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| DIRECT TAX DRAFT BILL: REAFFIRMS GOVERNMENT’S PATH TO REFORMS | |
The Finance Ministry unveiled a draft Direct Taxes Code Bill on 12th August 2009, which, if passed, will replace the existing Income Tax Act, 1961 with effect from 1st April 2011.
Prima facie, the government seems to have simplified the tax law by eliminating ambiguity/redundancy and consolidation of provisions, and making use of simple language. It has removed many exemptions and deductions, alternatively passing the benefit by raising the tax slab significantly for individuals and lowering corporate tax rate. About 31 companies, out of the BSE 100, have effective tax rate of less than 15%. Limiting the benefit available under various tax exemptions/deductions and new MAT provisioning may increase the effective tax rate.
The draft Direct Tax Code Bill marks the beginning of major reforms being initiated by the government and will set the expectations for reforms in other areas as well. Currently, it is open to discussion and may undergo significant changes.
In this note, we have tried to highlight major reforms suggested in this draft bill.
Key highlights
- Reduction in corporate tax rate to 25% from current 33% and substantial increase in tax slabs for individuals.
- Long-term and short-term capital gains liable to normal tax rate and STT to be abolished.
- MAT to be levied on assets value vis-à-vis book profits.
- Credit in respect of carry forward MAT not allowed.
- Shift of exemption methodology (for specified sectors like infrastructure, power, SEZ developers and others).
- Taxability of profits of establishments operating in SEZ.
- Housing loan interest for self occupied property not available for deduction from taxable income.
- Carry forward of losses for unlimited period.
Provisions Relating to Individuals
- Significant scale up in tax slab
The tax slabs for individuals will be revised drastically. No tax payable up to an income of INR 1.6 lakhs, 10% tax up to INR 10 lakhs and 20% up to INR 25 lakhs.
The benefit of increased tax slab is, however, offset by discontinuation/restriction of the following benefits:
- Housing loan interest
- Principal repayment of loan
- Rent free, or concessional, accommodation provided by the employer
- HRA
- Leave travel concession
- Encashment of un-availed earned leave on retirement or otherwise
- Medical reimbursement
- Withdrawal from provident funds, approved superannuation funds, life insurer and New Pension System Trust under whatever circumstances, will be included in the income
- Scope of Section 80C limited to approved provident fund; approved superannuation fund; life insurer; and New Pension System Trust.
- Income on provident fund will be exempt only to the extent of accumulated balance as on March 31, 2011.
Provisions Relating to House Property
- Interest on housing loans will not be eligible as ded
Interest payment on home loans for self occupied property will not be eligible for deduction (compared with existing benefit up to INR 1.5 lakhs).
The entire interest paid would be deductible from the taxable income, provided the house is leased out.
- Principal repayment of home loans not included under Section 80C
Deduction on Section 80C will be enhanced from INR 1 lakhs to 3 lakhs. However, the new provision is silent on inclusion of principal repayment of a home loan.
- Calculation of gross rent
Gross rent will be the higher of:
- The amount of contractual rent for the financial year
- The presumptive rent calculated at 6% per annum of the ratable value fixed by the local authority
The liability will be at least 6% of the value of the property, which was not the case earlier.
Provisions Relating to Capital Gains
- No distinction between long-term and short-term capital gains
The present distinction between short-term and long-term investment assets, based on the length of the holding period of the asset has been eliminated. Indexation benefit will continue for capital asset transferred after one year from the end of financial year in which asset was acquired. However, base date for indexation will be shifted from April 1, 1981 to April 1, 2000, and capital gain between 1981 and 2000 will not be liable to tax.
- Long-term capital gains on equity shares taxable
Long-term capital gains on equity shares or units of an equity oriented fund, which was previously exempt under Section 10(38), will now be taxable at normal rates. Sixth Schedule of the draft bill pertaining to “Income not included in the total income” does not mention about long-term capital gain on equity shares or units of an equity oriented fund. Benefit of indexation on non-financial assets will now be available after a holding period of 12 months viz-a-viz 3 years earlier.
