MAHINDRA _ MAHINDRA - Capital Market

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					                                               Pre-Budget Memorandum 2011-12 (Direct Taxes)

                             CORPORATE TAXATION

1.    Corporate Tax Rate

Corporate tax rate of 30% for resident companies, coupled with surcharge of 10%,
continuing education cess of 2% and additional education cess of 1%, results in
effective tax rate of 33.99%. In addition to this, enhanced dividend distribution tax
and lowered depreciation rates impose a further strain on companies leading to
increased out-go of taxes thus leaving inadequate funds for generation of internal
resources for ploughing back for expansion, modernization, technology up-gradation,

The current aggregate tax burden is, thus, significantly higher than other developing /
developed countries in the Asia Pacific region. Rationalizing the tax rates and the
total tax burden would encourage higher voluntary compliance and result in higher


It is suggested that the Government should draw up a roadmap for reduction of tax
rates and the effective corporate tax rate inclusive of surcharge, cess and other
levies should be lowered further to 25%.

2.    Dividend Distribution Tax (DDT)

As per the provisions of section 115-O, domestic company is required to pay tax on
the dividends distributed @ 17% (including surcharge and education cess). The
Government aims to put in place a rational and streamlined tax structure. Levying
Dividend Distribution Tax results in double taxation of income which is not justified
and goes against the above thinking.

Further, the provisions of Section 115-O of the Income-tax Act were amended in the
Finance Act, 2008, through insertion of subsection 1A.

While the amendment u/s 115-O to some extent mitigates the cascading effect of
taxation of dividend, in case of holding and subsidiary companies, it however,
restricts elimination of double taxation only at one level. i.e. only in case of
corporates adopting a single tier holding structure i.e. a parent and its subsidiary
(Clause (c) of sub-section 1A). The second level and the further step-down
subsidiary although in the same group and distributing dividend will continue to pay
DDT without any relief on account of cascading effect.

Particularly, in case of infrastructure business, the projects are developed by parent
company generally through its holding company which in turn develops and
operates/maintains these projects through subsidiaries (Special Purpose Vehicle).

                                                Pre-Budget Memorandum 2011-12 (Direct Taxes)

Eliminating the cascading effect only partially by granting the benefit only in case of
horizontal structure of holding subsidiary and not extending it to the vertical structure
wherein there will be more than one step down subsidiary, would impose undue
burden on such companies.


It is suggested that the cascading effect should be eliminated.

Further, the cascading effect should be eliminated not just partially by granting the
benefit only in case of horizontal structure of holding - subsidiary but also in case of
Vertical structures wherein there will be more than one step down subsidiary. Multi-
tier structures are being very commonly adopted by the corporates in the new
complex and competitive business environment.

It is therefore suggested that the clause (c) of sub-section 1A of Section 115-O
should be deleted. This will also be on par with the earlier provisions of Section 80M
under which a deduction was allowed in computing the total income of a domestic
company of an amount equal to the dividends from another domestic company as
did not exceed the amount of dividend distributed by the first mentioned domestic

3.     Sunset Clause in respect of Sections 10A/ 10B Undertakings

The tax benefits in respect of sections 10A/10B undertakings specially for the
computer software sector will be lapsing in the current Financial Year. Capacity
related investment decisions will continue to be sub-optimal because for any return
on investment a minimum five year window is necessary.

Moreover, since the software sector is currently undergoing a crisis because of the
worldwide economic crisis and it is also not possible for small companies to shift to
Special Economic Zones, it is suggested that the same may be extended at least by
another 3 years i.e. till 2014.

4.     Taxation of ESOPs

The Finance Act, 2009 provided for the inclusion of ESOPs under section 17(2) to be
taxed as a “perquisite”, consequent to the abolition of FBT.
The section states that ESOPs issued free of cost or at concessional rates will be
taxed on the date of exercise on the difference between the “fair market value” and
the amount actually paid by the employee. The “fair market value” is to be
determined based on stipulated methods which have been separately prescribed by
the CBDT.

This suffers from the following drawbacks :

                                                Pre-Budget Memorandum 2011-12 (Direct Taxes)

a. It seeks to tax a notional benefit at a time when the actual gain is not realised by
   the employee. In fact, it is possible that the actual sale of shares could result in a
   loss for the employee. Since the perquisite tax paid earlier cannot be set off
   against the capital loss, the employee suffers a double loss, namely tax outgo
   and loss on sale of shares. “It is important to bear in mind that if the shares
   allotted to the employee had no realisable sale value on the day when he
   exercised his option then there was no cash inflow to the employee. It was not
   possible for the employee to know the future value of the shares allotted to him
   on the day he exercises his option.” It may be borne in mind that in the Infosys
   case, the Supreme Court dismissed the Government’s appeal not only because
   the ESOP shares were not enumerated under “perquisites” in S. 17 (2), but also
   because it does not amount to a benefit.

b. The question whether the ESOPs are granted at a concessional rate is being
   determined with reference to the “fair market value” on the date of exercise of the
   options. Technically, this is an incorrect approach. If the ESOPs are issued at the
   prevailing market price on the date of grant, the issue should be treated as “non
   concessional”. This would be in line with the guidelines issued by SEBI. Any
   subsequent gain accruing to the employee due to favourable market movements
   by the date of vesting or exercise of option cannot be treated as a “perquisite”
   granted by the employer.

c. Since the actual sale of shares will attract capital gains tax, if applicable, it is
   unnecessary to subject the employee to perquisite tax.

