India Taxes and incentives for renewable energy KPMG Global Energy & Natural Resources.
Foreign Direct Investment (FDI)
The growth of the clean energy sector in India has been impressive. India permits FDI up to 100 percent in the sector under the automatic route in renewable energy generation and distribution projects that are subject to the provisions of the Electricity Act of 2003. Under the Act, no prior approval of regulatory authorities is required for infusion of foreign investment, the only exception being if investment is made in a limited liability partnership (LLP).
According to Reserve Bank of India (RBI) guidelines on external commercial borrowings (ECBs), the definition of infrastructure covers sectors such as energy which in turn covers sub-sectors such as electricity generation/ transmission/distribution, oil pipelines, oil/ gas/liquefied natural gas (LNG) storage facilities, and gas pipelines that support gas distribution networks for cities.
With a view to strengthen the flow of resources to the infrastructure sector, RBI also permits raising ECBs for project use in special purpose vehicles (SPVs) in the infrastructure sector.
A company’s ECB funding (under the automatic route/approval route) is subject to restrictions on use, tenure, etc.
Tax holiday under the domestic income tax law
Undertakings engaged in the generation or generation and distribution of power have been offered a 10-year tax holiday for renewable energy plants if power generation begins before 31 March 2017. However, the plants have to pay a minimum alternative tax at the rate of approximately 20.4 to 21.4 percent (based on the income), which can be offset over the next 10 years.
The former Finance Minister had released the Direct Taxes Code, 2013 (DTC 2013) for public discussion/ comments which, among other things, offered alternative mechanisms for providing tax incentive to power companies. However, the new government stated in the current budget that they do not intend to go ahead with the DTC.
The Indian Renewable Energy Development Agency (IREDA) has been established under the Ministry of New and Renewable Energy (MNRE) (formerly known as the Ministry for Non-Conventional Energy Sources) as a specialized financing agency to promote and finance renewable energy projects.
Generation Based Incentives (GBI)
To attract foreign investors, the government has taken several initiatives such as introducing GBI schemes to promote projects under independent power producer (IPP) mode for wind and solar power.
Under MNRE’s Generation Based Incentive scheme, wind power projects (which are not availing the Accelerated Depreciation benefit) are eligible for an incentive of INR0.50 per unit of power fed to the grid for a minimum period of 4 years and a maximum period of 10 years, subject to a ceiling of INR10 million per MW.
This incentive can be claimed by wind projects commissioned on or after 1 April 2012, through IREDA, and is over and above the tariff approved by the State Electricity Regulatory Commissions (SERCs).
Under the domestic income-tax law, companies involved in renewable energy such as solar and wind are provided with accelerated depreciation at 80 percent on a written down value (WDV) basis.
However, windmills installed on or after 1 April 2012, but before 1 April 2014, would be eligible for depreciation at the rate of 15 percent on WDV basis.
An additional 20 percent depreciation on a WDV basis is also available on assets that are installed after 31 March 2005 by companies engaged in the business of generation or the generation and distribution of power in addition to normal depreciation.
Further, power companies have been provided with an option to claim depreciation under the straight line method. However, a company can claim either accelerated depreciation or generation-based incentives (GBIs) but not both.
The National Action Plan on Climate Change (NAPCC) has recommended an increase in renewable energy penetration to 15 percent by 2020 at the national level.
In accordance with this goal, SERCs are required to set fixed Renewable Purchase Obligations (RPOs) for distribution companies to enable the purchase of a certain percentage of their total power requirement from renewable energy sources. Currently, state-level RPOs vary between 2 percent and 14 percent of their total energy demand. Open access and captive consumers are also required to comply with RPOs.
To align the availability of renewable energy sources with the requirement of the obligated entities to meet their RPO across states, the Renewable Energy Certificate (REC) market has been introduced, and RECs started trading in February 2011. However, the REC mechanism has not been widely adopted, and steps are being considered to review the market. We believe that going forward the enforcement of RPOs will create the volumes needed for the REC market.
Renewable Energy in India
India’s grid-connected renewable energy capacity has reached 36.5 GW as of 30 June 2015 with wind energy at 23.8 GW and solar energy at 4.1 GW (MNRE). The Indian government has announced an ambitious plan to scale up India’s solar energy capacity to 100 GW and wind energy capacity to 60 MW by 2022.