No mention of special tax rate of 10% on short-term capital gain on equity shares and units of equity oriented fund: It seems short-term capital gain (currently taxed at 10%) will now be applicable under a normal tax slab.
- Exemptions under 54EA, 54EB and 54EC withdrawn
Deductions with respect to capital gains mention that new investment assets would be only one or more pieces of agricultural land, residential house and deposits under the ‘Capital Gains Savings Scheme’. Previously, investments in bonds of NHAI, REC and in bonds, debentures, shares of a public company or units of any mutual fund specified by the Board in this behalf by notification in the Official Gazette were also allowed.
- Security Transaction Tax will be abolished
Provisions Relating to Carry Forward of Losses
- Current provision
Under current tax provision, losses from business activity and capital gains were allowed to be carried forward for eight years and losses from speculation business were allowed to be carried forward for four years. Also, unabsorbed depreciation was allowed to be carried forward indefinitely.
Draft provision
As per the new tax code, losses will be allowed to be carried forward indefinitely for set off; however, there is no provision for carry forward of unabsorbed depreciation. Provisions Relating to Corporates
- Tax rate to be reduced to 25% from 33%
The draft act indicates that for companies (both domestic and foreign) tax rate can be reduced to 25% from 33% earlier. However, foreign companies would be required to supplement their corporate tax liability by a tax of 15% on branch profits.
- MAT paying companies likely to be negatively impacted
- MAT to be levied on asset value vis-à-vis book profits
- Credit in respect of carry forward MAT not allowed
Current provision
Under current provisions of the Income Tax Act, a company is required to pay MAT on its book profits if income tax payable on the total income is less than 15% of book profits. However, companies are allowed to carry forward MAT credit for a period of 10 years, following the year in which MAT has been paid.
MAT credit = MAT – normal income tax
Draft provision
As per the amended provision, MAT will be levied on the “value of gross assets” – which will be the aggregate of:
1. Value of gross block of fixed assets
2. Value of capital work in progress
3. Book value of all other assets (may include gross current assets and investments)
As reduced by:
1. Accumulated depreciation and
2. Debit balance of profit and loss account
The MAT rate will be 0.25% of the value of gross assets in case of banking companies and 2% of the value of gross assets for all other companies.
Under the new code, MAT will be the final tax and will not be allowed to be carried forward.
- Deductions
Critical change in methodology of allowable deductions
Current deductions under Sections (80IA, 80IAB, 80IB, 80IC and 80ID) exempt profits made by companies involved in specified sectors.
The new code makes changes from profit-based incentives to investment-based incentives. Under the new scheme, companies will be allowed to recover all capital and revenue expenditure (except expenditure on land, goodwill and financial instrument), and they would be liable to income tax on profits made thereafter. Instead of enjoying tax holiday for a number of years, tax free profits will be restricted to the amount of capital expenditure incurred. Hence, the period consumed in recovering all capital and revenue expenditure will actually become the tax holiday period.
Following major activities will be covered under the new code:
Business of exploration and production of mineral oil or natural gas
- Business of developing a special economic zone
- Business of generation, transmission or distribution of power
- Business of developing/operating and maintaining any infrastructure facility
- Business of operating and maintaining a hospital in any area, other than the excluded area
- Business of laying and operating a cross-country natural gas or crude or petroleum oil pipeline network for distribution, including storage facilities being an integral part of the network
The above list includes only developer of SEZ, though SEZ operations are not included. Also, telecommunication services and refining of mineral oil are not covered in the new list (which were hitherto considered exempt), implying normal taxation. Further, it is not clear if these changes will be applicable to the existing establishments only or will be implemented with retrospective effect.
Profits from operations in SEZ
Sixth Schedule (of the new direct tax code) lists all incomes that are exempt. It, however, does not include profits of newly established units in SEZs (currently exempt under Section 10AA; profits derived from operations in SEZ facility is exempt 100% for the first five years of operations and 50% for the next five years and 50% again for the next five years, subject to reinvestment).
Considering sunset clause for Section 10A/B, the IT sector has started migrating incremental business to SEZ facilities. However, if the exemption stands withdrawn, the future profitability may be subject to normal tax rates. |
Source: www.economictimes.com, press releases as on 13th August 2009
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