In fact, before FBT was imposed on ESOPs, specific provisions existed in the
Income Tax Act for giving concessions by way of exempting the same from
perquisites and subjecting it only to capital gains tax.
It may be noted that ESOPs have emerged over the years as a critical, motivational
and retention tool for companies in a highly competitive market for talent. It is a very
effective instrument for encouraging employees to perform and excel and is a win-
win proposition for the employers / shareholders on one hand and the employees on
the other. As such, such concessional treatment was given earlier.


It is suggested that the fair market value should be the market price prevailing on the
date of grant of ESOPs.

The earlier income tax provisions before FBT was imposed on ESOPs be brought
back by way of exempting the same from perquisite tax and subjecting the
subsequent market appreciation to capital gains tax or else, the “fair market value”
be determined based on the market value on the date of grant of options.

                                                Pre-Budget Memorandum 2011-12 (Direct Taxes)

5.     Rate of Depreciation

The rate of depreciation for general machinery and plant has been reduced from
25% to 15%, along with the enhancement of initial depreciation rate from 15% to


In view of the rapid obsolescence, the lowered depreciation is not adequate to meet
the requirement of replacement of the asset. It is therefore suggested that
depreciation on machinery should be allowed at least at the rate of 25 percent to
provide assesses with sufficient plough back of funds.

Alternatively, the additional depreciation @20% which is applicable on plant &
machinery only for the manufacturing sector, on fulfilment of stipulated conditions,
should be extended to all asset categories and for all industries.

6.     Section 35 (2AB) - Weighted deduction for crop development

Sec 35 (2AB) of Income Tax Act permits a weighted deduction of 200% of
expenditure on Scientific Research, in-house Research and development facility in
specified industries.

Enhancing productivity lies at the root revitalizing Agriculture, together with effective
linkages to markets – both domestic and international. In this context, effective
agricultural extension services are crucial to enable effective absorption of
technology and best practices at farms. In order to ensure widespread reach of
effective extension services, the providers of such services and those engaged in
crop development activities need to be recognized on par with Research and


This facility should also be extended to expenditure on agri extension and crop
development being done by private companies. By this, all companies engaged in
extension of services/research will be encouraged to invest in the upgradation of
cultivation / agri practices for improved returns to the farmers.

Also, Section 33 A of the Income Tax Act which permits Development Allowance for
Tea plantations may be extended to Crop Development of other cash crops like
coffee, tobacco etc. with a weighted deduction of 150%. By this, those engaged in
Crop Development / extension services / research will be encouraged to invest in the
upgradation of cultivation for improving returns to the farmer and enhancing export

                                                Pre-Budget Memorandum 2011-12 (Direct Taxes)

Similarly, assistance given to farmers by the Industry towards modernisation of
cultivation practices, e.g. Solar Barns, Seedlings, Irrigation Equipment, should be
given weighted deduction in the year it is incurred.

7.     Expenditure on Scientific Research {Section 35(2AB)}

As per existing provision where a company is engaged in business of manufacture or
production of “or articles notified by the board” and incurred any expenditure (not
being expenditure in nature of cost of any land and building or construction of any
building) on in-house research and development facility as approved by prescribed
authority then such R&D expenditure is allowed as a deduction of a sum equal to 2
times of the expenditure so incurred.

To boost of the research and development activity, the benefit of tax deduction
should be extended on expenditure on building exclusively used for R&D.
Since in-house research and development is an integral part of business and a huge
amount is incurred on building for setting up research and development facilities.

8.     Suggestions Related to Hotel Industry

(i)    Section 35AD - Deduction of Capital Expenditure

Section 35AD was introduced by Finance (No.2) Act, 2009 for giving deduction of
capital expenditure in respect of new hotels. However, the tax deduction has been
restricted to the extent of the profits under section 73A in respect of the said hotel.
This has virtually resulted in non-availability of tax relief in initial years when the
major capital expenditure is incurred and the new hotel may not have sufficient
profits for adjustment. The hotel industry is a highly capital intensive industry.
Construction of a new hotel project in 5 Star category demands massive Capital
Investment ranging from Rs.300 to Rs.500 crores. The bulk of investment in a hotel
is on land and building which gives return to the investors after a very long period.
To accelerate the pace of construction of more hotel rooms, the hotel industry
therefore needs to be declared an infrastructure industry. It should be given full
benefits of concession for infrastructure facilities available to other sectors like
airports, seaports, power projects and gas distribution networks.


It is thus suggested that the deductibility of capital expenditure should be allowed in
full in the initial year by allowing adjustment with the profits from other hotels as well
as other businesses. This could in turn not only result in doubling of foreign
exchange earnings from tourism but also enlarge the employment opportunities in
the country.

