MSMEs: Digitise and modernise to thrive

July 31, 2020 6:30 AM

A focussed review of various regulations impinging the MSME sector could help enable reduction of regulatory cholesterol and make it globally competitive

The entire Indian e-commerce ecosystem and linked MSMEs are now poised to undergo a revolution with global players like Amazon, Flipkart, and now, Reliance-Jio supported by tech-behemoths Facebook and Google, each wooing suppliers and customers with global experience, best practices and technology.The entire Indian e-commerce ecosystem and linked MSMEs are now poised to undergo a revolution with global players like Amazon, Flipkart, and now, Reliance-Jio supported by tech-behemoths Facebook and Google, each wooing suppliers and customers with global experience, best practices and technology.

By Dhanendra Kumar

MSMEs are the backbone of the Indian economy. Numbering over 45 million, they provide employment to 150-180 million people, contributing to 30% of GDP and 40% of exports. Despite enormous potential, they face challenges impeding productivity and efficiency. With Covid-19, however, they received a crippling blow. According to a survey by AIMO, about 35% of MSMEs and 37% of the self-employed people have already shut their businesses or are on the brink.

Some of the challenges emanate from antiquated infrastructure, low productivity, inadequate liquidity, lack of IT skills and scientific inventory control, digital marketing, social media usage, etc. After Covid-19, lockdowns, cash crunch, migration of workers, dwindling demand and disruptions across supply lines have exacerbated problems.

The government announced a slew of relief measures: Rs 3 lakh crore in collateral-free automatic loans for additional working capital to existing customers of banks and NBFCs, Rs 50,000 crore equity infusion, Rs 20,000 crore subordinate debt for those declared NPAs or deeply stressed, etc.

To expand coverage, the government also liberally expanded the classification of MSMEs from July 1. The World Bank too announced a $750 million emergency response support to 1.5 million MSMEs impacted by Covid-19, to address their liquidity and credit needs.

Important as these measures are, these are still palliatives. This opportunity should be used for bold and rapid structural modernisation of MSMEs, to attain Atmanirbhar Bharat. There is a need to upgrade skills in tune with the call of PM Modi—skill, reskill and upskill. Studies indicate MSMEs can increase revenues by 34% with the help of digital tools, especially in tier-2 and tier-3 Indian cities. Several start-ups and apps that have come up based on identified MSME needs, like ‘Vyapar’, ‘khatabook’, ‘OKCredit’, ‘Gimbooks’, etc.

New-age digital techniques will also help MSMEs raise finances smoothly. Fin-techs conduct loan evaluation quicker with documents digitally uploaded by loan-seekers. Applications are also customer-friendly, not needing long paper-based forms with numerous documents.

The entire Indian e-commerce ecosystem and linked MSMEs are now poised to undergo a revolution with global players like Amazon, Flipkart, and now, Reliance-Jio supported by tech-behemoths Facebook and Google, each wooing suppliers and customers with global experience, best practices and technology. They are all professing support for MSME vendors and millions of stores, with digitalisation and cutting-edge software, in turn, themselves benefiting from up-to-date demand-supply management and assessment of the market and consumer needs. Flipkart’s recent announcement of its wholesale venture, wherein the parent entity, Walmart, can bring in its globally-acclaimed experience while teaming up with mom-and-pop stores to supply merchandise, can also be transformative. The B2B market for finished goods in India is estimated at around $650 billion and is rapidly growing.

The role and potential of Indian MSMEs along with the need to improve their efficiency, productivity and quality needs to be viewed in the context of a globally competitive landscape of their peers in Vietnam, Thailand, Myanmar, etc, when some of the firms from China might be exploring to relocate elsewhere, and when the architecture of globally interconnected supply chain may also be poised to undergo a transformation.

Keeping in view the need to speedily rejuvenate our MSMEs, a separate matrix could be evolved for Ease of Doing Business (EoDB) specifically designed for them. Their offerings, be it product or services, are different, the scale of operations and needs are different, regulatory barriers faced are different, and so are the “Doing Business” needs. While there may be many parameters which may be common with the conventional World Bank’s EoDB, these should be designed on their working, designed state-wise, even district-wise for the selected districts with potential, simply because “where they are located” defines “what they can or can’t offer” to the market. States may work towards proactively developing land, building supporting infrastructure and related amenities, facilitating single window clearance, and may even generate competitive spirit among selected districts. Young, energetic DMs with their teams can play a more dynamic and proactive role in employment creation, reduction of time to start, developing plug-and-play like infrastructure with real-time troubleshooting. Integrated logistics and related infrastructure, communications, and storage facilities must come up, of world standards.

