Direct Tax Code: Is this the reform market is waiting for?

It is expected that the relaxations contained in recommendations of the direct tax task force shall enable the startups to function without getting caught in the fine print rather than entangle them with another set of rules to comply with.

Today, it is as important to let Indian entrepreneurs’ set up new businesses in India as attracting foreign investment in existing businesses. Considering that technology has the potential to create disproportionate wealth and jobs, the opportunity cost to the country of letting any tech entrepreneurs setup or move business elsewhere owing to complex tax laws is simply unimaginable.

Direct Tax Code: Panel suggests peak income tax rate of 20%

Basis the news reports, it seems that the corporate tax rate is likely to be cut down to 25 percent for all corporates. All major economies have been competing with low tax jurisdictions for their share of tax revenues. This will, therefore, take India a step closer to lower tax rates prevalent in large economies like the US which reduced the tax on corporates from 35 percent to 21 percent last year.

Further, Dividend Distribution Tax (DDT) presently chargeable at the rate of 20.56 percent of the dividend paid by the company is also expected to be done away with, thereby resulting in taxation of dividends directly in the hands of investors.

This is a long-standing demand of the domestic as well as foreign investors as levying DDT on a company and exempting the shareholders artificially lead to disallowance of interest incurred on loans taken by domestic investors and disentitled the foreign investors from receiving credit for DDT paid in India in their home jurisdictions. It is hoped that removal of DDT may also lead to the removal of buyback tax that was brought in to plug leakage of DDT.

A rupee saved is a rupee earned. Deduction in corporate taxes and DDT ought to result in increased Earnings Per Share (EPS) and could result in Indian equities attracting higher valuations.

Further, individuals earning up to Rs 55 lacs per annum are also expected to get major tax relief. This too augurs very well for the markets as individual investors may invest surplus money in debt and equity.

A consistent flow of capital by the individual investors in Systematic Investment Plans (SIPs) managed by Domestic Financial Institutions (DFIs) has provided the much needed support to the Indian market and helped it sustain in the event of sell-off by Foreign Portfolio Investors (FPIs).

A combined effect of the above steps could also lead to additional investment in Indian markets by FPIs. In case, the new law recognizes FPIs as a separate category of taxpayers to be uniformly taxed irrespective of being organised as a trust or a company, it could help in stabilising the markets.

Other big changes directed towards reducing litigation, simplifying compliances and bringing in certainty are also likely to improve the country’s ranking for ease of doing business and generate goodwill for the economy. Hence the step to bring in major changes in the tax system is a very pragmatic one.

The author is partner, J Sagar Associates.

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