Union Budget 2021: Nirmala Sitharaman should give special focus on financial sector to kickstart economy

The pandemic has thrown many traditional fiscal management measures to the wind and challenged the regulators to the hilt. Never has there been more anticipation for the Union Budget as this year. It is going to be a daunting task for the government and the finance minister is expected to take some crucial steps to kickstart the economy and bring the demand back to the pre-COVID-19 levels.

We have seen a series of measures to ease the burden on people and industry since the start of the pandemic. Now there is a better perspective on how we have fared, where we are heading and that should give the finance minister better manoeuvring capabilities to consolidate all the measures announced till now and go in for some big bang
reforms.

As India looks to recover from the devastating COVID-19 blow, the financial sector, the backbone of the economy that holds it all together, should get special attention.

Here are some of the key suggestions which Finance Minister Nirmala Sitharaman could consider for giving
a much-needed boost to the financial sector:

Banking, NBFC sectors brace for delinquencies

Under the unprecedented COVID-19 crisis, the banking and Non-Banking Finance Company (NBFC) sectors are bracing for increased delinquencies resulting in cash flow problems and hit in profitability, potentially leading to significant increase in the provisions for bad and doubtful debt and actual bad debts. Considering the outlook, one-time accelerated deduction on account of provision for doubtful debts for banks and NBFCs would be a much-required relief. NBFCs have also requested that interest income on doubtful assets be made taxable only in the year of receipt and not ‘on time basis’ as per IND-AS accounting system.

Taxes deducted at source (TDS) on interest earned by banks are not applicable under section 194A. Tax on the income earned by such banking units is paid in the form of ‘advance-tax’, ensuring no revenue loss to the government. As the nature of lending business for banking units and NBFCs are almost similar, such TDS exemption should be made applicable to NBFCs as well, by notifying them under the recently introduced provisions of section 194A(5) of the Act.

This will help NBFCs to manage the liquidity crisis in the current times. Banks and NBFCs have also been demanding relaxation from the applicability of tax collected at source (TCS) and the equalisation levy norms introduced in the last Budget.

Another immediate change the NBFC sector has been asking is the exemption from the thin capitalisation norms. The cap on the interest expenses in such cases is harsh and not conducive for a better investment environment climate in India and is counter-productive to the excellent initiatives of the government in the form of ‘Make in India’, ‘Start-up India’ and Financial Inclusion agenda. Since the thin capitalisation norms were introduced, the sector has been asking for it to be on par with banks and considering the overall economic situation.

IFSC deserves special attention and care and IFSC being the first financial services centre deserves special attention and nurturing. While a unit in IFSC has rightly been given various tax relaxations, there is apprehension among the investors that General Anti Avoidance Rule (GAAR) provisions might be applicable and therefore to address such issues, it is suggested that the government should come out with some objective guidelines for substance requirement which if satisfied by the unit in IFSC, GAAR shall not be invoked.

Banks incorporated in IFSC are allowed to obtain Foreign Portfolio Investor (FPI) license for making an investment into the domestic stock market. Further, being an FPI, the income earned by such banks shall be governed by the provisions of Section 115AD (tax regime for FPI). However, in order to encourage banks to set up in IFSC and to make it simpler for them to operate, the entire income of the banking unit, including income from FPI activity should be considered to be eligible for deduction under section 80LA.

Similarly, aircraft leasing has been notified as a financial service for IFSC. In order to compete with mature global markets and given an impetus to grow it, a light touch tax and the regulatory regime should be put in place.

Rollback tax on LTCG

The Indian markets have been a favourite of the foreign portfolio investors (FPIs) for a long time given the opportunity for good returns. However, one long-standing demand of the FPIs has been that tax on Long Term Capital Gain (LTCG) should be rolled back. In the current scenario, India needs even more investment, and this would be the welcome move to repose the trust in investors. Alternatively, the levy of STT should be abolished.

The government should consider providing relaxation to the FPIs which are subjected to discriminative withholding taxes at 20 percent (plus applicable surcharge and cess) on the dividend income received from Indian companies. The FPIs may claim the lower rate of tax prescribed under the tax treaty, subject to fulfilment of certain conditions, at the time of filing the tax return in India.

However, this leads to an increased compliance burden for the FPIs and the government should consider providing relaxation in this regard and allow companies to consider the beneficial treaty provisions while withholding taxes for
FPIs.

It will be interesting to see how many of these changes come through on 1 February 2021, and whether the changes proposed in the upcoming Budget will really put the financial sector back on track under the unprecedented COVID-19 status quo.

The writer is Partner and Head, Financial Services Tax, KPMG in India.

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Sunil Badala