                                                 Pre-Budget Memorandum 2011-12 (Direct Taxes)

(ii)    Section 80 IA – Definition of Infrastructure to include Hotels

Under Section 80 IA all new infrastructure projects can avail 100% deduction of their
profits and gains for a period of 10 years. The hotels business is a very capital
intensive business with high gestation period. An incentive like this would result in
more business entities investing in the hotel sector and help in channeling huge
investments of about Rs. 50,000 Crores in the tourism sector in the next 3-4 years
and quickly bridge the shortfall of hotel accommodation.


It is thus suggested to include hotels in the definition of infrastructure facility under
Section 80 IA.

(iii)   Section 80 IC - Inclusion of Hotels in Schedule XIV

Section 80 IC of the Income Tax Act provides that any undertaking commencing any
operation specified in Schedule XIV having undertaken substantial expansion during
the period 1/1/2003 to 1/4/2012 to promote eco tourism in the special category states
such as Sikkim, Assam, Tripura, Meghalaya, Mizoram, Nagaland, Manipur,
Arunachal Pradesh, Uttaranchal and Himachal Pradesh are exempt from Income
Tax for a period of five years for promoting eco tourism in the country.

However, Schedule XIV of the Act does not include hotels as an eligible operation for
taking benefit under this provision.


Since the hotel sector is a strong driving force in eco tourism in the country, it is
suggested that the benefit of this provision may be extended to cover hotels by
including it as an eligible activity in Schedule XIV.

9.      Suggestions related to Tax Deducted at Source (TDS):

 (i)    Applicability of Section 194C to Manufacturing / Supplying Product

In the Finance (No.2) Act, 2009, TDS was made applicable under section 194C in
respect of contracts for manufacturing or supplying a product according to the
requirement or specification of a customer by using material purchased from such
customer. However, in a large number of instances, it is observed that the material
which is purchased from the customer represents a small fraction of the total cost
and this provision has created huge operating problems since the transaction may
be a ‘principal to principal’ contract for purchase and sale of goods and the profit
margin may be very small.

                                                     Pre-Budget Memorandum 2011-12 (Direct Taxes)


It is thus suggested that the provisions of section 194C be only made applicable in
cases where the material purchased from the customer is substantial in nature, i.e.,
say it exceeds 40% of the total material cost (inclusive of raw materials and packing

(ii)        Enhancement of Limits for TDS u/s 194C for Payment to Contractors

Currently any payment for contract services rendered which exceeds Rs. 20000 at a
time or Rs. 50000 per annum requires the persons responsible for making such
payments to deduct tax at source under section 194C.


It is suggested that the threshold limit may be enhanced to Rs. 50,000 for single
payment and Rs. 100,000 for aggregate annual limit as the limits of Rs. 20,000 and
Rs. 50,000 are meager in the context of rising inflation. The deduction of tax at
source on such small amounts involves deployment of relatively large amount of
resources in terms of manpower, systems and other costs at the assessee’s end
without any significant benefits to the revenue.

(iii)       Section 206AA - Higher withholding tax for non quoting of PAN

Section 206AA has been introduced by the Finance Act 2009 provide that w.e.f.
1.4.2010 in the event of non submission of Permanent Account Number by the
payee, tax will be deducted at the higher of the following rates, namely;

        -   Rate specified in the relevant provisions of the Act.
        -   Rate or rates in force.
        -   @ 20% whichever is higher.

In many cases one time payment to non-residents on account of technical service
fees are negotiated on a net of tax basis. In other words, a non-resident in such
cases receives the payment net of withholding tax. The tax in this case is borne by
the Indian deductors and the same is grossed up. The payees are not interested in
complying with the provisions of obtaining PAN since these are one-time
transactions as also the fact that the tax is borne by the Indian payer. It is worth
noting that the newly enacted provision will adversely hit the Indian payer who will be
required to bear an additional tax burden merely because of the fact that the non-
resident payee has not furnished PAN.

Provisions of Section 115A(5) specifically exempt foreign companies from the
requirement of furnishing return if the income is derived from certain specified
receipts. Such companies will not be interested in complying with the requirement of
obtaining PAN. In such cases also the Indian payer will be subject to additional cost
burden because of the proposed provision.

                                              Pre-Budget Memorandum 2011-12 (Direct Taxes)

Further, the provisions Section 206AA also necessitates the quoting of PAN in case
of all declarations for domestic parties under section 197A. However, this is
contradictory to the provisions of section 139A which stipulates that PAN is
applicable only in certain cases like those with taxable income etc.

In fact, 197A only covers the issue of declarations in respect of dividend income and
interest incomes under sections 194 and 194A in Form 15G and Form 15H. Parties
with exempt incomes under the various provisions of the Income Tax Law like those
with agricultural income etc. are not eligible to give declarations under section 197A
for receiving payments in respect of other TDS provisions like section 194C, 194J


It is suggested that a reasonable threshold limit should be fixed upto which the
mandatory condition of obtaining PAN should not be applicable to overseas service

It is further suggested that requirement of PAN should be dispensed with where
provisions of Section 197A(i) are applicable and parties file declarations in Forms
15G and 15H of the Rules.

