GST Pulse - Impact on state incentives or PSI benefits

GST Pulse - Impact on state incentives or PSI benefits

One of the important, or rather critical areas which would get impacted under GST is the tax incentives granted by state governments to companies making investments in the respective states.

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One of the important, or rather critical areas which would get impacted under GST is the tax incentives granted by state governments to companies making investments in the respective states.

Such benefits are offered by State Governments under industrial promotion schemes. In Maharashtra these are more commonly known as the Package Scheme of Incentives (PSI) . The main purpose of such incentives is to attract investments in the State for industrial development and to promote employment generation. 

PSI benefits are generally granted by states as subsidies based on the quantum of taxes paid (i.e. VAT and CST) by companies to the State Government on their manufacturing activities and that too, over a specified time period. Of course, such incentives are subject to a maximum ceiling limit based on total capital investments made by these companies. Since the amount of incentives are based on the amount of indirect taxes paid to the State Government, it is important to analyse how these incentives would get impacted under the GST scenario. Analysis done by us for some of our clients show that PSI benefits are substantially impacted in all the sampled cases. 

Let us take a hypothetical example which would resemble many large investment units in Maharashtra. This hypothetical unit is promised that 100 % gross VAT/ CST paid by it will be refunded by the State Government as a subsidy for a period of 15 years (of course subject to the cap of total investments made). On its sale of, say, INR1000 crore per year it gets an incentive of INR 41 crore which is the tax paid by the unit on its 20% local sales and 80 % inter-state sales. Since CST is also paid to the Government of Maharashtra (being the originating State) that too is calculated towards the incentive.

In GST, the picture changes dramatically. There would a two-fold impact on the quantum of incentives – one, inter-state sales would not contribute to the incentives under GST and two, the effective tax rate could also be lower. With respect to the tax on inter-state sales, since the tax would accrue to the destination state, the Government of Maharashtra is not likely to give any benefit. The benefits are thus limited to the 20% local sales which will bear say 9% SGST (assuming a GST rate of 18% divided equally between the Centre and the State). Today local sales attract a VAT of 12.5%. As a combined impact the hypothetical unit would get an incentive to the extent of INR18 crore per year – which is less than half of the INR 41 crore it received in pre-GST period.

The units which are smaller and are not entitled to benefits based on Gross taxes paid but on Net taxes paid could probably suffer more. In one of the calculations we did, where local procurement was 60%, the net taxes paid and thus the subsidy was equal to INR 16 crore in pre-GST days. It however reduced to nil in the GST scenario. Of course the procurement pattern may differ and so would the impact. However the idea is only to highlight that the impact could be substantial.

Many companies have made investments after considering the Net Present Value of the cash flows on account of such a subsidy. These calculations would alter substantially in many cases and so could the Internal Rate of Return calculations. We would suggest that the CFO or the tax head of a company should keep the management informed on this impact of GST. Once the impact is ascertained, he/she should also look at the MoU signed with the state, if any, and look for clauses that would protect the incentives even under GST. Once this analysis is done he/she would need to make a representation to the Government of the State to protect the incentives – wholly or partially at least. We often suggest that it would always be better if one goes to the Government with different options (of protecting these incentives) rather than going with a mere request. As most of the units would be impacted, it may make more sense to make a joint representation to the Government through a Chamber of Commerce. 

Everyone understands that this would be a long exercise. But a small beginning now could help make the difficult road ahead a little easier.

 

 

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