[Opinion] Pre Budget 2023 Wishlist | Corporate Taxation

Authored by Dr Suresh Surana – Founder | RSM India

Table of Contents

1. Extension of Lower Tax Rate of 15% for New Manufacturing Domestic Companies under Section 115BAB

2. Tax on Dividends Distributed by Domestic Companies to be Restricted to 20%

3. Reduction in Tax Rate for Partnership Firms and LLPs

4. Scope of Safe Harbour Regulations for Transfer Pricing to be expanded to include more Industries

5. Removal of Tax on Notional Income in Respect of Shares and Property Transactions

6. Tax on Buy-back of shares under section 115QA be rationalised for listed companies

As the Union Budget 2023 is approaching, most of the taxpayers are contemplating the tax benefits that would be provided in this year’s Budget. Considering the still subsisting fragility of the economy owing to the two years of pandemic, the corporates are expecting tax reliefs not only in the form of reduced tax rates but also simplifying compliances, speeding up the practical procedures such as assessment, appeals, etc. It would be interesting to watch the steps that the Government would undertake vide Budget 2023 in the current resilient economy with the potential third covid wave lurking in the upcoming future. Some of the expected tax reliefs which corporates may expect are provided as follows:

1. Extension of Lower Tax Rate of 15% for New Manufacturing Domestic Companies under Section 115BAB

As per the provisions of Section 115BAB of the Income-tax Act, 1961 (IT Act), new domestic manufacturing companies engaged in the business of manufacture or production of any article or thing and research in relation to, or distribution of, such article or thing manufactured or produced by them and incorporated on or after 1 October 2019, have an option to pay tax at a lower effective rate of 17.16% (i.e. (15% basic tax + 10% surcharge) + 4% cess)} subject to fulfillment of specified conditions.

Companies opting for this section would not be required to pay Minimum Alternate Tax (MAT) but are not eligible to claim majority of the deductions available to other business assessees. One of the conditions prescribed under this section is that the companies must commence their production on or before 31 March 2024. India is emerging as the preferred manufacturing destination as most global companies are looking at broad basing their manufacturing locations in view of the geo-political developments. In recent times, several global companies in electronics, auto and engineering sectors have announded mega investment plans for India for manufacturing projects. Most manufacturing projects have long gestation periods ranging from 1 year to 3 years.

Therefore, it is widely expected that the sunset date for commencing manufacturing activity would be extended by 2 years to 31 March 2026 so as to boost the new manufacturing companies.

2. Tax on Dividends Distributed by Domestic Companies to be Restricted to 20%

Under the existing provisions of the IT Act, there is a double taxation of income in case of companies – firstly the companies pay corporate tax and then the shareholders pay tax on the dividends. In case of resident individual shareholders, the tax on dividends can be as high as 35.88%. On the other hand, non-residents are liable to tax on dividends @ 20% (plus surcharge and cess) which gets further lowered by Double Tax Avoidance Agreements to 5%-15%.

In order to reduce the cascading effect of double taxation, it is expected that the maximum tax on dividends distributed by domestic companies in case of resident shareholders is limited to 20% (plus surcharge and cess).

Dive Deeper:
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3. Reduction in Tax Rate for Partnership Firms and LLPs

Small and medium enterprises generally prefer Partnership Firms or LLPs as compared to companies due to ease of formation, reduced statutory obligations, lesser compliances, etc. However, they are very unfavorable from taxation perspective as compared to corporates where the rates of tax generally range from 17.16% to 25.17% (including the applicable surcharge and cess) under the new optional corporate tax regime and new manufacturing companies tax regime.

Partnership Firms and LLPs are taxed at a flat rate of 30% (plus surcharge and cess) which may effectively result in a rate as high as 34.944%. At the same time, there is no tax on distribution of profits in case of partnership firms and LLPs whereas in case of companies, dividends are taxed in the hands of the shareholders. There is a need to reduce the disparity with the corporates and to incentivize the small and medium sized businesses. Thus, it is expected that the tax rate for firms and LLPs would be reduced to 25% (plus surcharge and cess).

4. Scope of Safe Harbour Regulations for Transfer Pricing to be expanded to include more Industries

The transfer pricing regulations have resulted in vast number of tax disputes and is one of the uncertainties companies having global operations are concerned about. With the objective to reduce litigation pertaining to international transactions conducted between Associated Enterprises, the income tax authorities, in 2015 had introduced the Safe Harbour Regulations for the purpose of determining arm’s length price. Presently, the scope of such regulations is limited to very few sectors and industries such as IT industry, back-office services and auto sector and have greatly reduced disputes. Due to its ease of applicability and acceptance from Indian Revenue Authorities, more industries should be brought within the purview of these rules.

Hence, to ensure certainty for the taxpayers and reduce litigation with tax authorities, the scope of Safe Harbour Regulations for Transfer Pricing should be expanded to include more industries and sectors such as electronics, metallurgical industries, engineering industries and distribution companies.

5. Removal of Tax on Notional Income in Respect of Shares and Property Transactions

In the existing Indian tax laws, there are several provisions which charge tax on the notional income which result in undue hardship and are against the concept of taxation of “real income”. Some of them are detailed below:

(a) Section 56(2)(x) of the IT Act

As per the said section, if a person receives any movable property without consideration or for inadequate consideration, and the difference between the fair market value (FMV) and actual consideration exceeds Rs. 50,000, such difference would be taxable as gift in the hands of the recipient. This includes the receipt of shares at a price below the adjusted book value of the shares of a company. It is well known that the market value of the shares can be below book value particularly in case the industry or company outlook is not encouraging. The objective of this provision was to avoid tax avoidance but this has hampered many genuine business transactions.

(b) Section 23(5) of the IT Act

Section 23(5) of the IT Act charges Notional Rent in the hands of the assessee holding Immovable property as stock-in-trade after the expiry of 2 years from the end of the financial year in which the construction was completed. Such unsold inventory could be due to certain inevitable reasons such as market conditions or the stamp duty valuation being higher than the prevailing market price.

Although such provisions are meant to be anti-abuse, several genuine business transactions are impacted adversely. Hence, in such cases, the provisions should be invoked only where the assessee is unable to establish the genuineness of the transactions.

6. Tax on Buy-back of shares under section 115QA be rationalised for listed companies

As per the provisions of section 115QA of the IT Act, while doing buy-back of shares, a domestic company is liable to pay tax on the distributed income (i.e. consideration paid by the company on buy-back as reduced by the amount received by the company at the time of issue of shares). These provisions were made applicable even to listed companies w.e.f. 5th July 2019.

Listed shares are transacted frequently and the shareholder transferring the said shares is liable to pay tax under the head capital gains on the value of appreciation each time a transfer takes place. Hence, the difference between the buy-back price and purchase price of such shares is the real income in the hands of the shareholder. However, buyback tax is levied on the entire difference between the buy-back price and the issue price which conveniently ignores the intermediary transactions and tax thereon paid by the shareholders who have transacted the shares between the date of issue and the date of buyback. Thus, this results into double taxation on the same income.

Hence, akin to tax on dividend, it is expected to delete section 115QA and section 10(34A) and tax the gain resulting on buyback directly in the hands of the respective shareholders whose shares are acquired under the buyback based on the buyback price and the cost of acquisition of shares for such shareholders.

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