Section 197A may be extended for all TDS sections so that a person with agricultural
income or income below taxable limit and in receipt of any payment under section
194C etc. can give a proper declaration.

(iv)   Applicability of TDS to be Determined Net of Service Tax

The CBDT has only clarified vide Circular no.4/2008 dated 28/4/2008 that the
computation of TDS ‘net of service tax’ is to be done in respect of section 194-I for
rental income. However, for TDS under other sections like section 194C, 194J etc.
the law has not spelt out whether TDS has to be determined inclusive of service tax
or net of service tax.


It is suggested that the provisions of Chapter XVII-B should be made applicable ‘net
of service tax’ since the same represents a tax and not any income.

10.    Weighted Deduction under Section 42 of the Income Tax Act

Under the provisions of the section 42, all expenditure incurred on drilling and
exploration activities including capital expenditure is allowed as a deduction to the
assessee beginning with the year in which commercial production commences. Any
expenditure by way of infructuous or abortive exploration expenses in respect of any

                                                Pre-Budget Memorandum 2011-12 (Direct Taxes)

area surrendered prior to the beginning of commercial production is also allowed as
a deduction to the assessee. The fact that capital expenditure is also otherwise
allowed as a deduction beginning with the year of commercial production this
provision only amounts to an accelerated deduction of the expenditure incurred and
does not amount to any additional deduction or incentive being granted to the

Since the drilling and exploration expenditure incurred by the assessee (including
capital expenditure) is a genuine business expenditure incurred by the assessee, it
would have been allowable as a deduction under the normal provisions of the
Income Tax Act, either directly or by way of depreciation.

However, as per the provisions of the Production Sharing Contracts (PSCs) signed
by the Government with the various oil exploration companies, the entire expenditure
incurred on drilling and exploration activities is to be borne by the oil exploration
company. In the event the efforts of the oil exploration company are unsuccessful,
the entire expenditure would be a loss incurred by the said company and is not cost
recoverable. However, if the oil exploration company strikes oil in the exploration
block, a certain portion of the profits earned by the oil exploration company from the
production and sale of the oil from the block has to be shared with the Government.


While the Government has recognized the need and has accordingly provided fiscal
incentives for carrying out oil exploration activities, some additional fiscal incentives
need to be provided to further strengthen the hands of companies engaged in the
hydrocarbon sector to encourage them to continue their aggressive pursuit in this
financially challenging and high risk sector.

It is therefore suggested to provide a suitable encouraging weighted deduction of
150% of the actual expenses incurred by the assessee, in respect of drilling and
exploration activities etc. covered under section 42. This would lead oil exploration
companies to adopt a more aggressive approach for making more investment in
areas even where the probability of striking oil reserves is much lower than the other
areas. The weighted deduction of 150% of actual drilling and exploration expenses
will provide a cushion to these companies to take care of their sunken investment in
the areas where their efforts are unsuccessful.

The following amendments may also be made in Section 42 of the Income Tax Act:

   The section provides for deduction of “expenditure by way of infructuous or
    abortive exploration expenses in respect of any area surrendered prior to
    beginning of commercial production” in computing the profits and gains of any
    business consisting of prospecting for or extraction or production of mineral oils.

    It is suggested to delete the word “surrender” from section 42(1)(a), since it is not
    always possible to “surrender” an area in view of possible further evaluation work.

                                                Pre-Budget Memorandum 2011-12 (Direct Taxes)

     Further, currently there is no provision in the section to allow for deduction of
      expenses incurred in acquisition of interest in a hydrocarbon block, whether in
      India or overseas.

      In view of the opening up of the sector, and in order to attract more E&P
      companies, such payment should be made deductible. It is proposed that a new
      para (d) may be added to sec 42 to cover deduction of such expenses.

     Sec. 42(2) provides for taxing assignment income in the hands of the assignor,
      arising out of assigning his interest in any block. However, a corresponding
      provision to allow for deduction of assignment expenses from the income of the
      assessee has not been provided and this may be rectified.

11.      Grant of Deduction u/s 42 in addition to
         Normal Deductions for Exploratory Oil Fields

Under the provisions of section 42 of the Income Tax Act, the Government is
empowered to exercise its discretion to grant allowances to an assessee proposing
to engage in the business of prospecting, extraction etc. of mineral oil, either in lieu
of or in addition to the normal allowances admissible under the Income Tax Act.
This can be achieved by clarifying in the Production Sharing Contract (PSC) entered
into by the Government with the exploration company.

So far Exploration block PSCs signed by the Government, have been carrying over
the taxation provisions more or less as they existed in the PSCs for producing
blocks. Therefore all PSCs reiterate identical provisions that the allowances under
section 42 of the Income Tax Act would be granted in lieu of (and not in addition to)
the normal allowances admissible under the Income Tax Act without drawing any
distinction between discovered and exploration block PSCs.

However, as Exploratory Blocks have a great deal of risk and uncertainty associated
with discovery of hydrocarbons as opposed to Producing Blocks where reserves are
already established and, any investment in these blocks carries the risk of ultimately
proving to be a dead investment. The PSCs for Exploratory Blocks thus stand on an
entirely different footing as compared to PSCs signed for Producing Blocks.


