Budget 2015-16: Corrective to the core

March 04, 2015 1:38 AM

FM budgets $11 bn increase in infrastructure spending in FY16

In Budget 2015-16, total allocation to infrastructure—including from central public sector enterprises(CPSEs)—has been increased by R700 billion ($11bn), mainly driven by the conversion of excise duty on petrol and diesel into road cess (R400 bn).

Apart from the cess gains, the allocations to roads and rail were increased by R140 bn and R100 bn, respectively. While the roads ministry had been trying to focus on engineering, procurement and construction (EPC) contracts to make up for the private sector’s reticence over the last 12-18 months, the stock market was worried about the financing challenge on that account. The significantly increased allocation in this Budget removes that risk.

Easing debt funding: The government plans to establish a National Investment and Infrastructure Fund (NIIF) and fund it to the tune of R200 bn annually, which would lever it to invest into infrastructure finance companies such as the Indian Railway Finance Corporation
(IRFC) and the National Housing Bank (NHB), who would further lever it to finance infrastructure projects. Also, tax-free infrastructure bonds for projects in the rail, road and irrigation sectors will be allowed. Besides, the capital gains regime for the sponsors exiting when listing the units of Infrastructure Investment Trusts (InvITs) has been rationalised.

Risk transfer to govt on PPP, plug & play could be game-changer: Interestingly, on public-private partnership, the finance minister focused on the rebalancing of risk with the conclusion that the sovereign will have to bear a major part of the risk in infrastructure. The first steps on this front are already visible in sub-sectors such as roads (hybrid annuity model). While announcing five new ultra mega power projects (4000 MWs each) on which all clearances and linkages will be in place before awarding, the FM said that the government is considering similar plug-and-play projects in other infrastructure projects such as roads, ports, rail lines, and airports. Given that clearances have been a big stumbling block for infrastructure capex, such a plug-and-play policy could be a game-changer.

Focus not just on infra, but boosting overall capex: Given the need for the public sector to keep pushing capital expenditure till the private sector recovers, the government plans to raise the capex of PSUs by 34% year-on-year (over revised estimates for F15e) to R318 bn for F16e. The focus is not just on higher capex but faster dissemination of benefits of the capex by PSUs through the introduction of a Public Contracts (Resolution of Disputes) Bill to reduce the time/money wasted on disputes. To boost private capex, the government plans to appoint an expert committee to prepare a draft legislation for replacing the need for multiple prior permissions with a preexisting regulatory mechanism.

Oil & gas
The Budget document suggests the government budgetary provision of R603 bn for FY15 and R301 bn for FY16 for petroleum subsidies. In FY15, this provision effectively implies ONGC and Oil India Ltd could achieve a net realisation of $60 per barrel (bbl) in the fourth quarter, taking their full year net realisation to $48/54 per bbl. More importantly, in FY16, assuming Brent at $60/bbl, the overall subsidy will likely be at R304bn, implying the government virtually sharing the whole burden.

The government has also converted existing excise duty on petrol and diesel to the extent of R4/litre into ‘road cess’ to fund investment in roads and other infrastructure. This is just the change of classification of existing structure and the overall tax incidence for the consumers remains unchanged.

The Budget has limited direct implications for the property sector.  However, the sector should benefit in the longer term given the government’s macro road map for the next 4-8 years—pro-growth, pro-job creation/investment, fiscal consolidation and lower inflation expectation. All this should lead to improving demand for both residential and commercial properties in the years ahead. The specific announcements for the sector include:

REIT: Following up on the tax pass through announcements last year, the government has provided capital gains tax exemptions for the sponsor and tax pass through for rental income if the assets are directly owned by the Real Estate Investment Trusts (and not in special purpose vehicles). REIT formation remains a complex issue due to multi-level taxes (capital gains on sponsor/unit holder, income tax, dividend distribution tax, stamp duty, withholding tax, etc) and potentially complex ownership (directly, clean/complex SPVs, etc). However, hitherto, the government seems to have addressed several issues. The new announcements will be effective from–April 1, 2016. The earliest REIT listing could be 9-12 months away.

Tax changes: Tax changes are marginally negative for the sector in the near term due to higher corporate tax rate (up 60 basis points to 34.6%), service tax on input items (up 160 bps to 14%) and excise duty on construction material (up 14 bps to 12.5%). This could lead to 1-2% negative impact on the FY16 earnings of realtors, assuming no pass through to the customer.

The effective (post-70-75% abatement) service tax on buying residential property will go up by 50 bps to 3.5/4.2%, hurting the home buyer marginally. Longer term (four years), the government plans to lower the tax rate by 5 percentage points to 25%, which should benefit realtors.

Morgan Stanley

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