New Delhi: An attempt by the Union government to do away with value-added tax (VAT) on domestic supplies from special economic zones (SEZs) may face opposition from state governments.

SEZs, enclaves aimed at increasing investment and exports, are treated as areas outside India’s customs territory. Supplies from SEZs to the so-called domestic tariff area (DTA) currently attract customs levies as well as VAT by some state governments.

Special treatment: A farmer works in the backdrop of an industrial construction in Baddi, Himachal Pradesh. The rate of value-added tax on supplies from special economic zones varies from state to state. Harikrishna Katragadda/Mint

“We have been in discussions with the revenue department and they have agreed to our proposal," D.K. Mittal, additional secretary in the commerce ministry, said in an SEZ seminar on Monday. “A clarification regarding this will be issued soon."

“The clarification would help in removing discrimination against SEZ manufacturers and will help in forward integration of SEZ units with domestic market," said L.B. Singhal, director general of the Export Promotion Council for EOUs (Export Oriented Units) and SEZs.

S. Madhavan, an executive director at global audit company PricewaterhouseCoopers, said the Centre is empowered to clarify the issue as the “SEZ Act has overriding provisions. It will override everything." But once the proposed goods and services tax, or GST, is implemented, this question will become “academic", he added.

“Nothing can be done without consulting the states. We will not accept any overriding power," said Kerala finance minister Thomas Issac. According to him, the Constitution grants states exclusive domain on taxation. “That cannot be infringed upon."

A development commissioner at an SEZ, a government representative, said the government may find it difficult to push through the proposal.

“Like supplies to SEZs from the domestic tariff area are treated as deemed exports, supplies from SEZs to domestic tariff area may be classified as deemed imports," he said, requesting anonymity. “But this may be difficult because state governments have to agree. They will not like to lose the power to levy state taxes."

“States do not have a right to levy VAT on such supplies from SEZ units," said S.J. Vijay, managing director of SEZ consultancy firm Salmon Leap Associates India Pvt. Ltd. “This was a misinterpretation of the SEZ Act. The anomaly should be corrected."

The rate of VAT on supplies from SEZs varies from state to state.

While states such as Gujarat do not impose VAT on such supplies, other states grant neither an exemption nor a refund on VAT payments.

For instance, Nokia Corp., which has a cellphone manufacturing SEZ in Chennai, sells half its handsets in the domestic market and exports the rest and pays VAT as applicable in individual states.

“Some state governments like Maharashtra have increased VAT from 4% to 12.5%, which has badly hit us. We along with the industry associations have raised the issue with state governments," a spokesperson for Nokia said.

According to Madhavan, when goods from an SEZ are sold in the domestic retail market, VAT is applicable. But when goods are first brought into DTA and stocked with a wholesaler, the Centre collects customs duty and VAT should not be charged in such cases.

Exports from EOUs and SEZs have gone up from Rs33,647 crore in 2002-03 to Rs2.63 trillion in 2008-09. The contribution of this sector to India’s exports has also increased from 13% in 2002-03 to 34% in 2008-09.

Sanjiv Shankaran contributed to this story.