In order to meet the objective of the Government of encouraging speedy investment
in exploitation of acreage in India to reduce the dependence on imports, the PSCs
for Exploratory Blocks need to acknowledge the necessity for restoring the overall
benefits of Section 42 of the Income Tax Act in addition to the tax incentives already
in place under the PSCs framed originally for discovered fields.

                                               Pre-Budget Memorandum 2011-12 (Direct Taxes)

The Ministry of Finance in consultation with the Ministry of Petroleum & Natural Gas
may amend all PSCs in respect of Exploratory Blocks to provide that the allowances
specified in the PSCs with respect to section 42 of the Income Tax Act would apply
in addition to the allowances provided under the Income Tax Act under other
provisions while computing income tax payable by a Contracting Party under the
PSC. In case this suggestion finds favour no change may be required to be made to
the Income Tax Act.

Alternatively, in order to incentivise the exploration of the country’s huge unexplored
sedimentary basins the coming Finance Bill may introduce an amendment to Section
42 of the IT Act specifying that “notwithstanding anything contained elsewhere, in the
case of an assessee engaged in and being assessed for the business of
prospecting/ exploring/ development and production for mineral oil, the incentives
allowable under this Section shall be in addition to any other benefits provided under
any other agreement”

12.    Section 47 - Conversion of Preference Shares /
       Warrants into Equity Shares

Clause (x) of section 47 of the Act provides that, any transfer by way of debentures,
debenture-stock or deposit certificates in any form, of a company into shares or
debentures of that company, will not be treated as a “transfer” for the purposes of
section 45 of the Act. Sub-section (2A) of section 49 of the Act provides that, where
a share or debenture in a company, became the property of the assessee on such
conversion, the cost of acquisition to the assessee shall be deemed to be that part of
the cost of debenture, debenture-stock or deposit certificates in relation to which
such share or debenture was acquired by the assessee.

It is noteworthy that while inserting clause (x), the intent of the Legislature was that
no taxable capital gains can arise at the time of conversion of convertible
debentures, deposit certificates or shares of the company into debentures or shares
of that company, since it amounts to conversion of an asset held by an assessee
from one form to another and there is no other party involved to whom any transfer is
made. In fact, clause (x) of section 47 was further amended by the Finance Act,
1992 to include “bonds” in the said provision.

However, it appears that there has been an inadvertent omission in both the
foregoing provisions, as the conversion of preference shares or warrants into equity
shares of a company have not been specifically covered under the said provisions.


Since the Legislature’s intention behind inserting the above referred provisions is
equally applicable to conversion of preference shares or warrants into equity shares
of a company, both the foregoing provisions, namely, section 47(x) and 49(2A) may
be amended to include cases of conversion of preference shares or warrants into

                                               Pre-Budget Memorandum 2011-12 (Direct Taxes)

equity shares and thereby setting right an anomaly which has inadvertently crept into
the foregoing provisions.

13.    Restoring Exemption in respect of Interest
       Paid on Foreign Currency Loans

Section 10(15)(iv)(f) of the Income Tax Act provides that any interest payable by an
industrial undertaking in India on the amount borrowed by it in foreign currency from
outside India would be fully exempted from Income Tax. The amount of exemption is
subject to the extent to which said interest does not exceed the amount of interest
calculated at the rate approved by the Central Government.
The aforesaid provision was introduced with the objective to facilitate industrial units
in India to raise such loans so that there would be no withholding tax on the interest
paid on such loans in India.

The Finance Act, 2001 has however withdrawn the benefit of exemption under the
abovementioned section w.e.f. 1/4/2002 i.e. Assessment Year 2002-03. The
withdrawal of the benefit of exemption under the abovementioned section has
substantially increased the cost of borrowing funds from outside India, since the
interest paid on such loans is subject to withholding tax at the effective tax rate of
26.77% as provided in section 115A of the Act (including applicable surcharge and
education cess) or a lower rate if provided under the applicable Double Tax Treaty
and almost all lenders negotiate that the interest on the loans should be paid to them
net of Indian withholding taxes.

It may be emphasized that in most cases, the foreign lender is unable to claim any
tax credit for the Indian withholding tax.


It is, therefore, suggested that section 10(15)(iv)(f) may be amended to reinstate the
benefit of exemption under the said section to all loan agreements entered into or
approved on or after 01.04.2009.

Alternatively, the rate of withholding tax on long term debt issuances, particularly in
the nature of bonds in the international markets may be levied at a rate of not more
than 5% on the gross interest. This will go a long way in providing some relief to
Indian entrepreneurs from the crippling blow rendered by the recent financial and
economic crisis.

14.    Carry Forward of Excess Foreign Tax Credit

The Income Tax Act allows for set off in respect of foreign taxes paid on overseas
income. However, in case of loss/inadequate profits, no set off may be possible.

                                                Pre-Budget Memorandum 2011-12 (Direct Taxes)


It is suggested that assesses be permitted to carry forward such unutilized credit for
a period of five years.

