Indian IT calls for growth-oriented budget

India's IT-ITES (IT and IT-enabled services) industry is hoping that the tax holiday for software technology parks will remain and the government will reduce the overall tax burden in the country's upcoming Union Budget.

The IT industry is hoping for a further extension of the tax benefits under the Software Technology Park of India (STPI) scheme when the budget is unveiled by Finance Minister Pranab Mukherjee on Feb. 28.

Surjeet Singh, CFO of Patni, said: "We urge the government to extend the tax benefits for another year or two to empower the growth of small and midsize businesses (SMBs)."

Under the STPI scheme, slated to expire in March 2011, tax exemptions are provided to companies under Section 10A and 10B of the Income Tax Act. The scheme was initiated during the heydays of the dot-com boom at the turn of the millennium, and was originally set to expire in March 2009 before it was extended twice.

"All the other BPO (business process outsourcing) destinations like Philippines have tax holidays," Ram Panicker, CFO of BPO services provider, Intelenet Global Services, said.

"India will have a competitive disadvantage if the benefits are not extended. This should be a growth-oriented budget with a next generation of reforms," Panicker told ZDNet Asia in an e-mail.

In 2005, the Special Economic Zone (SEZ) Act came into effect, with an objective of providing an internationally competitive and hassle-free environment for exports. A SEZ is defined as "specifically demarked duty-free enclave and deemed to be foreign territory (out of customs jurisdiction), for the purpose of trade operations and duties and tariffs". Several large IT companies built facilities in the SEZs to enjoy the tax benefits.

Profit-linked incentives and facilities, offered to units in the special zone for attracting investments, are 100 percent income tax exemption on export income for the first five years, 50 percent for next five years thereafter, and 50 percent of the ploughed-back export profit for the next five years.

SMEs to be worst hit
The STPI exemptions were not dealt with in last year's Union Budget and industry players are hoping it would be adequately addressed this year.

If the tax benefit is not extended, IT-ITES companies in India will have to pay the full tax. "And in order to retain their existing margin, they will have to increase their rates by 3 to 7 percent," Panicker noted.

While the tax exemption impacts all IT-ITES companies, larger IT companies will be less affected as they have built most of their new facilities in SEZs where the tax benefits will continue for a few more years.

Though the finance ministry has categorically said there will be no further extension of the tax holiday under the STPI scheme after Mar. 31, the industry is still hopeful it will remain for another year to coincide with the commencement of the new Direct Tax Code on Apr. 1, 2012.

Pradeep Chaudhry, executive vice president and CFO of Symphony Services, said: "We hope the exemptions are extended for at least one year. Otherwise, SMBs that were unable to set up new units in the SEZ will find it difficult to compete with the big players."

However, Arup Roy, principal research analyst at Gartner, does not believe Indian IT needs more tax exemptions. "In terms of taxes and other sops, I think the Indian IT industry has developed its own momentum now and can sustain on its own.

To boost entrepreneurship, Roy suggested the government should provide exemptions for companies in certain "tiers".

"Those falling in the lowest tier should be the ones enjoying tax and other benefits," the analyst explained. For instance, he added, in order to let small providers participate in e-government projects in India, a certain percentage of work--for example, 25 percent--should be reserved for small providers to submit bids.

According to news reports, beyond the March 2011 deadline, the STPI scheme is likely to be retained in a modified form. The government's Department of IT (DIT) is working with the finance ministry to formulate the STPI variant in which tax benefits would be linked to investment instead of profit.

India losing cost arbitrage?
Over the last few years, Indian call centers have been losing business to Philippines, which had a U.S. naval base and is, therefore, culturally closer to the U.S. than India is.

So, is India fast losing its cost advantages? "Yes, it's a major concern," said Jayan Narayanan, associate vice president and head of corporate marketing and communications at IT services provider, CSS.

"Though India has moved away from being a preferred destination solely for cost arbitrage, this factor cannot be ignored," Narayanan added.

Panicker, though, differed: "India is moving up the value chain and able to give better value to the global customer. This helps in absorbing the inflation in the people cost."

However, he felt that the government must ensure consistent tax measures on par with competing nations. "The government should also invest in education so that we can maintain our competitive edge in the coming years," he added.

S. Sridharan, managing director of TAKE Solutions, concurred: "The IT industry has been continuously innovating and has focused on going beyond the cost arbitrage-based business model."

However, Sridharan noted, the industry is faced with the challenge of keeping costs down and ensuring a steady supply of talent.

Reduce overall tax burden
Market players are also hoping the government will reduce the overall tax burden on the industry.

The industry is already paying a minimum alternate tax, MAT, comprising almost 20 percent which is affecting cashflows. "The MAT rate should be restored back to 15 percent, as was the case in financial year 2009-10," said Karandeep Singh, India managing director of Sapient.

Naresh Wadhwa, president and country manager of Cisco Systems India and SAARC, added: "Measures such as simplifying taxation and reducing red-tape for new projects will significantly bolster industry growth."

TAKE's Sridharan said: "Consumers are asked to pay both value-added tax and service tax for software products. This has made products costlier and dampened demand.

"This issue has been lingering on for many years now and needs to be addressed," he urged.

Swati Prasad is a freelance IT writer based in India.