Sustaining interest of private players in IndiaÂ’s road sector is of paramount importance. For doing so if the government needs to make some small sacrifices in the immediate future, it is indeed worth as this will reap rich dividends in the future through overall development of the economyÂ—and tax reforms will go a long way in this direction, proposes Hemant Kanoria.
Qualitatively IndiaÂ’s roads are a mix of modern highways and expressÂways on one hand and narrow, unpaved roads on the other. Almost 50 per cent of IndiaÂ’s road network was unpaved as on 2008. Recognising this, the Government of India and several state governments have launched initiatives to moderÂnise and improve and expand the road infrastructure.
Of late, road building is facing several challenges. The contractors in road construction are making much smaller profits (average typical margins of 6-10 per cent) when compared to those who are engaged in construction in real estate (about 20-25 per cent), hydropower and industrial sectors (about 15 per cent). These thin marÂgins are mainly due to the delays in overall project impleÂmentation, investment climate bottlenecks and unhealthy competition.
The distortions of direct and indirect taxes affect both foreign and domestic road contractors. In a nutshell, non-uniformity and multiplicity of taxes, high level of taxes and duties, cumbersome tax assessment and collection procedures, and absence of appropriate fiscal concessions, are cumulatively having a serious drag on the profitability of the industry.
In order to make the governmentÂ’s ambitious road building target a reality, it is essential for the government to review the various taxation issues. Since the governÂment is embarking on its Union Budget exercise for the year 2013-14, this is perhaps the right time to put forÂward the various impediments that are faced in the road sector.
Direct Tax Issues
Exclusion from MAT: To encourage private sector participation, road building firms are allowed 100 per cent tax exemption in any 10 consecutive years within the first 20 years (typically the length of the concession period) of a project under Sec 80IA of IT Act. But as Minimum Alternate Tax (MAT) is applicable to such cases, the assessee is actually not getting 100 per cent tax exemption, rather the exemption comes to around 11.5 per cent (ie 30 per cent tax under normal circumÂstances Â– 18.5 per cent tax exemption under MAT) as assessee is supposed to pay tax under MAT at 18.5 per cent on book profit.
Proposal Â– At present, under tonnage tax system, MAT is not applicable to the shipping industry u/s 115-VO. Considering the importance of road projects and their role in the national development, we propose that the road sector be kept out of MAT u/s 115JB like shipping companies. Alternatively, Sec 115JB be amenÂded to exclude 80IA profits from the purview of MAT.
Venture Capital benefit u/s 10(23FB): Presently, the benefit of exemption u/s 10(23FB) is given only to the venture capital funds/undertakings/companies. Thus, venture capital companies investing in road proÂjects are eligible for this exemption. However, while the exemption is allowed for the investor companies, the companies which undertake the actual construction of road projects are not extended this benefit.
Proposal Â– The venture capital companies as well as the road firms which undertake the construction of road projects should be brought within the purview of section 10(23FB) and exemption be granted. TDS on actual payments: Presently TDS is calculated as per year-end provisions (YEPs), whereas the actual payments may actually fall short of YEPs. This adversely impacts the cash flow of the companies undertaking road construction.
Proposal Â– Instead of calculating TDS on YEP, it should be based on actual payment. This would result in large cash flow savings.
CDT exemption to companies engaged in road projects: Though Dividend Distribution Tax (DDT) exemption is available to all companies for one layer, ie, between a holding company and subsidiary company, the same is not applicable for a separate Special Purpose Vehicle (SPV) company and this effectively nullifies this benefit for the road developer. Most road projects are undertaken by forming SPVs.
Proposal Â– There is a strong case for allowing DDT exemption for such policy mandated tier in the corporate structure, ie, between an infrastructure SPV and the holding company, where creation of such SPV is mandated by a concession agreement. Thus, Corporate Dividend Tax (CDT) should not be levied on such SPVs.
Indirect Tax Issues
Works Contract Tax: Presently, the builder of road project is required to pay Work Contract Tax (WCT) at the rate of 4 per cent approximately to the respective state governments. The WCT is paid by contractors as well as sub-contractors thereby impacting the profiÂtability of these firms.
Proposal Â– Keeping in mind the importance of road builders and how essential it is to ensure that their interest in road projects is sustained, Central GovernÂment needs to evolve a mechanism to reimburse these players the amount lost in payment of WCT in the form of a subsidy. Otherwise, WCT may be waived and the state governments may be compensated in the lines of GST proposed.
Alternatively, a communication/recomÂmendation from Department of Revenue, Ministry of Finance should be sent to all state governments for WCT exemption and the exemption should not just be limited to the main contractor but also to the sub-contractors. However, both the latter approaches would call for lengthy deliberations and consensus-building. Thus, the former direct approach of subsidy to contractor and sub-contractors would be much easier.
Service Tax on reverse charge: Effective from the current fiscal after the introduction of the Negative List, the service tax on reverse charge basis is to be paid on EPC contracts. It is putting too much hardship on the cash flow of the company concerned.
Proposal Â– Keeping in mind the importance of road construction and also its importance, the service tax on reverse charge may be exempted during the construction phase. Alternatively, since most of the road projects are undertaken in PPP format, the PPP road projects may be included in the Negative List. In case inclusion in the Negative List hampers the continuity of the CENVAT chain, the government should consider putting in place a refund mechanism available for such contracts.
Procurement by EPC contractors: In the case of exports, even the supplier to the exporter is exempted from indirect taxes while procuring raw materials. However, EPC contractors for road projects need to pay indirect tax on their raw materials and machinery. However, certain categories of imported road equipment are exempted from import duty.
Proposal Â– EPC contractors should be allowed to procure inputs/capital goods free of indirect taxes either on locally procured goods and/or imports. This will reduce to a substantial extent the cost of the project.
Clarity on treatment of government grant/equity support: The PPP concession agreement provides for grant from the sponsor agency to the contractors for supporting construction of road. However, there are no clear guidelines and/or clarifications with regard to how to treat the sponsorÂ’s grant, as a capital receipt or a revenue receipt.
Proposal Â– Considering that the grant so received is to support the cost of construction, the same should be considered a capital receipt and a circular to the same effect can be issued by CBDT.
Clarity on treatment of toll collection with respect to concession agreement of widening of the existing route length: The right to collect toll during construction is regulated by many clauses of the concession agreement and there is restriction on utilising the toll fees. Thus, it is essentially part of the capital cost. Toll receipt is not actually an income for the contractor. However, if the same is treated as revenue receipt by the IT authorities, the contractor would have to pay tax on the same.
Proposal Â– The toll collection should be considered a capital receipt till the point of COD ie, the cut-off date of completion of the expansion work. Post-COD the same may be treated as revenue receipt. A circular to the effect should be issued by Central Board of Direct Taxes (CBDT).
Clarity on treatment of income from idle funds: Presently the receipt from investment of idle fund is treated as income and taxed at 30 per cent. During the construction phase, builders keep funds in banks in the form of FDR or short term investments. This is an integral part of project implementation and the income generated from idle funds is essentially to augment the pool of funds for future construction. Taxing this income only reduces the fund base.
Proposal Â– A circular should be issued by the CBDT whereby income from idle funds should be made exempt from taxation.
The author is Chairman, FICCI National Committee on Infrastructure, and Chairman & Managing Director, Srei Infrastructure Finance.