15.    Dividend from Foreign Companies

Under section 10(34) read with Section 115-O of the Income Tax Act, dividends
distributed by a domestic company are exempt from income tax in the hands of the
shareholders. However the companies are required to pay a dividend distribution tax


As India is embarking on a path of globalization whereby we see many of the Indian
companies acquiring companies abroad and making investments in those
companies, it is necessary to bring such investment at par as far as the dividend
exemption is concerned. It is, therefore, submitted that dividends earned in respect
of shares acquired in foreign companies may be taxed @15% in line with the
dividend distribution tax on domestic dividends.

16.    Transfer Pricing for International Transactions

(i)   As per the Income Tax Act, detailed stipulations are laid down in respect of
determination of the arms length price in the context of international transactions with
associated enterprises, within the limits of (+) / (-) 5% of the price computed as per
the methods prescribed.


It is suggested that as per the practice prevalent in various developed countries e.g.
USA, it should be sufficient if the arms length price falls within a range of the various
comparable prices.

(ii)   Section 92C of the Act contains a provision as per which CBDT is empowered
to prescribe such ‘other method’ for computing arm’s line price in cases where
prescribe methods are not applicable. The provision though existing on the statute
for long time has not been given effect so far.


It is suggested that CBDT should prescribe ‘other method’ for computation of arm’s
length price as provided in Section 92C of the Act.

                                               Pre-Budget Memorandum 2011-12 (Direct Taxes)

17.    Section 72A – Amalgamation and Mergers

The tax benefits under section 72A in respect of amalgamation or demerger are
currently limited to industrial undertakings or a ship, hotel, aircraft or banking.


It is suggested that in the current liberalised and buoyant environment where various
new sectors are growing at a rapid pace, this should now be extended to all
businesses including financial services, entertainment/sports, information technology
(IT) and IT enabled services.

Further, the provisions of section 72A should be simplified specially in respect of the
conditions applicable for the amalgamating company like losses / depreciation being
unabsorbed for at least three years and holding assets on the amalgamation date
upto ¾ of the book value of fixed assets held two years prior to the said date.

18.   Section 80 IA - Preservation of Tax Holiday Benefits for Successors

Sub-section (12) of section 80-IA of the Act provides that where an undertaking of an
Indian company, which is entitled to a deduction under Section 80IA, is transferred
before the expiry of the period for which the benefit of deduction is available to
another Indian company in a scheme of amalgamation or demerger, the benefit of
deduction under that section shall be available to the amalgamated or resulting
company to which the said undertaking is transferred for the unexpired period for
which the said benefit was available.

It is a settled position in law that where benefit of deduction or exemption has been
granted in respect of profits of a new industrial undertaking by the Legislature with a
view to promote industrialization/economic growth etc., the said benefit/exemption
attaches to the new industrial undertaking which qualifies to claim the said benefit
upon fulfillment of the requirements stipulated under the law and not to the owner of
the said undertaking which is the assessee for the purposes of the Act.

However, the Finance Act, 2007 has inserted sub-section (12A) after sub-section
(12) of section 80-IA to provide that the provisions contained in the said sub-section
(12) shall not apply to any enterprise or undertaking transferred in a scheme of
amalgamation or demerger on or after 1st April, 2007.                  The Explanatory
Memorandum as well as Notes on clauses to the Finance Act, 2007 do not give any
reasoning or justification for introduction of the said sub-section (12A).

It is noteworthy that sub-section (12) was inserted in section 80-IA (and which is
applicable even to section 80-IB which also grants deduction in respect of profits of
certain specified new undertakings) was intended to be a clarificatory provision to

                                               Pre-Budget Memorandum 2011-12 (Direct Taxes)

ensure that the benefits of deduction under the said sections are not denied in case
of a transfer of an eligible undertaking in a scheme of amalgamation or demerger.

As elaborated above, the settled position in law has been that these benefits are
always attached to the undertaking which qualifies for the benefits and not to the
assessee who is the owner of the undertaking. It may be thus stated that the
insertion of sub-section (12A) in section 80-IA is grossly misplaced and would create
unnecessary hardships in cases of amalgamations and demergers.


It is suggested that sub-section (12A) may be deleted from section 80-IA to restore
the settled position in law, which is applicable in cases where the eligible undertaking
is transferred to a successor as a running concern.

19.    Section 80 IA Benefit – Power Generation

Under Section 80 IA of the Income Tax Act, deduction in respect of profits and gains
from power undertakings (including for captive power generation plants) is available
for any ten consecutive assessment years out of fifteen years beginning from the
year in which the undertaking generates power. This benefit is available provided the
power undertaking begins to generate power at any time before 31st March, 2011.
Most manufacturing organizations, especially those in power intensive industries,
have been forced to invest substantial capital to meet their energy requirement, as
the same is not available adequately from the Grid in the context of the acute power
shortfall all over the country.


It is therefore suggested that Section 80 IA benefit may be extended beyond March,
2011 for another 5 years, so that companies can continue to invest capital in power
generation with a long term perspective.

