Corporate Income Tax: small benefits, but SEZs dealt a MAT blow

The Special Economic Zone tax bonanza will end, if the Budget proposals pass in their current form. Barring this, the Budget does not have any nasty surprises for companies.

The corporate surcharge has been lowered from 7.5% to 5%. That reduces the effective corporate tax rate from 33.2% to 32.4%, which is a nice, even if small, relief for Indian companies. The new rate will be 30% plus a 5% surcharge, which works out to 31.5%, and after adding the education cess of 3%, it works out to 32.4%.

But the Minimum Alternate Tax (MAT) which is levied on firms has been increased to 18.5% of book profits from 18% earlier. This was to compensate for the lower surcharge, according to the FM. MAT is levied on those firms whose profits as per the Income Tax Act, is lower than that in their books prepared under the Companies Act.

So, companies will have to pay 18.5% of their book profits or tax as per the Income Tax Act, whichever is higher. But this tax is adjustable against future taxes payable. That is, when the company exits the tax holiday, or any other situation, which is lowering its tax incidence, it will be able to set off its MAT credit against the tax liability. This is in the nature of an advance tax, which lowers the cash flow of the company and in turn, hikes the cash flows of the government.

The Special Economic Zone Act has come under fire on several fronts. Earlier, profits earned by SEZ developers and units operating in these SEZs were exempt from tax.

In addition, the dividend paid by these SEZ units was exempt from tax, compared to other companies who paid a dividend distribution tax of 15%. This will go. The exemption of tax on dividends ends from June 2011 itself. This again does not affect their profits but will reduce the profits available for distributing to shareholders.

SEZ profits will continue to be exempt from income tax, but they were also exempt from MAT. Now, they have to pay MAT of 18.5% on their profits earned in 2011-12. Their profits will fall to that extent. As said earlier, this is a cash flow and timing-related effect, and they will be able to set it off against future profits, as and when they become taxable.

But the SEZs may have to wait for a very long time for that. At present, units set up in SEZs get a 100% exemption on profits for the first five years, 50% for the next five years, and then 50% of the export profit reinvested in the business. And, developers of SEZs could get a tax holiday for 10 out of 15 years from the time it was notified. That is, their tax incidence will go up substantially only after 10 years.

In one shot, the government has ensured it loses no revenue (cash flow) due to companies using SEZs for their business nor from developers who were racing to set up residential and commercial complexes near the eligible areas surrounding the SEZ, and were eligible for tax exemptions.

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