View: Sitharaman's corporate tax cut move is a sixer for sentiment, but a four for the economy
Knocking a little over five percentage points from that rate is most welcome and much-needed relief.
Assume the loan melas take place over the next two months. The finance ministry’s instruction to the banks — so much for the promise of board-run public sector banks — is to get five new borrowers for every existing one. This would mean an expansion of the banks’ client base, even if many new borrowers are family members of existing clients who are roped in to help the managers meet their loan disbursal target. But if a quiet word is spread, as it likely would be, that repayment of the loan is not a mandatory obligation, there would be many willing takers. If all the amounts so lent end up boosting consumption, that would spur economic activity.
If companies expect the increase in demand to sustain, they might even begin to invest in capacity addition. Capacity utilisation in industry is just short of 80%. If there is demand visible on the horizon, that would spur investment. If not, the existing capacity is good enough. This is where the concessional 15% corporate tax rate for new companies set up after October 1, 2019 comes in.
Unless the rules expressly prohibit it, it would be a simple matter for Indian companies to incorporate new companies and transfer their existing manufacturing units to them. Suppose this loophole is closed. Companies could be tempted to add fresh capacity under newly incorporated companies, to avail themselves of a really low rate of tax on corporate income.
Assume companies are now raring to expand their capacity. Would banks be willing to lend to them? The loan melas under shamianas would be under a government directive and would not be expected to generate quality loans. But loans to companies would once again call for all the prudential norms that apply to fresh lending by a bank with a large stressed loanbook. How ready would managers be to sanction loans that, if they go wrong, might still attract the interest of criminal investigators?
Can investment in the economy pick up without the resources locked up in stalled/unsold real estate projects worth an estimated Rs 7.5 lakh crore being brought to the market, or new largescale infrastructure projects taking off? Neither proposition is addressed by either retail loan melas or lower tax rates.
Even if interest rates come down further, can the broken financial mediation machinery that shifts savings to investment — banks still totter under their bad loan burden, non-banking finance companies struggle to look different from the stumps at which Jaspreet Bumrah takes aim during practice and the corporate bond market is a tiddler straggling in the wake of the large government bond market — supply the funds needed?
A striking revelation brought out by the official press release on the corporate rate cut is that the effective tax rate has gone up from 22% towards the end of the UPA government to 30.45% in 2019, over the first term of the Modi government. The effective rate is the rate that is revealed by actual tax payment, after taking into account all kinds of deductions, tax holidays and other tax planning opportunities, as well as the minimum alternate tax.
How do we arrive at this figure? The press release says that the revenue loss from today’s announcements is Rs 145,000 crore. Take away the Rs 12,000 crore the government had assumed from the super-rich taxes that have now mostly been withdrawn, that leaves a corporate income tax give-away of Rs 133,000 crore. That means the corporate tax target is that much less from the budget target of Rs 7,66,000 crore. The effective tax rate, after the tax reduction, says the press release, would be 25.17%. The new tax target divided by 0.2517 is the projected tax base of corporate profits. The original target of Rs 7,66,000 works out to 30.45% of the total profits.
That is a high rate of tax, indeed. Knocking a little over five percentage points from that rate is most welcome and much-needed relief.
An effective tax rate of over 25% is still high, by the tax rates in Asian economies, including China, that are alternative investment destinations for India. There is scope to bring them down further.
Views expressed by the author are his own.