The Hindu Business Line : Budget effect on corporate profits

IN HIS Budget speech, the Finance Minister, Mr P. Chidambaram, stated that the depreciation on plant and machinery would be reduced from 25 per cent to 15 per cent.

Also, he amended Section 32(1)(iia) to allow accelerated depreciation of 20 per cent on plant and machinery from the assessment year (AY) 2006-07.

In the Taxation page of Business Line dated March 5, in the table explaining the changes in corporate tax rates, the outflow under the new corporate tax rate was erroneously stated as 51.78 per cent; so too, the existing effective tax outflow was shown as 49.66 per cent.

The accompanying Table takes into account the cash income of corporates before depreciation and the impact of reduction in depreciation vis-à-vis the increase in rates of accelerated depreciation, surcharge, and so on, for finding out the exact tax outflow/tax liability.

The Table takes into account the following assumptions:

There is no brought forward depreciation or business loss for set off.

The unit has income as per the provisions of Income-tax Act which is more than the tax covered by Section 115 JB.

The unit has assumed uniform dividend distribution for both the years.

The impact of depreciation has been computed on taxable income without taking into account Accounting Standard 22.

The assets eligible for depreciation have been used for more than 180 days.

The following conclusions emerge from the Table:

The increase in accelerated depreciation is neutralised by decrease in normal depreciation.

The decrease in corporate tax rate, though beneficial, has been offset by an increase in surcharge to 10 per cent.

The effective corporate tax rate is 36.5925 per cent now and the Budget proposes corporate tax rate at 33.66 per cent. The effective decrease is 2.9325 per cent.

The increase in surcharge in respect of dividend distribution tax has resulted in extra tax liability of 0.95625 per cent (new effective rate 14.0250, against the existing rate of 13.06875 per cent).

The overall benefit to a company without declaration of dividend is 2.9325 per cent and with the distribution of dividend it is reduced to 1.97625 per cent.

The effective cash income of the company will be more because of reduction in tax liability but that increase would be reduced by the dividend distribution tax.

A possible way out

Corporates may strategise by withholding the profits of the company and declare bonus or right shares and allow the shareholders to pay taxes at lower rates rather than pay 14.025 per cent on dividend distribution.

The shareholders, by retaining the bonus and right shares for more than 12 months, may have zero tax liability because of the exemption contained in Section 10(38).

In the case of small unlisted companies, concessional tax rates would be payable as the transfer of shares would not be covered by Section 10(38).

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