National Solar Mission (NSM)
The objective of the Jawaharlal Nehru National Solar Mission (JNNSM), which was launched in 2010, is to establish India as a global leader in solar energy.
MNRE has recently revised the National Solar Mission target from 20 GW by 2022 to 100 GW by 2022. The ministry plans to focus on deploying large-scale rooftop projects to achieve a capacity of 40 GW by 2022, developing several solar parks to build further 40 GW capacity, and encouraging large-scale projects to generate the remaining 20 GW.
In Phase 2 – Batch 1 of the National Solar Mission, the Solar Energy Corporation of India (SECI) auctioned 750 MW of solar projects divided into open and domestic projects, with each kind offering 375 MW. This has prompted a strong interest, with bids from 58 developers totaling 2,170 MW, a number significantly higher than the original offer.
Besides the national program, solar programs at the state level are also driving solar growth in the country.
Tax and fiscal incentives
Tax cost forms a substantial part of engineering procurement and construction (EPC) project costs, which can range from 10 percent to 20 percent of the total renewable energy project cost. Considering the special focus on renewable energy, the Central Government has offered various incentives for developing renewable energy power projects, including exemption from customs and excise duties on specific goods required for setting up these projects.
However, these exemptions are subject to the fulfillment of prescribed conditions and compliances to be undertaken by the EPC contractor or IPP.
Furthermore, some of the state governments have provided the incentives in the form of a VAT at 5 percent, a significant reduction over the 15 percent VAT rate levied by some other states. Given the variety of tax and fiscal incentives available, one needs to quantify the tax cost and explore the structuring options before investing in the solar sector.
For investors based overseas, an entry strategy for India is highly important. To achieve tax efficiency with regard to taxability of gains on sale of shares, many companies opt to route the investments through an intermediate entity in a tax-friendly jurisdiction.
However, the provisions of General Anti Avoidance Rules to be effective from 1 April 2017 need to be kept in mind while structuring the investments.
Typically, renewable energy companies in India procure equipment and services from overseas. In this scenario, contract structuring from a tax perspective helps renewable energy companies to achieve major tax efficiency upfront. In the case of multiple parties coming together and bidding as a consortium, contract structuring is critical to avoid the risk of the consortium being taxed as an “Association of Persons” that would result in the denial of tax treaty benefits and other incentives.
In India, based on the nature of operation, different forms of entities can be established. Operating through an LLP by forming a joint venture or wholly owned subsidiary could be one of the possible options where the foreign company is looking at a long-term presence in India. However, one needs to rule out other relationships and entities before proceeding with any particular option.
In addition, the renewable energy sector is capital intensive, so investing companies need to carefully explore the options available for funding their projects and repatriating profits in a tax-efficient manner.
The taxation of EPC contracts offers various challenges and opportunities. The EPC contract can be either structured as a single contract or as a divisible contract. The selection of either option can cause a sizeable impact on the tax costs and working capital of the project.
The selection of schemes for the payment of indirect tax liabilities on renewable energy power plant construction offers various tax planning avenues for renewable energy power projects. Furthermore, any scheme can involve difficulties in compliance, such as a restriction on procurement of goods outside the state.
The procurement of goods and supply chain structuring play a vital role in the solar power project costs, since the tax rates are different for procurement of goods from outside India, from other states or from the same state.
Generally, the EPC contractor also undertakes the operation and maintenance of the power plant. The taxability of an operation and management (O&M) contract has been the subject of disputes in various decisions.
The exemption provided under the Customs and Excise Act is subject to various conditions and compliances. Hence, it is very important to ensure the compliance of the respective conditions because the benefits envisaged may not be available otherwise.
The proposed introduction of the Goods and Services Tax will also play a major role in estimating the cost of a renewable energy power project.
Given the variety of tax and fiscal incentives available, one needs to quantify the tax cost and explore the structuring options, before planning the capex, at the tender/bid stage and also at the time of awarding contracts, so that tax costs are optimized.
Carbon Credits and Clean Development Mechanisms (CDMs)
India’s grid-connected renewable energy capacity has reached 31.7 GW by the end of March 2014 with Wind energy at 21.1 GW and solar energy at 2.6 GW. The Ministry of New & Renewable Energy (MNRE) has prepared an action plan to take solar energy installations to 10 GW by 2017 and add total 30 GW of renewable energy to its energy mix by 2017.
Carbon Credits and Clean Development Mechanisms (CDMs)