India’s manufacturing sector has long struggled to get its due. At the moment, manufacturing accounts for 15 per cent of India’s GDP while the service sector contributes 60 per cent.

If India has to accommodate over 10 million people joining the workforce every year, it needs to grow at a much faster pace. This can only happen if there is substantial growth in manufacturing, the only sector capable of employing most of the new workforce joining from the rural areas.

To begin with, India must increase its manufacturing competitiveness. For that to happen, the Government will need to bring in some tangible policy changes to attract investment. The manufacturing sector suffers from a host of problems, including stringent labour laws, poor infrastructure and a very poor supply chain.

Aggressive stand Further, the tax department takes an extremely aggressive position vis-à-vis manufacturing — right from setting up the business to sourcing technology, hiring technical services and manufacturing and selling.

To add to problems, the import regime, thanks to WTO, has become extremely facilitative with the import licensing having been abolished and customs duty having fallen from dizzy levels of 150-300 per cent to as low as 10 per cent for coloured television sets and zero per cent for IT goods such as mobile phones and computers.

In the manufacturing sector the inverted duty structure continues on the customs front — import duties are higher on components than on finished goods. Direct tax incidence on imported manufacturing inputs has increased from 10 to 25 per cent (for soft costs such as royalties, software, technology fee, etc).

This is a complete disincentive for investment in the manufacturing sector. It is clearly time to not just provide a level playing field to manufacturing vis-à-vis imports but to incentivise manufacturing with a facilitative tax regime.

To do this, the Government must lay down some mandatory guiding principles. All direct and indirect tax legislation, policy, implementation and interpretation should be based on whether it would encourage manufacturing in India as against imports.

Take for example, the source rule of taxation which taxes import of soft inputs in manufacturing such as royalties for technology, technical services fee, software and so on without a taxable presence. This should be removed to encourage manufacturing.

Guiding principles This rule was valid in the days of high import duties. Also, SEZs can become global manufacturing hubs provided the sale of goods allowed in the domestic tariff area is levied customs duty only on the duty foregone on imports into the SEZs and not on value added by way of labour or materials. The manufacture of cars by global companies in India is one such example.

The restructuring of businesses should not result in any form of taxation until cash profit is realised. For example, the new concepts of REIT(Real Estate Investment Trusts)/INVIT (Infrastructure Investment Trusts) being mooted to raise capital for infrastructure and real estate and free up bank loans for further expansion would fail in case MAT tax is levied on the contribution of assets to REIT /INVIT.

There needs to be a change in the mindset of the tax department so that it facilitates business instead of playing a restrictive role. Uncertainty on taxes needs to be removed by bringing about transparency and clarity by publishing position papers on a regular basis under an independent forum — to minimise disputes particularly on issues affecting a large number of taxpayers or involving large tax amounts.

Tax policies should encourage foreign direct investment into India. India subjects capital gains tax on profits made on FDI but does not levy capital gains tax on profits made by FIIs when they sell on the stock market — while it can be clearly said FDI is a superior investment. The US, UK, Singapore and other countries encourage FDI by not taxing capital gains on sale of shares. India should do the same.

Studies have also indicated that every job created in manufacturing can create two or three jobs in the service sector. Our future lies in how best we utilise our most powerful reserves: human resources.

The writer is executive director at PwC India

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