Article published in IFA (Oct 2010)
“Indian SEZ legislation, Business and Taxes – Need for an alignment”
A baby four years of age, still having teething problems! Doesn’t it seem like a situation requiring attention? The same is the position of the Indian SEZ legislation, which has been in effect for little more than 4 years, still being treated for policy issues.
At the time of introduction, the legislature was credited for creating a comprehensive and self-contained code for SEZ.
With all the high expectations, a closer look at the SEZ legislation throws open the need for alignment in the policies and business realities. In the ensuing paragraph, an attempt has been made to highlight few sectoral issues.
Services sector
The definition of the term ‘Service’ under SEZ appears to cover only those services earning foreign exchange. In case only earning in foreign exchange is treated as a service, the services in Indian rupees could be treated as an “unauthorized activity” and hence not permitted to be provided from a SEZ.
From the corporate tax holiday perspective, whether all the services approved by the SEZ Authorities would be eligible for benefits or only to the extent of services provided out of India seems to be a policy decision requiring clarity.
To illustrate, a Hospital located within a SEZ earning foreign exchange, whether the same would be treated as an “export” from income tax holiday perspective?
Similarly, whether a service is required to be exported only out of the SEZ unit to claim tax holiday benefits?. To illustrate, take an example of transportation or logistics service provider located within the SEZ, the core of the activity would have to happen only in the ports i.e. outside the SEZ premises, will these activities also be eligible for income tax holiday ?
In addition to the above, Services sector requires specific enabling provision for sub-contracting its process. There is no specific provision in the SEZ legislation to permit sub-contracting by a SEZ unit engaged in providing services, though there are specific provisions in relation to manufacturing and Free Trade Warehousing Zone Units.
Manufacturing sector
For the manufacturing sector, whether anti-dumping duty would be applicable on clearances from SEZ unit to DTA?
To illustrate, take an example of an electronic product being subject to levy of anti-dumping duty on imports from USA. There is an EMS manufacturing SEZ unit engaged in doing assembly activity in India. In this scenario, assuming that the SEZ units imports components and does assembling activity and clears the final product to DTA, whether the clearance of final products would be subject to levy of anti-dumping duty?
The other important issue is on applicability of exemption envisaged under SEZ legislation without any specific provisions under the respective legislation. In one of the recent decisions the Apex Court has observed that the non-obstante clause in the SEZ legislation would have restrictive applicability.
To illustrate, import of technology into India by an Industrial concern would be subject to levy of R&D cess. In case the industrial concern is located in a SEZ, the SEZ legislation exempts the same. However, the R&D Cess legislation does not have any specific provisions exempting import of technology by the SEZ units. In these circumstances, whether an SEZ unit could claim the exemption of R&D cess?
Supplies from DTA to SEZ
As per the SEZ legislation, supplies from DTA to SEZ are treated as “export”. Hence, the industries have been treating these supplies as physical exports and claimed refund of input CENVAT credits. Very recently, the Honorable Tribunal of Mumbai has held that supplies to SEZ cannot be equated to physical exports and benefits under CENVAT Credit Rules would not be applicable.
The timing of the decision is more decisive, as very recently the Ministry of Finance has clarified supplies to SEZ unit would be eligible for claiming export rebate as physical exports.
The above divulging controversial stand by the Ministry of Finance, has unfrozen various conceptual understanding on supplies to SEZ.
Trading SEZ units
Indian customs legislation provides exemption from payment of Special Additional duty (‘SAD’) for clearances from SEZ unit to DTA. The exemption is available only for goods manufactured or produced in the SEZ and sold to DTA customer. In case the SEZ unit is engaged in trading of goods, the domestic clearances would be subject to levy of both SAD and VAT.
Is the intention to penalize domestic clearances with double taxation i.e. VAT and SAD countervailing VAT? Whereas on one hand Government proposing to nullify the cascading impact of taxation and on other-hand creating double taxation scenario, seems requiring some policy level re-thinking.
Conclusion
The issues discussed above, primarily appears to be arising on policy matters involving two ministries of the Government.
In addition to the above, the most worrying part is the ambiguities in the SEZ provisions on computation of Net Foreign Exchange Earnings (‘NFEE’). The procedures relating to computation of NFEE appears to be vague.
To illustrate, supply of Information Technology Agreement (‘ITA’) products to DTA is treated as ‘export’ for computation of NFEE. Whether the same would also apply to a unit located in Free Trade Warehousing Zone (‘FTWZ’) lacks clarity. Similarly lack of clarity exists for supplies to Power projects located within India.
To sum-up, the SEZ legislation was definitely treated as one of the progressive measures towards reformation. But, no progressiveness is sustained without continuous improvement. One such demand for continued improvement is to create an “Advance Determination Mechanism” (‘ADM’) as part of the Unit Approval Committee (‘UAC’) to determine the eligibility of the fiscal benefits at the time of approvals.
