Union Budget 2017 looks to limit sops; move may impact Schneider Electric, Mukand hard

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Mumbai | Updated: February 3, 2017 4:45:40 AM

Schneider Electric Infrastructure, for instance, had reported a net loss of Rs 18.2 crore despite earning an EBITDA of Rs 39.8 crore and hence did not pay any tax in FY16

Schneider Electric Infrastructure, for instance, had reported a net loss of Rs 18.2 crore, despite earning an EBITDA of Rs 39.8 crore and hence not paid any tax in FY16, primarily because it had an interest expense of Rs 42.8 crore. (Reuters)Schneider Electric Infrastructure, for instance, had reported a net loss of Rs 18.2 crore, despite earning an EBITDA of Rs 39.8 crore and hence not paid any tax in FY16, primarily because it had an interest expense of Rs 42.8 crore. (Reuters)

A new provision in the Union Budget for 2017-18 that seeks to limit the amount of interest that is tax deductible, if paid to an associate company, could impact some companies such as Schneider Electric and Mukand. The government is looking to prevent tax evasion by corporations using excess interest deductions — by taking loans from associates—to lower profits and consequently pay lower taxes.

Schneider Electric Infrastructure, for instance, had reported a net loss of Rs 18.2 crore, despite earning an EBITDA of Rs 39.8 crore and hence not paid any tax in FY16, primarily because it had an interest expense of Rs 42.8 crore.

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A break up of the company’s sources of debt reveal that over 52% of its total debt of R175.3 crore was sourced from group companies. The interest cost of the total debt is 24.4%; assuming the same rate of interest for all lenders, the company would likely have paid an interest of R22.3 crore to its group companies, all of which would have been tax deductible.

Now, this would be capped at just 30% of EBITDA, or R11.9 crore and the company would not be able to get the benefit of a tax deduction for the entire R22.3 crore. Thus, the taxable profit would have gone up by R10.4 crore.

Again, Mukand reported a net loss in FY16, despite an EBITDA of R346.3 crore, partly because of an interest expense of R290.6 crore. A breakup of its sources of debt reveals that over 41% of it was from group companies. By the new propsal, Mukand’s profit before tax in FY16, would have increased by at least R15.9 crore.

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The government has decided to accept a recommendation of OECD which found in its Base Erosion and Profit Shifting (BEPS) project that companies were resorting to taking inter-corporate loans.

Welcoming the proposal, Sudhir Kapadia, National Tax Leader at E&Y, said, “While the move will increase tax revenue of the government, the main idea behind it seems to be to persuade multinationals to bring in more equity into the country, instead of debt.”

“In view of the above, it is proposed to insert a new section 94B, in line with the recommendations of OECD BEPS Action Plan 4, to provide that interest expenses claimed by an entity to its associated enterprises shall be restricted to 30% of its earnings before interest, taxes, depreciation and amortisation (EBITDA) or interest paid or payable to associated enterprise, whichever is less,” the memorandum to the provisions of The Finance Bill reads.

In other words, when a company pays interest to one of its associates, then the tax deduction that will be allowed for this interest payment will be restricted to 30% of its EBITDA.

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