In a move that surprised many, in September 2019, the Central Government announced significant changes in corporate tax rates via the Taxation Laws (Amendment) Ordinance, 2019. The Ordinance sees sweeping tax cuts for companies in India, and substantial reductions for new manufacturing companies. The Ordinance seems to be a measure to stimulate growth as well as encourage domestic production. Let us explore the specifics further.
When do the changes in corporate tax rates become effective?
The Ordinance prescribes that it is applicable for all income tax returns filed with effect from 1 April 2020, i.e. it applies to all financial years with effect from 1 April 2019. It is therefore also applicable to the FY in which it was announced, i.e. FY 2019-20 which runs from 1 April 2019 to 31 March 2020.
For all Indian companies, the financial year for reporting may be of their choice but financial year for tax purposes is fixed as 1 April to 31 March.
What are the new sections and what do they cover?
- Section 115BAA and Section 115BAB are newly introduced sections covering the changes in corporate tax rates as per the Ordinance.
- Section 115BAA allows all domestic companies the option to switch to a tax rate of 22% (plus surcharge and cess) subject to certain conditions. The option can be exercise any time, starting with FY 2019-20; however, once it is exercised, the company cannot go back to the previous tax rates and conditions.
- Section 115BAB allows domestic manufacturing companies incorporated after 1 October 2019 to switch to a tax rate of 15% (plus surcharge and cess) subject to certain conditions. The company is eligible only if it commences production prior to 31 March 2023. The option can be exercise any time, starting with FY 2019-20; however, once it is exercised, the company cannot go back to the previous tax rates and conditions.
What is meant by a ‘domestic company’? What about companies established by overseas shareholders in India?
A domestic company simply means a company incorporated in India. For such a company, even if shareholders are overseas individuals or companies, these changes in corporate tax rates are applicable.
If you are a global group looking to invest in India, these new tax rates will apply to your subsidiary.
What are the conditions that a company has to fulfil?
For all companies, the conditions include not making use of certain special allowances and deductions available to them under the existing Income Tax Act, e.g. for additional depreciation, for those companies setting up plants in less developed regions, for tea/coffee/rubber plantations, etc. These usually apply to specific industries and are unlikely to be relevant to the broad majority of companies that intend to use Section 115BAA or 115BAB.
The additional conditions that manufacturing companies must fulfil under Section 115BAB are that it must be a completely new entity with new plant and machinery; i.e. companies formed via restructuring of existing companies are not eligible for Section 115BAB. The company’s sole purpose must be manufacturing. Certain other conditions are applicable, however most are unlikely to apply to the bulk of companies that intend to use this section.
What about Minimum Alternate Tax (MAT)?
MAT is prescribed under Section 115JB of the Act and has been a part of the statute for decades now. The purpose of MAT is to tax companies at a MAT rate on book profit, or at the tax rate on taxable income, whichever is higher. MAT was previously at a rate of 18.5% on book profits and has now been reduced to 15% on book profits.
Under these changes to corporate tax rates, companies choosing to exercise 115BAA or 115BAB are excluded from the applicability of MAT. As such, once a company opts for either of these sections, it has a single tax rate for every future year.
Do the changes to corporate tax rates also include changes to surcharge and cess?
Yes. But let us first discuss the question of basic tax, surcharge and cess. Basic tax is the base tax rate mentioned above or spoken about in common parlance. Under the existing provisions, the basic tax rate is graded (25% if revenue is under INR 4,000 million and 30% if revenue is over INR 4,000 million). Similarly, surcharge is also dependent on the taxable income level, i.e. higher the profit, higher the surcharge. Cess is charged at 4%. This means that under the current provisions, all-in tax rates can vary from 26.00% to 34.94%.
Under the changes to corporate tax rates, if a company opts for Section 115BAA or 115BAB, the base tax rate of 22% or 15% respectively is irrespective of revenue. Surcharge and cess are fixed at 10% and 4% respectively, irrespective of profit.
The all-in tax rate for Section 115BAA is therefore 25.17% and for Section 115BAB is therefore 17.16%. Companies opting for these sections will therefore have a much clearer picture of their tax liability for the year and may be able to calculate their quarterly advance tax with greater accuracy.
Which companies stand to benefit the most from the changes in corporate tax rates?
Existing domestic companies with revenues of less than INR 4,000 million have a comparatively lower benefit as their income tax rate reduces from 26-29% to 25.17% on the one hand but they lose the benefits of certain special allowances or deductions on the other hand.
New manufacturing companies incorporated after 1 October 2019 benefit the most from these changes because there is a significant reduction in tax rate available to them.
Large domestic companies (non-manufacturing) also benefit from the changes in corporate tax rates as they are able to opt for a rate of 25.17% vs. 31-35% previously.
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