As promised by the finance ministry, the new direct taxes code bill, 2009 (the code) proposes to bring in the most significant direct tax reform in the country within a year's time. Looking from a broader perspective, the code proposes severalpositive changes to current maze of legislation.

However, from the perspective of the infrastructure sector, this code seeks to introduce several path-breaking provisions, the impact of which needs to be carefully considered by the entities engaged in the core infrastructure sector.

Currently, infrastructure is a key priority area and the government is keen to promote development of the sector. Towards this end, the key incentives provided by the government were in form of tax holidays to infrastructure companies, which ensured investment flow, lower cost of development and consequent cheaper user charges for the aam aadmi.

However, the major change brought in by the code relates to rationalising of tax exemptions. Traditionally, the exemptions provided were 'profit-based' tax incentives in form of tax holidays for a certain number of years. The code proposes to replace the same by 'investment-based' incentive, which implies a tax exemption for the period until the whole of investment made by an entity is recovered.

Once all capital expenditure is recovered, then the entity would be subject to normal taxes. The new incentive augurs well for projects which are in high growth phase -- for example, the cross-country gas pipeline, which currently needs sustained investment for a number of years.

However, other projects which have completed the development stage of their life cycle will have to undertake a thorough revision in their financial projections to understand the change in tax cost once the code is in effect.

A significant omission from the businesses eligible for investment-based incentive is a unit in special economic zones (SEZs). Therationale behind this omission is hard to understand, especially when development of SEZsis a primary focus area for the government.

Another change brought about -- in the minimum alternate tax (MAT) provisions, also has a substantial impact on infrastructure sector, which normally requires a large asset base.

The code proposes to levy MAT at 2% of the 'gross assets' of the company, instead of being levied on 'book profits', as currently being done.

Moreover, credit of MAT paid will not be allowed to be set off against future tax liability. In a nutshell, MAT will be a final tax and a dead cost for companies paying the same.

Being an asset-based tax, it will severely increase tax costs of asset-heavy infrastructure
companies, even when they may be incurring losses during the initial period or paying nil taxes due to the investment-based incentive discussed above.

Large infrastructure projects in fields of oil and gas, ports, roads, etc typically involve foreign entity in form of an engineering, procurement & construction (EPC) contractor. Normally, the key responsibility of this contractor is to provide advance technology
not available in India, for which they are remunerated by wayof royalties or fees for technical services (FTS).

Normally, the arrangement between the Indian project owner and the non-resident EPC contractor stipulates that taxes on income of the contractor are to be borne by the Indian party i.e. grossing up of taxation needs to be done.

The code proposes to increase the tax rates on royalties/ FTS earned by foreign entities from 10% to 20%. Consequently, the said change would imply a considerable increase in costs for Indian project owners.

Another area where the code proposes important provisions is anti-avoidance measures termed as 'General Anti-Avoidance Rule' (GAAR).These provisions would have significant impact in cases where an Indian project owner enters into EPC contracts with group companies for a variety of reasons, including optimum tax cost.

In such cases, the onus/ burden of proof is on the Indian party to prove the genuineness of EPC structure, especially split contracts.The code retains the presumptive taxation regime for certain non-residents providing certain services to turn-key power projects, oil & gas exploration, etc.

However, the provisions as drafted in current form, leave a major ambiguity as regards determination of income, which needs to be sorted out.

The above discussion clearly indicates that proposed changes by the code require a careful consideration by all infrastructure players as well as the government, as jacking up of tax costs will definitely impact the user charges for key facilities like roads, airports, gas etc.

For infrastructure developers, it is necessary to undertake a thorough cost-benefit analysis as well as pro-active representation before the government to ensure optimum tax burden and smooth transition into the code.