on “Base Erosion and Profit Shifting”. Deferral of the Place of Effective Management test is a good move, given the nebulous nature of draft guidelines of the Department of Revenue. The General Anti-avoidance Rules (GAAR) are set to be implemented April 2017 onwards. India will, in all likelihood, embrace global GAAR practices aligned to G20 and draft guidance in 2016-17.
The finance minister’s Budget speech contained a proposal issuing instructions to field officers to insist on restricting tax collection arising out of assessment to 15 per cent until the appeal is decided by the first appellate forum. Extending e-assessment mechanics to seven mega-cities should usher in best practices in tax administration. Penal provisions have been rationalised and from the band of 100 to 300 per cent penalty (under the existing law) the new slabs are 50 per cent and 200 per cent respectively, depending on the nature of default.
Overall, this is a well-crafted Budget with a comprehensive recipe for inclusive growth trajectory. In terms of misses, a stoic silence on the road map for goods and service tax (GST) was conspicuous; perhaps, a way for the government to hold out that the GST, although a crucial tax reform, cannot be the show-stopper for tax reforms.