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Fiscal Stimulus

  Jun 09, 2020

Fiscal Stimulus

What was the fiscal stimulus package on September 20th?

President of India promulgated the Taxation Laws (Amendment) Ordinance 2019 to make certain amendments in the Income-tax Act 1961 and the Finance Act 2019 which are:

  1. A new provision has been inserted in the Income-tax Act with effect from FY 2019-20 which allows any domestic company an option to pay income-tax at the rate of 22% subject to condition that they will not avail any exemption/incentive. The effective tax rate for these companies shall be 25.17% inclusive of surcharge & cess. 
  2. In order to attract fresh investment in manufacturing and thereby provide boost to ‘Make-in-India’ initiative of the Government, another new provision has been inserted in the Income-tax Act with effect from FY 2019-20 which allows any new domestic company incorporated from October 2019 making fresh investment in manufacturing, an option to pay income-tax at the rate of 15%. This benefit is available to companies which do not avail any exemption/incentive and commence their production before 31st March, 2023. The effective tax rate for these companies shall be 17.01% inclusive of surcharge & cess.  
  3. In order to provide relief to companies which continue to avail exemptions/incentives, the rate of Minimum Alternate Tax has been reduced from existing 18.5% to 15%.
  4. In order to stabilise the flow of funds into the capital market, the additional surcharge on capital gains by foreign portfolio investors (FPIs) has been recalled
  5. In order to provide relief to listed companies which have already made a public announcement of buy-back before 5th July 2019 (Budget day), it is provided that tax on buy-back of shares in case of such companies shall not be charged.
  6. The Government has also decided to expand the scope of CSR 2 percent spending. Now CSR 2% fund can be spent on incubators funded by Central or State Government or any agency or Public Sector Undertaking of Central or State Government, and, making contributions to public funded Universities, IITs, National Laboratories and Autonomous Bodies (established under the auspices of ICAR, ICMR, CSIR, DAE, DRDO, DST, Ministry of Electronics and Information Technology) engaged in conducting research in science, technology, engineering and medicine aimed at promoting SDGs. Lets understand the basics.

Why the ordinance route?

There is immediate need for the booster package as the economy is slowing rapidly. But at the same time, Art. 256 say that no tax shall be levied or collected except by authority of law. Parliament is not in session and so Presidential ordinance is required.

What is corporate/corporation tax?

It is the tax on the profits of companies.

Is it given in the Constitution?

Entry 85 of List I of the Seventh Schedule to the Constitution says that the Union Government can levy and collect corporation tax.

Is it a divisible tax?

Yes. It has to be shared with the States and so is divisible.

Which means when it yields more, states also benefit and vice versa. True?

Yes. The September 20th cuts in the corporation tax impact the share of the states also negatively.

Is it the same as income tax?

Yes. It is a tax on the income (profits) of the companies.

What are exemptions/incentives on corporate and other taxes?

The Income-tax Act provides for tax incentives to promote exports; balanced regional development; creation of infrastructure facilities; employment; rural development; scientific research and development; the cooperative sector, encourage savings by individuals and donations for charity. 

Those who invest in these areas get tax holidays (do not have to pay tax for some period) and tax breaks. 

They are called exemptions/incentives. They are an indirect subsidy. They are shown in the Tax Expenditure Statement tabled in the Parliament every year.

What is buyback of shares?

Cash rich companies can buy back their own shares. It boosts the share price and is thus rewarded generally.

Why tax it then?

There is a background to it. Share buybacks gained prominence with listed companies after the government introduced a 10% tax on shareholders earning more than ₹10 lakh through dividends, in addition to the 20% dividend distribution tax charged to the company. The 10% additional tax was introduced in the 2016 Union Budget.

With the additional tax on dividends, companies found share buy backs a more optimum route to distribute profits and surplus cash to shareholders.

In the past three years publicly traded firms bought back shares worth ₹1.43 trillion.

When the government saw the trend, it did not want to forego revenue and so started taxing buybacks from 2019-20 at 20%. 20 per cent tax was announced in the Union Budget to be applicable retrospectively from April 1. The reform on 20th September was that the retrospective application was scrapped as a morale booster.

What is Minimum Alternate Tax (MAT)?

Some companies do not pay corporate tax by fully utilising the exemptions and incentives. But the government loses revenue in the process. Therefore, in the mid-1990’s, MAT was introduced as an alternative to corporate tax. 

Why was the fiscal stimulus package introduced?

Isin’t it just the supply side that is stimulated?

Substantially yes. But the demand side is also being boosted as the savings that the companies will make can enable them to reduce prices for their products; open operations in new areas which they could not do earlier due to fund crunch. 

What is supply side economics?

The current package is a typical example. It involves cutting tax rates to enable investment and consumption.

Is it for sure that the companies will use the tax savings as indicated above?

Not necessary. They may sit on cash reserves; invest in financial markets; or any other use.

Why?

How is demand being revived?

The Interim Budget 2019-20 in February made huge tax reforms for the middle class when the tax exemption was extended to Rs.5 lakh. It enabled them to save for consumption.

PM-Kisan is a direct benefit scheme that makes them spend.

RBI has been cutting rates the whole 2019 and may cut more.

But there are some concerns about the package. What are they?

Yes. From multiple perspectives.

Due to the tax cuts, how much is the revenue foregone?

Rs. 1-45-lakh-crore is the estimate. 

How will the government make up?

Central government can partly make up by the surplus transfer that Bimal jalan Committee endorsed from the RBI. 

It is more difficult for the states.

Will the packages boost the economy or benefit will just trickle down?

Robust revival depends on employment-intensive growth and revival of the informal economy. 

Fiscal Stimuli: August and September 2019

Stimulus 1

Stimulus 2

Stimulus 3

It is primarily for exports and real estate.

Stimulus 4