India can take a leaf out of the Chinese statute book as bringing all enterprises within the scope of a single new law increases the transparency of the tax regime.
Nowadays it is pass to compare India and China in terms of development record in the post-reforms phase though the Middle Kingdom initiated economic change in the 1980s, a decade ahead of India.
Even as India is mulling over a new code for direct taxes to simplify the labyrinthine and litigation-generating procedures, China has surprised the world by passing two laws on March 16. These pieces of legislation are basically designed to improve the investment climate and unify taxes to make the process simple and transparent for assesses.
According to an analysis of the implications of the latest tax reforms in China by the Paris-based inter-governmental think-tank of 30 rich industrial countries, the Organisation for Economic Cooperation and Development (OECD), the new law is in consonance with the recommendations of its Investment Committee and Committee on Fiscal Affairs. OECD recalled its earlier view that China should attract FDI (foreign direct investments) by improving the regulatory framework rather than by offering fiscal and other preferential fillips to foreign investors.
End to uncertainty
The two changes effected by China's National People's Congress pertain to the Enterprise Income Tax Law and the Property Law, which lends equal protection in law to public and private property for the first time since the establishment of the People's Republic of China.
By setting a single 25 per cent tax rate for domestic and foreign invested enterprises, the Enterprise Income Tax Law ends the uncertainty over this policy since China's accession to the World Trade Organisation at the end of 2001.
Currently, foreign-invested enterprises (FIEs), or foreign companies, pay an average of 15 per cent of their income as Enterprise Income Tax, while domestic units pay 25 per cent.
The standard concessions for FIEs cover top income tax rates of 15 per cent and 24 per cent (depending on factors such as location) and come into effect in a company's sixth full year of profit-making after a two-year tax holiday and three years of half-rate tax.
Besides, concessions are available in certain sectors and locations.
Per contra, domestic companies are subject to a standard enterprise tax rate of 33 per cent, mitigated by sectoral and regional incentives, while domestic low-profit enterprises are taxed at 27 per cent and 18 per cent.
OECD contends that the new law sets a standard rate of Enterprise Income Tax of 25 per cent, regardless of whether the enterprise is Chinese- or foreign-owned.
The rate has thus been slashed by eight percentage points for domestic enterprises and increased by an average ten percentage points for FIEs; a genuine bid to level the playing field.
As a corollary to this exercise, the Chinese authorities reckon that FIEs would pay 41 billion yuan more in Enterprise Income Tax in 2008, when the law comes into force, while domestic companies would pay 134 billion yuan less; the total revenue from Enterprise Income Tax is likely to be 93 billion yuan less than if the law had not been enacted.
It is interesting to note that by doing away with the incentives for foreign investors, the Chinese Government has now removed the motivation for round-tripping.
As a consequence, Chinese FDI statistics would get more accurate, as they will no longer include an unknown proportion of investment that is really domestic money coming back, disguised as foreign investment. Another salutary outcome is increased tax revenue flowing from the closing of this tax evasion avenue.
Some Sops Remain
However, the Chinese authorities have made it clear that the removal of fiscal sops for foreign investors would not mean end of spurs offered to those investing in the less-developed regions such as Western China or the Special Economic Zones (SEZs) and in sectors the government wants to promote such as environmental protection and renewable energy. A reason being that these incentives are non-discriminatory between foreign and domestic investors and they do not skew the playing field.
India, which is still grappling with a single direct tax code to subsume several amendments that were made to the Income-Tax Act, 1961, can take a leaf out of the Chinese book as its new law increases the transparency of the tax regime by bringing all enterprises within the scope of a single law.
Since this is construed as a step towards simplification of the plethora of tax legislation affecting FIEs in China, tax analysts say that the time has come for India too to rid its tax statutes of complexity, density and lack of clarity.