GST jitters for area-based exemptions
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There’s a Rs19,336 crore-sized problem staring Indian companies in the face. That’s the amount the central government estimated it will forgo as excise due to area-based exemptions in FY17.
With barely a week left for the goods and services tax (GST) rollout, companies are still awaiting clarity on how these benefits can be availed of after 1 July. Companies face a likely increase in working capital requirements and, in the worst case, a partial hit on profitability, too. The uncertainty makes the situation worse.
A whole host of companies—in sectors such as automobiles, packaged consumer goods and pharmaceuticals—have set up units in such locations. For instance, the country’s second largest truck and bus manufacturer Ashok Leyland Ltd and the world’s largest motorcycle company Hero MotoCorp Ltd have units in Pantnagar and Haridwar (Uttarkhand), respectively. Production from these units account for about one-third or even more of the total vehicles sold.
Many consumer companies had rushed to complete their investments in the North-Eastern states before 31 March, when these exemptions ended.
According to Budget documents, two types of exemptions operate. Units in the North-East and Jammu and Kashmir operate on refunds, while Himachal Pradesh and Uttarakhand units get an outright exemption.
The amount mentioned above is the estimated sum of refunds to be given and exemption availed of in FY17. Companies get a 10-year excise exemption, with some conditions. Companies have invested in these states, chiefly to avail of the tax benefits given by the centre and state governments.
The GST framework has no room for this type of exemptions as it breaks the taxation chain. Companies have accepted that they will have to pay first and claim a refund later. Who will refund and the process to be followed is not known as yet. The government has clarified that the Department of Industrial Policy and Promotion (DIPP) is working on a scheme that will clarify these aspects. That this is being done at the last minute is puzzling. Also, the government expects the concerned central ministry or state government to fund the refund from their budget.
That’s not all. At present, under the devolution formula, the centre keeps 58% of tax collected and 42% goes to the states. Therefore, the centre intends to pay only 58% of the refund and companies are supposed to approach states for the remaining 42%. Since GST is a consumption-based tax, getting refunds from other states looks difficult.
How does this affect companies? Firstly, lack of clarity is unsettling as it hampers business decisions, for instance, on pricing. Secondly, where they were getting an exemption in some states, now they have to pay and get a refund. Depending on how the new scheme works, their working capital requirements are likely to increase. Lastly, if the 42% portion is not recoverable, that’s a hit on profitability.
An official at a leading auto maker, who did not want to be named, said that the transition pain during the shift to value-added tax in 2005 lasted a year.
A similar experience is likely this time, too. For example, one southern state which is a hub for automobiles found it hard to cope for nearly a year, in turn affecting firms, too.
The transition period may have more pain in store. The government has clarified that dealers can avail of input tax credit on pre-GST stock based on proof of excise paid. Since some of the stock may be produced in these exempt locations, such proof will not be available. Automobile dealers may have cut back on stock levels to limit their exposure, especially for high value items such as commercial vehicles.
Some of these problems are temporary in nature but others can have a longer term impact on companies, who were availing of these benefits. Initially, working capital requirements may increase substantially and then settle down once the process is established.
Automobile firms have faced the wrath of regulatory changes in three consecutive quarters—beginning with demonetisation in the December quarter, BS-III inventory offloading in the March quarter and now the impact of GST-led stock-clearing in the June quarter. Similarly, in the FMCG sector, demand had been affected by demonetisation and GST is expected to cause some short-term disruption. In both sectors, what is uncertain is whether the disruption lasts for one or two quarters or takes much longer to resolve.