Corporate tax refers to the tax that companies must pay on their profits. The tax rate and structure can significantly affect business operations, investment decisions, and economic growth. In India, corporate tax has undergone various changes over the years, aimed at making the business environment more competitive and encouraging investments. The reduction in corporate tax is one such step taken by the government to boost economic growth, attract foreign investments, and improve the ease of doing business.
What is Corporate Tax?
Corporate tax is the tax imposed by the government on the profits of a company or corporation. It is levied on businesses operating within the country. In India, corporate tax applies to both domestic companies (companies operating within India) and foreign companies (companies registered outside India but doing business in India).
A tax cut has recently been announced by the government, for companies in India which have an annual turnover of anywhere between ₹250 crore and ₹400 crore. The rate of taxation has dropped from 30 percent to 25 percent of total annual income. The effective rate of corporate tax (including cess and surcharge) has, therefore, come down to 29.12 percent from the much higher rate of 34.94 percent prevalent in the past. These numbers have been arrived at with the assumption that the company will make an income in excess of ₹10 crore per year.
Overview of Corporate Tax Reduction in India
In September 2019, the Government of India introduced a significant reduction in corporate tax rates as part of an effort to stimulate the economy and make India an attractive destination for business and investment.
The key highlights of this tax reduction were:
- Reduction in Tax Rate for Domestic Companies:
- The corporate tax rate for domestic companies was reduced from 30% to 22%, provided the companies do not claim any exemptions or deductions.
- Reduction in Tax Rate for New Domestic Manufacturing Companies:
- New manufacturing companies incorporated after October 1, 2019, and which start production before March 31, 2023, are taxed at a lower rate of 15%.
- Surcharge and Cess:
- The surcharge on tax rates for domestic companies was also reduced. Previously, the surcharge ranged between 7% to 12%, but it was brought down to a flat 10% for companies earning up to ₹1 crore.
- The Health and Education Cess of 4% remained applicable on the tax amount.
Tax Relief for SMEs
Over the last half-decade, the government has worked to provide relief to small and medium-sized enterprises (SMEs and MSMEs) via corporate tax reductions. This is evidenced by the fact that, in the financial year 2018-19, companies with an annual turnover of less than ₹250 crore had to pay corporate tax at an effective rate of 18.2 percent. By contrast, in the year 2013-14, companies in this category paid corporate tax at an effective rate of 22.9 percent. However, the government has been successful, overall, in its tax-collection efforts from profitable businesses or companies in the listed space. The effective rate of taxation in 2018-19 was 25.8 percent for all listed companies turning a profit in India. In 2013-14, the combined tax paid by all listed companies in India was 24 percent of income, slightly lower than the present rate.
A New Tax on Share Buybacks
To plug a loophole in the corporate tax policy, a tax rate of 20 percent (plus cess and surcharge) on share buybacks has been announced. This is because companies had been opting for buybacks in order to avoid the 15 percent dividend distribution tax, which effectively required a payout of almost 20 percent. Experts believe that the move to introduce a 20 percent tax on buybacks could impact commercial activity and corporate policy in India. In the financial year 2018-19, more than sixty companies resorted to buybacks in order to escape the dividend distribution tax. IT giants such as HCL Technologies, TCS, and Tech Mahindra were some of the companies which opted for buybacks. Companies such as ONGC, Oil India, BHEL, NMDC, and Coal India also took advantage of the aforementioned loophole in the corporate tax policy over the past few years. Now that a 20 percent tax rate has been announced for buybacks, these large corporations may consider resuming dividend declarations in the upcoming year. However, the move may prove costly for companies that have a currently ongoing share buyback process. They will not be able to change track in time to avoid the 20 percent tax this financial year.
An Increase in Cess and Surcharge
This increase in the effective rate of corporate tax for all listed companies was caused by a rise in the rate of surcharge paid by the businesses. The surcharge on corporate tax rose in 2015-16, though the rate of increase varied depending on the size of the company. Companies earning ₹10 crore or less annually had to pay a surcharge of 7 percent, as opposed to the 5 percent they were required to pay earlier. On the other hand, corporations which earned an income of more than ₹10 crore had to pay a surcharge of 12 percent, instead of the 10 percent they had paid before. In 2018, it was also announced that all companies subject to cess would have to pay an education cess of 4 percent – up from the 3 percent charged earlier – as an additional levy on the basic corporate tax liability.
Overall Impact of the Changes in Corporate Tax Policy
In conclusion, the reduction in corporate tax rates introduced by the central government has helped lower the tax burden on SMEs and MSMEs in India, enabling them to grow faster. On the other hand, large corporations are being made to pay higher taxes than before, with more and more deductions and incentives being phased out. As a result of these policies, the total amount of corporate tax being collected by the government has increased, despite reductions in the overall taxation rates. Experts believe that this will help small companies in India grow faster while also ensuring that the government’s tax kitty remains full. In the long run, both the government and India Inc. stand to benefit from these policies. Overall, while corporations will not gain any relief from minimum alternative tax or MAT under the new regime, companies making a turnover of less than ₹400 crore (but above ₹250 crore) will now have to pay lower rates of corporate tax. Listed companies will have to pay a 20 percent tax on share buybacks, which will hopefully plug a loophole that had been used for tax avoidance in the past. However, less than 1 percent of all companies will have to pay higher taxes, as the threshold for the basic 25 percent tax rate has risen to ₹400 crore.
Implications of Corporate Tax Reduction
Increased Profitability for Businesses:
- With a lower tax burden, businesses can retain more profits. This can lead to higher reinvestment in operations, expansion, and innovation.
Encouragement for New Businesses:
- The 15% tax rate for new manufacturing businesses encourages entrepreneurship. This can lead to a boost in industrial activity, especially in sectors like manufacturing and production.
Attractive Investment Environment:
- A lower tax rate makes India more attractive for both domestic and foreign investors. It signals that India is committed to enhancing its ease of doing business and improving its investment climate.
Boost to Foreign Direct Investment (FDI):
- The reduced tax rates have the potential to increase foreign direct investment (FDI), as companies are likely to be more attracted to India due to the favorable tax rates. FDI is crucial for India’s growth as it brings in capital, technology, and expertise.
Global Competitiveness:
- The reduction in corporate tax makes Indian companies more competitive globally. As other countries also offer competitive tax rates, aligning with global standards is essential for India to maintain its competitive edge.
FAQs
What is the reduction in corporate tax in India?
The reduction in corporate tax refers to the government’s decision to lower the tax rates on businesses in India to stimulate economic growth, attract investment, and encourage ease of doing business. This reduction makes it more affordable for companies to operate, expand, and reinvest their profits.
When was the corporate tax rate reduced in India?
The corporate tax rates in India were significantly reduced by the government in September 2019, as part of the Finance Bill 2019. The reduction aimed to boost the economy and encourage both domestic and foreign investment.
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