Budget 2019 And Tax Reforms: What Should The Government’s Focus Be?

With improved compliance and increased tax base, the tax-to-GDP ratio has reached 12 percent—highest in the recent past, up from 10.1 percent in 2013-14, the Bharatiya Janata Party proudly claimed so in its election manifesto before the general election. The increased revenue, the party had promised, will give it room to lower tax rates, thereby rewarding honest taxpayers. As for startups and the ease of doing business, the government’s target will be that the time spent on tax compliance is limited to one hour per month, the party had promised.

The BJP returned to power with a landmark majority and its first union budget will be presented on July 5. Time for Finance Minister Nirmala Sitharaman to deliver on the party’s promises?

BloombergQuint spoke with tax experts on their expectations from this year’s budget.

Income Tax Slabs: Relief For Aam Aadmi?

In its maiden budget in 2014, the Narendra-Modi government had increased the tax-exemption limit by Rs 50,000. Individuals with income up to Rs 2.50 lakh were exempted from paying income tax. In 2017, the tax rate was lowered for individuals with income between Rs 2.5-5 lakh to 5 percent from 10 percent.

And then, in its interim budget in February this year, a rebate of Rs 12,500 was announced for taxpayers with taxable income up to Rs 5 lakh.

Daksha Baxi, partner at Cyril Amarchand Mangaldas, expects a token change in terms of widening of the lowest income tax slab.

Himanshu Parekh, partner at KPMG India, agrees. This, he says, will leave more disposable income in the hands of the middle class and give a boost to slowing consumption in the sluggish economy.

Shefali Goradia, partner at Deloitte India, says given the focus on expanding the taxpayer base, the budget is unlikely to alter tax slabs buy may enhance tax deductions.

While the budget may be kind to lower-income groups, some expect it may levy more tax on higher-income taxpayers. Already, those earning a taxable income of Rs 1 crore and above pay a surcharge of 15 percent and a levy of 4 percent cess. Introduction of a higher cess or surcharge for those in the higher-income tax bracket is likely and estate duty tax may too be in the offing, says Rajeshree Sabnavis, an independent tax consultant.

According to Rupak Saha, partner at PwC India, the reintroduction of inheritance tax may not be a big revenue spinner—when contrasted to income tax—but it is certainly a populist move aimed at better distribution of wealth.

Corporate Tax: Lower Rate For All?

In 2015, former Finance Minister Arun Jaitley had promised that the corporate tax rate would be gradually lowered to 25 percent from 30 percent over a period of four years, during which the incentives available to companies would be phased out. Over the past few years, tax incentives have largely been phased out and tax rate has reduced too, but only for companies with turnover not exceeding Rs 250 crore per annum.

KPMG’s Parekh expects corporate tax rate for all companies as well as Limited Liability Partnerships to be lowered to 25 percent, irrespective of the turnover criteria.

This rate, according to Baxi and Goradia, will be competitive compared to other developing companies and would attract investment as well as better compliance.

But fiscal constraints may prevent the government from reducing the corporate tax rate for all companies, says Sabnavis. Especially since it is expected to have widely missed the tax revenue target for financial year 2018-19.

Tax Axe On Startups

In the first term of the Modi government, the actions of the tax department belied the government’s policy promises on ease of compliance for startups and young companies. Angel tax turned out to be a misguided effort by the tax department to hunt down shell companies. While some relief has been offered by the revenue department and the commerce ministry, the issue remains contentious for entrepreneurs.

Angel tax has been a major pain point for companies, and it should be abolished, says Parekh.

Baxi agrees, saying where the investor’s balance sheet does not justify such investment, the tax authorities already have the power to question it.

Besides addressing the issues on account of angel tax, there are several other amendments that the government can introduce to live up to its promise of easing compliance for young businesses, says Goradia. These include:

• Increase the income tax exemption for startups from three to five years. Currently, a startup can avail a tax holiday for any three consecutive financial years in the first 10 years after incorporation.
• Exclusion of startups from the recently introduced thin capitalisation provisions to enable them to source foreign borrowings. When an entity has a high proportion of debt compared to equity, it is said to be thinly capitalised. The rules state that interest paid by an Indian company or permanent establishment of a foreign company shall not be allowed as deduction in computing its taxable profit.
• Exemption from the shareholding condition for carry-forward and set-off of losses so that startups can continue to avail of set-off benefits.
• Exemption from minimum alternate tax and alternate minimum tax provisions under the income tax law to spur more new businesses.
• Incentivise banks and financial institutions to extend funds to startups.

Capital Markets: DDT Relief?

In Budget 2018, the government had introduced a tax on long-term capital gains on listed equities. Long-term capital gains of over Rs 1 lakh are now taxed at 10 percent without the benefit of indexation.

Given the current scenario and turmoil in the financial industry, it would be good to relook at the LTCG tax and securities transaction tax rates to spur investments, says Maulik Doshi, partner at SKP Group. The expectation is that dividend distribution tax must go.

Instead, there should be dividend withholding tax across the board, at a reasonable rate, say 15 percent, says Baxi. Currently, 17 percent DDT is paid by an Indian company that’s distributing dividends. And since this tax isn’t directly borne by foreign shareholders, they are unable claim foreign tax credit in their home country even though they bear the economic burden of this tax. And hence, the expectation from the industry to tax DDT at the hands of the recipient.

Goradia points to its benefits.

Insolvency Cases: Relaxations

Investors, hoping to bid for assets of companies facing insolvency proceedings, have been asking the government to consider a beneficial tax regime for stressed assets.

The write-offs and write-backs being done by lenders and borrowers needs to be given the right tax treatment, Doshi says, adding that the starting point can be to amend the minimum alternate tax provisions. Under the accounting standards, all these waivers come to the credit side of the insolvent company’s profit and loss account which give rise to a tax liability in the form of MAT.

Baxi and Goradia suggest relief for stressed companies under section 56(2)(x). This section is applicable if an entity receives property from a non-relative and doesn’t pay the fair market value for it. In such a case, the difference between the fair market value and what the person pays is treated as the person’s income.

All the experts agree that there may not be any big bang changes on the tax front given that the Direct Tax Code is in the works. Even if the government does have plans for any radical tax reforms, it appears that those will need to wait till the unveiling of the new tax code and the next Budget rather than this one, says Sudhir Kapdia, partner at EY.