Retrospective amendments are like changing the rules of the game after the game has begun and, indeed, as in Vodafones case, after the game has ended! Investors all over the world place a premium on predictability and certainty. It must be clarified in this Budget that the retrospective operation of law seeking to tax the indirect transfer and enlarge the meaning of royalty and international transaction will have only prospective operation.
The Indian tax policy requires the supply of technology and services from overseas to Indian businesses to be taxed. The rate of withholding tax on such technology payments is 25% of the gross amount, typically borne by the Indian businesses as the supplier cannot absorb such high taxes. This makes the technology acquisition costlier by over 33% of the actual price, making technology adoption difficult. On the other hand, given the lower customs duty rate, the product using that technology can be imported much cheaper. This discourages manufacturing in India.
Given the problems faced in infrastructure, special economic zones (SEZs) could provide reasonable infrastructure facilities to encourage setting up of manufacturing units. Because of imposition of taxes on SEZs and anomalous duty structure on domestic sales, it has not taken off. The current rule needs to be revised so that the duty on the domestic sale, in any case, does not exceed the duty on value addition made by the SEZs or the lowest customs duty prescribed for import of such products in any FTA. This would ensure that supply to the domestic market from the SEZ manufacturing unit is not disadvantaged compared to import.
Companies that need to invest in their Indian subsidiaries by infusing equity are also hesitant to do so after seeing the tax litigation atmosphere in the country, a prominent example being the Shell case where large adjustments were made to taxable income based on valuation adopted for infusing equity. In most countries, the differential arising out of the difference of opinion on the valuation at which a parent company invests in its own subsidiary is not treated as taxable income. Legislation to amend section 56 and eliminate taxability on such differential valuation will send a strong signal to the world that India is a taxpayer-friendly jurisdiction.
Thousands of companies are reeling under the burden of high demand of transfer-pricing (TP) adjustments. India leads the world by a high margin in terms of the number of reported decisions on TP mattersa dubious distinction.
Several foreign companies have spent considerable sums on advertising, marketing and promotion (AMP) of their India operations. Most of them are facing uncertain tax litigation because of large TP adjustments on account of AMP using the Bright Line Method. In this Budget, bringing certainty and clarity on this issue is a must.
Advance pricing arrangements (APAs) are a wonderful, win-win concept and more APAs should be signed. Since applications for APAs are increasing, additional capacity should be built for processing them while preserving the excellent service culture currently prevailing in the APA office.
Safe harbour rules need to be prescribed for more sectors, with presumed profit pegged at more realistic levels. The prescribed safe harbour in the lower range should be calibrated down by at least 5% and in higher range by 10%.
To encourage contract and toll manufacturing, safe harbour of not more than 10% should be provided that could eliminate the taxation of the principal foreign company.
Revamp dispute resolution
Unrealistic tax collection targets foster a regime of high pitched assessments, high part payments, etc. Often, taxpayers are told to pay more advance tax, because the officer has budgeted for higher collection. This is uncalled for, and promotes an adversarial culture. Aggressive interpretations and disregard of settled legal principles and judicial precedents result in high-pitched assessments.
Tax collection targets need to be rationalised considering economic reality. A specific instruction, that while targets may be relevant, this cannot be at the cost of the assessees reality, must be given to the taxman. Also, the tax department should take note of taxes paid in advance and credits already available in computing the demand quantum.
Most of the high-pitched assessments and frivolous demands arise from a lack of understanding of business facts and incorrect application of law. To put an end to such scenarios, it is recommended that the tax assessment in the field should be centrally guided through a standard investigative questionnaire and technical interpretation of law. Such central technical guidance should be given by industry-specialist teams and those teams should review the assessments undertaken by various assessing officers.
Introducing a mechanism to track assessments from completion to decision by an appellate forum will check the tendency of raising frivolous demands and bring about accountability. The outcome of this mechanism should be used to recommend adverse comments on an officer making high-pitched assessments without a reasonable basis.
Section 12 of the Maharashtra VAT Act, 2002, contains a specific provision which enables a taxpayer to initiate action against inappropriate and vexatious orders. To promote taxpayer-friendly administration, we recommend that similar provisions be enacted in all central direct/indirect tax laws.
There should not be a right of appeal for the tax department against the Dispute Resolution Panels directions, as this renders the DRP ineffective. Also the scope of the DRP, currently restricted to international tax/TP disputes and for foreign companies, should be enlarged to allow Indian corporates and taxpayerswhere additions, adjustments, disallowances are over a threshold amount (say, R25 crore)to approach it. Finally, the DRP should be reconstituted with senior tax officials without any revenue collection responsibility.
The author is leader (Direct Tax), PwC India