Editorial: Do sops drive investment?

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Published: January 6, 2016 12:40:44 AM

That’s govt gamble in extending phase-out period

In his budget speech last February, finance minister Arun Jaitley said he wanted to begin lowering corporate tax rates and simultaneously start phasing out tax exemptions from April 2016. Going by an interview of the revenue secretary to this paper, that timeline is being revisited. The date for withdrawing tax sops has been pushed back to April 1, 2017 thereby giving companies a little over a year to initiate a project for which they will then enjoy tax benefits for the next 15 years. The new timeline is clearly aimed at encouraging investments, an area of growing concern for the government; investments, as a share of GDP, are at 28.7% in FY15 compared with 33.6% in FY12, and there is no clear evidence capital expenditure—whether by public sector or private sector firms—is picking up at all.

The government must be hoping the one-year window will give companies time to rethink their plans and that a few may decide to invest, not an unreasonable expectation. And while there will be some loss in revenue—estimated at close to R98,400 crore annually, based on projections for FY15—the potential value of investments could be several times that. Which is why, whether it is exemptions on account of accelerated depreciation benefits (this cost Rs 37,000 crore in revenue losses in FY15) or  tax sops for units located in SEZs (Rs 18,400 crore), it would be money well spent. Given how visibility on demand remains poor, it is possible not too many promoters will rise to the bait, but it is nonetheless worth a try.

While tax losses will not reduce, the finance minister will bring down the rate of corporate tax to 25% over the next four years as he has promised to do. This is critical since, while India has an attractive local market, tax rates are substantially higher than the Asian average of 21.9%—a lower corporate tax regime should logically help attract more foreign direct investment. In the long run, lowering the rate will not cause a revenue loss since the effective tax rate of 23.2%—well below the statutory 33.99%—is lower than the 25% the FM is aiming for. In the short run, as exemptions don’t get phased out while rates get cut, there could be a loss in tax buoyancy, but this could be made up by the higher compliance that lower rates encourage as well as by a possible step-up in corporate activity.

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