There were hopes that the government would cut corporate tax rates in the budget. But data from the budget documents makes the case for just the reverse, showing large companies are paying a much lower tax. The decline in the effective tax rate (ETR) calculations is probably one reason why the government hiked the cess on income tax.
The statement on the impact of tax incentives tells us how much direct (and indirect taxes) are lost due to exemptions, deductions and the like. In fiscal 2017, ETR—the total tax divided by profit before tax (PBT)—fell to 26.89% from 28.24% in the previous year. This is against the statutory tax rate range of 30.9% to 34.61%, depending on the revenue bracket.
Now that may seem fine because the finance minister did say that he wants the basic corporate tax rate at 25% from 30% at present. But it is not when you look at the size-wise analysis. Companies with PBT up to Rs500 crore are paying an ETR in the range of 28.11% to 28.98%.
But the next slab of companies with a PBT of Rs500 crore and above takes the cake, with an ETR of only 23.94%, a full 2 percentage points lower, compared with a year ago. That’s even below the FM’s desired corporate tax target of 25%. That deals a blow to any talk of cutting the basic corporate tax rate, at least for this tax bracket.
How is this possible? The answer lies in the percentage of PBT to taxable income, or the profit margin. Companies with PBT exceeding Rs500 crore declared this ratio at 62.51% while their poorer cousins reported a much higher ratio in the range of 74.6% to 89.4%, with the smallest ones reporting the highest figure. The budget note attributes this to the larger companies availing higher tax concessions. This was the case last year, too. This year, the PBT to income ratio for the Rs500 crore+ PBT companies declined from 66.4% last year.
What comes next may disappoint those who associate corporate tax savings with the image of private entrepreneurs who detest paying taxes. This year’s data shows that the temples of modern India—the public sector—saw its ETR decline to 25.48% from 27.49% in the previous year. That was down by 2 percentage points, while the private sector’s ETR fell by 1.2 percentage points.
How is that possible? The tax incentives can throw some light. Over half of the total gross tax incentives (before minimum alternate tax is applied) are accounted for by accelerated depreciation. This is provided as an incentive for capital investment, allowing companies to claim a higher depreciation in their tax calculations which lowers their tax liability, while the books will show depreciation at a lower level. That also means that the tax to PBT ratio declines.
The start of production at some of the large public sector units may have seen them become eligible for accelerated depreciation benefits, which lowered their ETR. There could be other tax incentives at work, too, but the broader point is that public and private companies both saw their ETR decline in fiscal 2017, with the public sector contributing more to the overall reduction.
The increase in cess from 3% to 4% attempts to improve the ETR although it penalizes even those taxpayers whose ETR is higher than that of the large taxpayers. The government could have reined in the accelerated depreciation benefit, but that would be seen as a risk to the much hoped revival in the capital investment cycle. If that is risky, then one can forget the proposal of a lower tax rate with no exemptions, as that would hit the post-tax profits of these large companies, something that would adversely affect them and investor sentiment.
Till the ETR of large companies stays well above the 25% limit, the government may see little overall advantage in moving to a regime of lower tax rates with lower exemptions. Hoping for an across-the-board cut in corporate tax rates is a dream that has run its course. The government may continue with its practice of gradually increasing the turnover threshold below which a lower tax rate applies, which stands at Rs250 crore after this budget, up from Rs50 crore earlier.