By Sanjay Tolia
Indian Union Budget 2021-22: On February 1, 2021, the finance minister will present her third Union Budget under the Modi 2.0 government. The events of the last one year and the challenging economic environment make this Budget a very critical one for India. There is a plethora of asks from all segments of the economy. However, given resource constraints, it will be quite challenging for the finance minister to balance and fulfil various demands, especially where significant outlays may be involved. Against this backdrop, we have attempted to crystal-gaze and identify some areas of tax, which are crucial but may not have significant revenue implications, which we hope that the finance minister has considered and could feature in the Budget.
Mitigating the impact of Covid-19
The economy had started slowing down even in the pre-Covid-19 period, and Covid-19 exacerbated the situation. Businesses suffered huge losses, and while some green shoots have started to appear, it will be a while before businesses start showing profits. Further, it will take even longer for them to absorb past losses. Accordingly, carry-forward of tax losses could be allowed for an extended period beyond the existing eight years.
Adverse economic circumstances are also forcing businesses to restructure. While tax laws generally allow for tax-neutral restructuring, an existing company cannot carry forward any losses in a merger unless the company owns an industrial undertaking. Given the large share of the services sector in the economy, such a condition would prevent a significant part of the economy from achieving tax-neutral restructures. Accordingly, this condition may be removed from the law.
Employees stranded in India due to travel restrictions create tax risks on taxation of individuals as well as Permanent Establishment (PE)/Place of Effective Management (POEM) concerns for their overseas employers. The OECD has recently released revised guidance on tackling the effects of Covid-19 on tax situations of individuals and employers relating to creation of PE, POEM and individual taxation. The OECD’s view is that given the extraordinary circumstances involved, such adverse tax consequences should not arise even under the existing treaty law. Further, they have recommended that governments take a practical view on the matter and provide definitive guidance. Several countries such as Australia, Canada, Germany and the UK have already issued guidance on many of the above aspects. Relief could be provided in the above tax situations, consistent with the OECD suggestion and relief provided by various other countries.
Providing greater tax certainty
The theme of tax certainty will always be critical given the large litigation inventory that we have. This is even more crucial in the current environment where businesses need to focus on business activity and recovery, rather than deal with any tax uncertainty or engage in tax disputes and litigation.
In this regard, the government’s efforts on the Advance Pricing Agreement (APA) programme and the recent Vivad se Vishwas Scheme is laudable and in the right direction. Such dispute resolution schemes have also been offered for Service Tax as well as VAT in many states. A similar dispute settlement scheme could be considered for Customs as well.
Efforts are also required to provide more clarity in the law to ensure fewer disputes and ease compliances. Several recent tax provisions contain some grey areas and ambiguity. In this regard, timely clarifications on these ambiguities would be very helpful. Equalisation Levy (EL) is one such law where the industry has made representations and awaiting clarifications. Given the existing language, the scope of the law could extend to cover even traditional businesses such as manufacturing with respect to any online sales and services. This may be inconsistent with the intent of the law if the intent was to cover new-age digital business models. For financial year 2020-21, the EL provisions seem to overlap with the historical taxation of royalties and fees for technical services, which may lead to double taxation. Clarifications are also awaited by the industry on the new withholding obligations imposed on e-commerce operators and tax collection at source provisions that have been extended to sale of goods. Some of these aspects could be clarified in the Budget.
Obviously, every possible ambiguity cannot be envisaged and clarified in advance. Hence, other robust mechanisms could also be introduced for providing certainty. Strengthening and speeding up rulings by the Authority for Advance Rulings or public rulings on contentious issues that are non-binding could be considered.
In addition, to avoid proliferation of disputes in the future, new mechanisms for faster dispute resolution could be considered. Mediation is one such alternative. Mediation would entail both the tax department and the taxpayer appointing an independent and neutral mediator to review the tax issue and offer a resolution, which could be binding. Alternatively, the government could consider a non-binding construct initially and move to a binding construct after reviewing the experience.
Spurring investment and spending
As mentioned earlier, the government is severely constrained for resources. Accordingly, widespread incentives and impetus may be difficult. However, some changes could have a positive multiplier effect on the economy or may not involve a significant revenue outgo, and hence could be considered. For instance, the 15% concessional tax rate for new manufacturing companies could be extended to all companies, if they make fresh investments beyond specified limits. Further, given the large share of the services sector in the economy, the 15% concessional tax rate could also be extended to it for employment generation beyond specified limits. Research and development (R&D) is an area where India has tremendous potential given its talent base. R&D benefits such as weighted deductions could be considered for new technology sectors such as quantum computing and artificial intelligence.
A higher standard deduction could be considered for salaried employees on account of the impact of expenses being incurred due to work from home. Obviously, if employees are working from home, office expenditure of businesses should reduce and hence the impact on the overall tax base may not be material.
Apart from the above positive changes that could be considered by the government, one area of caution is to avoid any changes which in any way mar the overall stability and continuity of the tax regime. Any adverse retroactive changes to the law can shake investor confidence, divert attention from the efforts to rebuild businesses, and impact investment flow. The government appreciates this and, hence, such measures may not be included.
It will not be easy for the government to satisfy every stakeholder, and hence all eyes will be on the finance minister on February 1 as she walks a tightrope in this unprecedented Budget year.
The author is tax leader, PwC India