A corporate tax is a tax or a levy imposed on the profits of a registered firm, an organization, or a company. It is often referred to as Corporation Tax or Company Tax. In most economies, Corporation Tax is levied on the net profits earned by the company or corporation, i.e. after deduction of relevant expenses and depreciation from the gross profits. In India, all companies, private or public, are governed under the provisions of the Companies Act 1956. Both Indian and foreign companies operating in the country are liable to taxation under the provisions of the Income Tax Act of 1961.
Classification of Indian Companies
In the Indian economy, taxation of a corporation or a company depends on the classification of the company as domestic or foreign. According to Section 2 (22A) of the Income Tax Act, 1961, a domestic company is an Indian company which was formed under the terms of the Companies Act of 1956 or any other company with taxable income in the country. Such a company also must have made arrangements for the declaration and payment of dividends (including dividends on preference shares) out of its income within India.
Section 2 (23A) of the Income Tax Act defines a foreign company as a company that is wholly controlled and managed from outside the country and which has made provisions for its dividend declaration and payment outside India.
Why is Corporate Tax Imposed?
Imposition of taxes on corporate incomes is for the same reason that individuals are taxed – this is a major source of government revenue. The revenue earned by the government is generally categorized as – tax revenue, non-tax revenue, and capital receipts. Tax revenue is by far the biggest source of income for the government of India. Finance Minister Arun Jaitley in his 2015 budget speech declared that the government’s gross tax revenue for FY 2014-15 was estimated to be about INR 12.51 lakh crore – making up 62 percent of the government’s total income for the year. 20 percent of the total income came from corporate taxes alone. Individual’s income tax accounted for 14 percent of the government’s earnings. Any change in corporate tax rates, thus, is a major impact on the government’s revenue.
How Does a Corporate Tax Cut Influence Investors?
A corporate tax is a tax on corporate earnings. This means that corporate investments are ultimately taxed by levying taxes on the profits earned by the corporations. The taxes are eventually deducted from the net takeaway profits which are the earnings of investors of any company or corporation. Most developed economies in the world such as the US and the UK are cutting down on their corporate tax rates in an effort to woo more investors, specifically foreign investors. In the UK, the 2015 budget has assured corporate investors that by 2020 Corporation Tax will be slashed from 20 percent to 18 percent (down from 28 percent in 2010). In the US, corporation taxes are between 15 percent and 35 percent and levied at the federal level. Prior to the budget of 2015, India Inc. had been voicing a demand for cut in the Corporation Tax rates with the aim that this should hold out the prospect of more earnings and invite more investors into the economy.
Slash in Corporate Tax Rates
Ever since PM Narendra Modi and the NDA government took over at the center, the cabinet has been working hard to make India a premier investment destination. It was with this in mind that the Make in India campaign was launched. Over 25 sectors were identified and showcased as key areas where foreign investors could set up businesses in India. To complement this campaign and to enhance India’s prospect as a manufacturing hub and business destination in the world, FM Arun Jaitley announced in his 2015 budget speech that corporate taxes would be slashed to 25 percent in a phased manner over the next four years.
According to current corporate tax rates domestic companies are required to pay an income tax of 30 percent while foreign companies operating in India and earning over INR 10 million are required to pay 42.024 percent (40 percent basic + 3 percent education cess & 2.5 percent surcharge).
In November 2015, the Finance Minister said that as a first step to sorting out the corporate tax tangle, he shall be announcing the withdrawal of various exemptions that are now available to certain sectors. Once the exemptions are phased out, the government shall go ahead with the first tranche of reduction in corporate taxes. The FM also said that the government is systematically addressing various tax legacy issues such as retrospective tax amendments. The GST or Goods and Services Tax is another area where resolution needs to be achieved. Despite considerable headway this issue might need some time, said the FM.
Why IT Companies May Not Benefit
Even as the Finance Minister’s announcement that Corporate Tax in India will be scaled down from 30 percent to 25 percent over the next four years was met with much cheer by India Inc. there remain some apprehensions that this may not bring much benefit to the Indian IT industry – one of the main focus sectors for the central government’s Make in India campaign. Industry experts say that due to the various exemptions applicable to the country’s IT industry, the applicable taxes are already between 23 percent and 25 percent. The proposed revision and elimination of exemptions is thus unlikely to provide any additional relief and attract more investors into IT or ITES.
Tax Cut and Economic Growth
The balance between cutting corporate taxes and ensuring economic growth is a fine one. What remains to be seen is if FM Arun Jaitley can manage to sustain both. On the one hand cutting down corporate taxes should attract more investments, develop more businesses, and have appositive effect on the GDP. On the other hand there remains the fear that lesser revenue from corporate taxes will increase government’s revenue expense deficit and hence increase government’s borrowing and loan negatively impacting the economy. Cutting down corporate tax needs to be offset by a strong campaign and a focused mission to accelerate overall economic growth for the nation to derive any positive benefits out of it.
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