Ever since Minimum Alternate Tax (MAT) was introduced in 1988 to bring the so-called “zero tax companies” (i.e. companies that had profits, but were not paying taxes due to high depreciation, tax incentives, etc.) within the tax net, it has been not only been a source of much heartburn but also the object of incessant scrutiny. Starting with an effective rate of 7.5[1]% of book profits in 1988 to the current rate of 18.5%, the concerns around MAT have ranged from matters as fundamental as applicability to foreign companies and Special Economic Zones to computational ones, such as whether the credits to be considered should include surcharge and cess. However, the Union Budget 2018 could do well to fill up some remaining gaps.

Losses and MAT

While computing taxable income under normal provisions, tax losses and unabsorbed depreciation are available as an offset to a taxpayer. However, under the MAT provisions, only the lower of brought forward book losses and unabsorbed depreciation is to be reduced from the book profits. In case either is NIL, no such offset is available. This unnecessarily puts companies that are not capital intensive (and therefore, which do not have significant depreciation) at a disadvantage. Today, when the contribution of the services sector to the economy cannot be denied or ignored, such an artificial distinction is not only unfair but also unjustifiable. Although MAT credits are allowed to be carried forward and offset against normal tax for 15 years, cash flows do get impacted – once the time value of money is factored in; clearly, the services sector is at a disadvantage. Hence, should not the MAT provisions be amended to ensure parity across sectors?

Insolvency and MAT

With several large companies coming under the Insolvency and Bankruptcy Code (IBC) hammer, the potential levy of MAT on haircuts taken by lenders (which are credited to the Profit & Loss Account) is the focal point today, pushing not only the beleaguered companies and their lenders, but also the white knights looking to rescue them, into a corner. Further, Ind-AS requirements, to fair value and credit the resultant “gains” to the Profit and Loss Account in case of even conversion of loans to equity due to reclassification of the loan to a compound instrument would aggravate matters.

While there were high expectations that specific amendments would be brought in to fully exempt companies that have gone through the IBC from MAT levy, a press release by the Central Board of Direct Taxes in early January envisages only partial relief. The press release indicates that the aggregate of book loss and depreciation can be offset by such companies against their book profits (as against the current provisions applicable to other companies, whereby, only the lower of book loss or depreciation can be offset against such profits). Considering that the legislative amendments in this regard are still awaited, and therefore, are likely to be part of the Budget provisions, one can only hope that full exemption from MAT is given to companies in the corporate insolvency process under the IBC, as was available to companies declared sick under the erstwhile provisions of the Sick Industrial Companies Act. This would also be in line with the original philosophy behind MAT, i.e., to tax companies that were making profits but not paying taxes owing to various incentives, etc., clearly, companies under insolvency do not fit this bill.

Dividends from foreign companies and MAT

Dividends received by an Indian company from other Indian companies are exempt under the normal provisions and excluded while computing book profits for computing MAT. However, dividends received from foreign companies (in which the Indian company holds at least 26%), which are otherwise taxed at a reduced rate of 15% while computing normal tax, are taxed at 18.5% under MAT, as the provisions do not allow for exclusion of the same while computing book profits. This disparity makes it potentially unviable for companies to repatriate profits from their overseas subsidiaries, especially in a year in which they are likely to be subject to MAT. This is further aggravated by amendments to the rules regarding Foreign Tax Credits (FTC) in the Finance Act, 2017, which puts Indian companies into an adverse position by limiting the amount of MAT credit allowed to be carried forward.

To remove this incongruence and encourage Indian companies to repatriate their profits to India rather than keeping it parked overseas, should not the government consider excluding dividends from overseas companies from the purview of MAT?

Expenses incurred to earn dividends and MAT

Normal tax provisions have specific provisions to treat expenses incurred to earn exempt income as being not deductible.[2] If the taxpayer has itself not considered sufficient portion of its expenses as being non-deductible, the tax authorities have a prescribed formula,[3] which can be applied to determine the same. The key exempt income against which these provisions are applied is dividend from domestic companies. However, under the MAT provisions, while expenses relatable to exempt income are to be disallowed, the formula prescribed under Rule 8D is not attracted. Hence, there has been a long-standing controversy as to whether only specific expenses can be reduced while computing MAT or the quantum determined under Rule 8D may be considered. In this regard, the Special Bench of the Delhi Tribunal had held that the amount of expenditure computed under Rule 8D is an artificial amount, not debited to the Profit & Loss Account, and therefore, cannot be added back while computing book profits by importing the provisions of section 14A read with Rule 8D. Inserting a clarification that the deeming provisions of Rule 8D cannot be imported into the MAT provisions and that only specific expenses, if any, debited to the Profit & Loss Account can be added back, would go a long way in settling this needless controversy.

Ind-AS and MAT

From April 1, 2016, India is moving in a phased manner to Ind-AS, a converged form of the International Financial Reporting Standards. Given that Ind-AS is largely fair value based accounting, several concerns had arisen over the calculation of MAT, which is based on book profits. Though most concerns have largely been addressed by the amendments made by Finance Act, 2017 to the MAT provisions, certain grey areas still remain. For eg, certain transition amounts (such as on fair valuation of certain types of investments) are to be added to book profits (and hence subject to MAT) over a period of 5 years. However, if the asset is sold within this period, the taxpayer would be taxed on the profit (ignoring the fair valuation) under normal tax provisions, and also continue to be taxed for the balance period on 1/5th of the revalued amount under MAT. Clearly, this would amount to double taxation for the taxpayer, an anomaly which needs to be corrected.

MAT, as a concept, has probably outgrown its use – it was relevant in the days when companies enjoyed zero tax status, despite heavy profits. Today, with DDT, companies are not effectively zero tax – if the profits are shared with stakeholders, it would be subject to a comparative tax of over 20%. Profits not shared with stakeholders but ploughed back into the business, in any case, will only serve to bolster the economy. Thus, the government should consider taking a macro view of the corporate tax regime. If, given the potential loss to the exchequer, abolishing MAT altogether is not an easy decision, at the very minimum, the disparities and disconnects should be ironed out, so that taxpayers are on a level playing field, without undue hardship to them.

[1] All tax rates exclude surcharge and cess

[2] Section 14A of the Income-tax Act, 1961

[3] Rule 8D of the Income-tax Rules, 1962

The views expressed here are personal to the authors.

Authors – Hemal Uchat – Partner, M&A Tax, PwC India and Neelu Jalan – Director, M&A Tax, PwC India
Hemal Uchat – Partner, M&A Tax, PwC India and Neelu Jalan - Director, M&A Tax, PwC India

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June 2021