Union Budget 2011: FM's double whammy leaves IT, ITeS grimacing in pain

The discontinuation of the tax holiday on the STPI scheme and the extension of MAT to SEZs has dealt a double blow to  IT and ITeS industries

In the 1917 work, The Silence of the Sirens, the great philosopher Franz Kafka writes-"Someone might possibly have escaped from their singing; but from their silence, certainly never."

It rang true for the IT and ITeS industries when the Finance Minister remained silent on the STPI scheme. The scheme offered tax sops to technology companies operating and exporting services from designated technology parks. The scheme which initially ended on 31 March 2010 was extended for a year during the Budget proposals last year.

The industry sought another extension leading into the Direct Taxes Code (DTC), expected to come into effect on 1 April 2012. However, Pranab Mukherjee was in no mood to heed the call of the industry. The impact, though, will be absorbed mostly by the mid-cap companies from among the 7,000-odd companies operating in over 51 STPIs spread across the country.

For instance, almost 95% of KPIT Cummins' Rs730 crore revenues stem from units located inside these parks. Similarly, Hexaware also has about 80% of its revenues and consequent profits emanating from its STPI units. Firms like these are expected to face a situation where the tax outgo is likely to double for FY2011-12. While companies like Zensar, Hexaware, Hinduja Global, KPIT Cummins and Sonata Software are bracing for an increase in tax outflows, bigger and more established players will not be majorly affected by the provisions, having already run their benefits off their respective balance sheets.

Moving to an SEZ would mitigate some of the pain, but the FM has struck a pre-emptive blow even there by extending MAT to companies operating in SEZs. The rate has also been increased by 50 basis points from 18%. Prateek Aggarwal, Chief Financial Officer (CFO) of Hexaware highlighted the pain facing the mid-cap IT segment-"the smaller companies would find it difficult to make huge investments in moving to SEZs. It could prove to be a significant drain on all resources."

Again, the implication of MAT will be marginal on the IT majors, but complicates life for the small and medium players by forcing them to pay higher taxes, irrespective of where they ply their trade. It remains to be seen how many of these tier-II players opt to make the heavy investments needed to establish new capacities inside an SEZ. It is also going to cost more to take space inside an SEZ, as MAT has also been extended to the developers of SEZs. A little bit of additional pain will also be inflicted by Mr Mukherjee's decision to increase levies on aviation fuel and air travel. Travel is one of the major components of direct expenses for most IT companies and the new levies will add to their operational expenses.

NASSCOM, the association for technology companies, was disappointed with the Budget proposals.

"The IT-BPO sector faced double negatives-imposition of MAT on SEZs and withdrawal of tax exemption under Section 10A/10B. The SEZ Scheme was announced as an Act of Parliament. Only last year, it was clarified that under the Direct Taxes Code, SEZ units set up till 2014 would continue to get profit-linked tax exemptions. Imposition of MAT at 18.5% with an effective rate of nearly 20% nullifies the impact of any such incentive," it said.

However, there were a couple of positives too for India's mainstay in the services sector. First, the proposal to reduce tax on dividends received through foreign subsidiaries from 33% to 15% will help Indian multi-nationals retain a larger chunk of their foreign income.

The industry will also look to capitalise on India's renewed emphasis on e-governance. It is an area that promises to offer significant domestic business opportunities for the nimble and networked players in the market. There are several high priority initiatives like UID, GST Network, National Knowledge Network, Centralised Processing Units and rural broadband that will offer opportunities to help the government bridge the growing digital divide.

Reacting to the budget, S Mahalingam, CFO of TCS chose to focus on the positives and ignore the marginal impact on the taxation front. "Increased thrust in key areas like primary education, health, infrastructure, rural development, and financial inclusion would fuel broad-based growth and development," he said. "Enhanced focus on SEZs to drive growth and employment and clarity on the tax regime is welcome. This would aid recovery for the IT industry. Social transformation and technology enabled governance will gain momentum and this is good news for the country."

Overall, the finance minister has opted to resist the temptation to eschew popular measures for the IT sector and opted instead to continue moving towards a tax policy that integrates the hitherto blue-eyed industry with other major sectors of the Indian economy.

R Balakrishnan
1 decade ago
No one should shed tears when an industry pays taxes. IT makes a pile of money and it is overdue that they pay full taxes.
Any business that cannot pay taxes, has no reason to exist. Yes, the govt can give some incentives for capital investments, but not for running a business. Agriculture unfortunately still continues to be molly coddled by the govt due to politics and not economics.
So, let us not worry about the IT sector. It is grown up and makes enough to pay taxes.
1 decade ago
To some extent, this will also separate the frauds from the real ones, since plenty of infotech companies, including the so-called big names from both domestic and international brands, have been misusing the STPI provisions for a decade now.

Especially impacted will be the 100% subsidiary type companies, whose accounts are as vague as the dishwater they trot out in the name of "software|'.

Maybe NOW we shall see a real level playing field, with better talent going to really good work, instead of to the bunch of poseurs.
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