20.    Section 80 IA – Definition of Infrastructure to
       include rural based initiatives

The government recently launched the ambitious Bharat Nirman programme towards
upgrading rural infrastructure covering roads, irrigation, drinking water, electricity,
housing and telecom. Clearly, this is an area with significant scope for public-private

Recognising the need for private sector participation in the priority of infrastructure
creation, Section 80IA of Income Tax Act permits deduction in respect of profits or
gains from industrial undertaking engaged in infrastructure development. Such
industrial takings include businesses carried out in the nature of provision of

                                                 Pre-Budget Memorandum 2011-12 (Direct Taxes)

infrastructure facilities, telecommunication services, industrial parks and power
generation and transmission.

However, the definition of infrastructure facilities is restricted to road, bridge or rail;
highway projects; water projects and ports and airports. Rural infrastructure
upgradation also encompasses digital and physical infrastructure towards
empowering farmers with knowledge and market connectivity.


It is therefore suggested that the definition of infrastructure for the purposes of this
deduction should provide for including the rural based initiatives. The definition of
rural infrastructure facility may include:

•     Village kiosks housing IT infrastructure like computers, VSATs, Modems, smart
      cards, Projectors, Screens etc.
•     Support infrastructure like solar-panels, UPS, batteries etc at these locations.
•     Water harvesting facilities like check dams, wells, ponds and other rain
      harvesting structures.
•     Green houses & Poly houses.

21.      Section 80 IB - Anomalies in Definition of ‘Mineral Oil’ and Undertaking’

The amendment of Section 80 IB (9) made in the Finance Act 2009 has given rise to
certain anomalies for the Oil & Gas sector. While it is gratifying that the Finance Act
has now provided that the ‘mineral oil’ will include natural gas for the eligibility of tax
holiday under section 80-IB(9), however, the said amendment is not in line with the
promises made by the government since 1997 (Budget Speech), 1999 (NELP Policy)
and onwards (Petroleum Tax Guide, signed Production Sharing Contracts for NELP I
to VII and signed Contracts for Coal Bed Methane Rounds I to III).

Withdrawal of contractual commitments by the government may be regarded as
discriminatory in nature and this could lead to avoidable litigations. Each of the
signed Production Sharing Contracts (PSCs) and Coal Bed Methane (CBM)
Contracts provide for fiscal stability and the operators could well resort to seeking
international arbitration where it is a settled principle that sovereign governments are
bound to honour contractual commitments.


1) It is important to clarify that the definition of ‘mineral oil’ includes natural gas
   retrospectively irrespective of the NELP round and that the benefit would also be
   available to Coal Bed Methane.

2) Also, the limitation of the tax holiday for oil & gas to a single undertaking based
   on a single PSC is regressive and inconsistent with the construct of tax holidays

                                                Pre-Budget Memorandum 2011-12 (Direct Taxes)

      for other sectors. This should be amended to define an ‘undertaking’ (consistent
      with the judicial decisions) that each distinct field development evidenced by a
      separate development plan should be an undertaking eligible for the tax holiday.
      This is all the more important as the amendment has been made retrospectively
      and declaring each block as a single undertaking, that too with retrospective
      effect, will adversely affect the profitability of operators.

22.      Taxing of Contribution to Superannuation Fund in Excess of Rs.1 Lac

The Finance Act, 2009 had imposed tax on employees in respect of the company’s
contribution to Superannuation Fund in excess of Rs.1 lac. This provision was similar
to that which was earlier applicable to Fringe Benefit Tax.

It may be noted that there are various types of superannuation funds. In case of the
new pension scheme and similar superannuation funds, the contributions made by
the employer vests with the employee and he can transfer it from one employer to
another. However, in other cases, contributions made by the employer to a
Superannuation Fund do not accrue to the benefit of the employee till such time he
retires upon superannuation, when the Fund is used to purchase annuities and/or to
pay the commuted pension to the retired employee. Such contributions may or may
not result in superannuation benefits to the employees since there are various
conditions to be fulfilled by the employees like serving a stipulated number of years,
reaching a certain age etc.


In view of the pension payments it is suggested that contribution to superannuation
fund may not be taxed as perquisite as per the ratio of decision laid down by the
Hon’ble Supreme Court in CIT vs. L W Russel [2002-TIOL-686-SC-IT] being
subjected to tax at the time of actual receipt by the employee.

As such, employees should not be made liable to pay tax on such contributions, the
benefit for which may or may not arise and the benefit is subjected to tax at the time
of actual receipt.

23.      Retirement Funds

Rule 87 of the Income Tax Rules permits an employer to make a total contribution
not exceeding 27% of the employee’s salary in respect of Provident Fund and
Superannuation. Further, as per schedule IV of Part A Rule 6 of the Income Tax Act,
the employer is permitted to contribute upto 12% of the employee’s salary in respect
of Recognised Provident Fund. In other words, the Income Tax Law permits
contribution upto 15% for Superannuation and 12% for Provident Fund.

                                               Pre-Budget Memorandum 2011-12 (Direct Taxes)


Keeping in view the current rates of interest and the high cost of annuities and
considering that pensions are in any case taxable in the hands of the employees at
the time of receipt, it is suggested that the limit of 15% for Superannuation may be
done away with.

The law should only stipulate that the annuities should be purchased from
recognized and approved Life Insurance agencies. Moreover, the stipulations under
section 36(1)(iv) and consequential limits fixed on initial contributions may be totally
done away with. This will encourage the employers to increase the quantum of
contributions to ensure a proper annuity / pension for the employees.