While the Business Reforms Action Plan (BRAP), a joint exercise by the DPIIT and the World Bank, has brought spectacular results where India’s global ranking has gone up from 141st to 63rd. Such a focused exercise state-wise, even district-wise, based on the identified parameters for MSMEs could bring in dramatic results. Specific proposals outlining such matrices of EoDB for MSMEs have already been developed by industry chambers like PHD Chamber and Associations.

A fresh look may also be needed at some of the tax-related, interconnected issues impinging MSMEs, impacting their liquidity, and sometimes even resulting in tax-on-tax. Some of the issues taken up by FICCI can illustrate it.

Rationalising the proposal under Section 194-O and 206-C
In this context, there are two proposals under the Finance Act 2020:
i) Inclusion of Section 194-O in the Income Tax (I-T) Act, 1961
ii) Inclusion of Section 206-C (1(h)) in the I-T Act, 1961

Insertion of Section 194-O in the I-T Act, 1961
The Finance Act, 2020 has inserted a new section 194-O in the I-T Act relating to payment by an e-commerce operator to an e-commerce participant. Section 194-O requires the e-commerce operators to deduct I-T at the rate of 1% of the gross amount, at the time of credit of the amount of sale to the account of the e-commerce participant.

The following suggestions could be considered here.

i) Utilising seller database already available with the Goods and Services Tax Network (GSTN):
Under the GST Law, e-commerce platforms have already been deducting and depositing tax—Tax Collected at Source (TCS)—from sellers at the rate of 1% of net sales consideration. Since, it is mandatory for all online sellers to have a GST registration, an exhaustive database of online sellers and their transactions on e-commerce platforms is already available with GSTN, which may be used for monitoring and complying with Section 194-O. This would save compliance burden and impact on the cash flows of MSMEs.

Even if Section 194-O is to be implemented in the current form, the government may consider bringing down the proposed TDS rate down—to say 0.25%—to minimise cash flow impact for liquidity strapped MSMEs.

This is important because section 194-O will be effective from October 1 and needs to be reviewed in the present context.

ii) Changing base for TDS calculation from gross to net sales consideration (excluding GST and fees to operators):
The proposed calculation of TDS on Gross Sale Amount, which includes GST, is a case of enforcing a tax-on-a-tax. Along with TCS, the combined impact on blocked working capital would be greater than two percentage points. This would put online sellers working under a high-volume, low-margin model, under immense pressure.
TCS collection under the GST law is calculated at the rate of 1% of the net value of taxable supplies. In order to avoid tax-on-tax, the government may consider applying a similar net sale consideration (excluding GST and fees/charges payable to operators) post returns.

Inclusion of Section 206-C (1(h)) in the Income Tax Act, 1961:
The Finance Act 2020 has added a new clause, 1(h) in Section 206-C in the I-T Act that, every seller who receives sale consideration for goods exceeding Rs 50 lakh in any previous year shall collect from the buyer a TCS of 0.1% of the sale consideration exceeding Rs 50 lakh.

Taking the most simplified view of a retail supply chain, which includes a supplier, a wholesaler, distributor and an e-commerce seller/offline seller; a product would go through three instances of TCS under Section 206-C of the I-T Act, after instance of TCS under GST, and another instance of TDS under Section 194-O of the I-T Act.

This multiplicity in taxation may lead to increased compliance burden and blocking of working capital, with a manifold increase in the cost of doing business across the entire supply chain of the supplier, wholesaler/trader and seller, and also adversely impact the ease of doing business for MSMEs.

The data collected on sellers through TCS collected by operators, along with data on sellers (offline and online) under the expanded scope of Section 206-C could be a sufficient measure for I-T authorities. Hence, the government might consider not implementing 206-C (1(h)) to enhance the ease of doing business without any adverse impact.

These are just a few illustrative areas where some proposals enunciated before Covid-19 can be revisited in the present context. We are in the midst of a lifetime opportunity to transform our MSME sector and making them globally competitive. A focussed review of various regulations impinging could help enable this sector to reduce the regulatory cholesterol. Last year we added seven unicorns, taking our tally to 24, now the targets should be more ambitious.

The author is Former chairman, CCI and ED, World Bank
Views are personal

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