(i)    Penalty under Section 271

 A new sub-section (1B) has been inserted retrospectively from 1 st April 1989 to
provide that in case of any addition/disallowance in the assessment /reassessment
order, the Assessing Officer can give a direction for initiation of penalty proceedings.
It is submitted that such general power will result in initiation of penalty proceedings
in case of any addition/disallowance without justification. This will itself result in
arbitrariness, harassment and risk of increased litigation. Moreover, the retrospective
amendment will result in opening up a lot of past cases which have already been
decided / closed.


It is thus suggested that this provision may be withdrawn. Even otherwise, it should
not be made applicable retrospectively.

(ii)   Signing of Notices under Section 282A

Section 282A has been inserted to provide for issue of any income tax notice or
other document without it being signed by the requisite authority. This can result in
widespread misuse of powers and harassment. The memorandum has explained
that this change is being provided for in the context of computerized generation of
notices and other documents.


It is suggested that the computerized notice / document should have a separate
control like provision for a digital signature because these are legal / statutory
documents and this aspect should specifically be incorporated in section 282A. In
respect of manual notices/documents the section should also record that signatures
will be mandatory applicable.

                                               Pre-Budget Memorandum 2011-12 (Direct Taxes)

25.   Wealth Tax

The provisions of Wealth Tax Act are more than 10 years old and therefore the
following are suggested:

 Motor cars should be excluded if it is placed below Rs.15 lacs
 Residential housing should also be excluded in respect of employees with gross
  annual salary below Rs.20 lakhs.

Without prejudice to the above, it may be noted that the amount of revenue collected
on account of wealth tax is very meager currently. As per last year’s budget papers
the projected revenue for 2009-10 was Rs.425 crores and direct expenditure was
Rs.267 crores. Therefore, it appears that there is no purpose served in continuing
with this tax especially when one considers the indirect costs incurred in the areas of
assessments and appeals by the Income Tax Authorities as well as the large number
of litigations involved.

Further, as per the subsisting provisions, Wealth Tax is payable by assessee where
the net wealth exceeds Rs. 30 lacs.

Considering the inflation and the increase in value of assets covered for taxability
under Wealth Tax Act, it is suggested that the basic exemption limit for wealth tax be
increased from Rs. 30 lacs to Rs. 1 Crore.

                              PERSONAL TAXATION

26.   Deduction for Personal Tax Computation

The Finance Act, 2006 had expanded the list under section 80C by including the
pension fund subscription and bank fixed deposits for 5 years or more. However, the
overall limit of Rs.1 lakh has been left unchanged.


It is suggested that this limit is increased to at least Rs.2.5 lacs to accommodate for
the increased items in the list, specially since standard deduction has also been
removed. This would also act as a fillip for boosting investments.

                                               Pre-Budget Memorandum 2011-12 (Direct Taxes)

27.    Limit for Medical Reimbursements

Medical expenses reimbursed by the employer are exempted to the extent of
Rs.15,000/- per annum. This limit has remained unchanged from the financial year
1998-99 onwards.


Considering the sharp escalation in medical expenses and normal inflation, it is
suggested that this limit may be increased to Rs.50,000/-.

28.    Medical Reimbursements for Retired Employees

Under section 17 of the Income Tax Act, medical reimbursements to employees are
exempted from tax in respect of general medical expenditure (upto Rs.15,000 per
annum) and expenditure incurred in approved hospitals. However, this tax benefit is
not available to retired employees.


It is suggested that the provisions of section 17 be amended to include retired
employees for the tax benefit on medical reimbursements/hospitalization expenditure
in approved hospitals.

29.    Deduction for Health Insurance Premium

Deduction is allowed under section 80D in respect of medical insurance premium of
an individual or his family to the extent of Rs.15,000/-. In the context of the sharply
increasing medical expenses, medical insurance premiums are escalating every
year. Also, there is need to increase the penetration ratio of insurance by providing
encouragement through tax reliefs for opting for medical insurance.


Therefore, it is suggested that the limit may be raised to Rs.25,000/-.

30.    Interest on Housing Loan –
       Increase of Limit to Rs.2.5 Lakhs under Section 24

The section 24 of the Income Tax Act provides for deduction of interest on housing
loans upto Rs.1.5 lakhs for self occupied property on borrowings done after April
1999 and acquisition / construction completed within 3 years. This limit was
introduced by the Finance Act 2001 and therefore, the limit needs to be urgently
revised to at least Rs.2.5 lakhs.

                                                  Pre-Budget Memorandum 2011-12 (Direct Taxes)


Moreover, in the context of the time required for completion of large housing
projects, it is recommended that the time limit may be extended to 5 years.

31.    Exemption for Payment of Leave Encashment
       to be Raised to Rs.10 Lakhs

The exemption limit for payment of leave encashment is notified by the CBDT in
accordance with the powers given under section 10(10AA). The current limit of Rs. 3
lakhs is very old (since 1998) and needs to be raised substantially with immediate


It is suggested that this limit should be raised to Rs.10 lakhs.



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