GST impact on the infrastructure sector seems to be mixed bag

Context: The infrastructure sector is the backbone of the Indian economy. The government has been making efforts to boost the sector through various schemes and incentives. Introduction:

• According to the government, total infrastructure spending is expected to be about 10% of GDP (gross domestic product) during the 12th Five-Year Plan (2012–17), up from 7.6% during the previous Plan.
• According to the ministry of road transport and highways, a total of 6,604km has been constructed out of the 15,000km target set for national highways in 2016-17.
• The Airports Authority of India plans to develop city-side infrastructure at 13 regional airports, with help from private entities for building of hotels, car parks and other facilities. Significant allocations have been made to power, urban development and inland waterways sectors.
• The recent introduction of goods and services tax (GST) could have significant impact in terms of spending on infrastructure.

Previous tax regime:

• In the pre-GST era, there was dichotomy in the applicable indirect tax regime relevant to infrastructure. While Central laws provided exemptions and concessions, state VAT (value-added tax) and entry tax laws were applicable to goods procured.
• While Value-added Tax (VAT), a state tax, was applicable to the ‘supply of goods’, a service tax, a central tax, was applicable to ‘provision of service’.
• With the implementation of GST, these litigations will come to an end.
• The Central GST Act, 2017 (GST Act), provides that ‘works contract’ as well as ‘construction of a complex or a building, civil structure or a part thereof’ shall be treated as the supply of services.

Impact of GST on infrastructure sector: Introduction of GST seems to be a mixed bag for the infra sector—predictability and efficiency being the key advantages, while non-inclusion of sub-sectors, higher rate and certain restrictions are negatives. Impact of GST on infrastructure sector: overall

• GST being a concurrent tax on supply of goods and services is expected to bring in predictability for infrastructure projects.
• There is apprehension that a flat GST rate of 18% would lead to increased incidence on infrastructure projects, availability of input tax credits would neutralize such concerns. Thus, contractors and suppliers could look forward to a simpler and efficient tax regime.
• For project owners, the new legislation may not lead to a condusive future. Credit restrictions on works contracts resulting in an immovable property coupled with increase in GST rates could increase cost outlay.
• Power is an important component of infrastructure.

Electricity being outside the purview of GST, power generation companies would continue to have indirect taxes as a significant cost factor.

• An increase in rate of services and withdrawal of exemptions and concessions for power projects is expected to have an impact on power companies.
• Withdrawal of exemptions for road, water supply and sewerage projects sponsored by government and local authorities is expected to increase government spendings.
• On direct taxes, the government intends to bring down the corporate tax rate in a phased manner and correspondingly phase out profit-linked tax incentives.
• It will cut multiple taxes but will affect cost of construction

Negative impact of GST on infrastructure sector: The new tax reform will pose several challenges for the infrastructure sector:

• Treating of works contracts as service contracts, the imposition of new tax rates on ongoing projects, and change in the costs of construction materials.
• The cost of construction services will also be impacted due to credit restrictions provided under Section 17(5) of the GST Act.
• A contractor will not get ITC for the supply of works contract service for construction of an immovable property but can avail the benefit of ITC on construction services availed from the sub-contractor.
• With the advent of GST, there will also be a change in the cost of construction materials.

Positive impact of GST on infrastructure sector:

• The advent of GST is expected to boost the infrastructure sector with the elimination of ‘tax on tax’ and the introduction of input tax credit.
• With the rollout of GST, the rate of 18% for works contracts is higher, and the difference is more prominent for construction activities falling under the service tax exemption category.
• Higher GST rate could be set off by the benefit of input tax paid and ITC on the raw materials.
• GST would also make compliance easier by eliminating multiple indirect taxes.
• On the other hand, a higher GST rate could also result in higher costs, if there is limited scope for renegotiating construction contracts, and contracts that do not account for contingency factors

Measures needed for growth in infrastructure sector: The following measures will propel much-needed growth for India’s infrastructure sector.

• Infrastructure requires considerable investment and it is likely that it may not be the beneficiary of reduced corporate tax rate. Also, as gestation is high, it is unlikely to generate enough profit in the initial years to absorb compulsory depreciation charge under the Income Tax Act.
• India needs about $ 1.5 trillion investment in the infrastructure sector in the upcoming years. The figure is roughly equal to the nominal GDP of the second largest country in the world in terms of land mass-Canada.
• There could be incidence of minimum alternate tax (MAT) of approximately 18.5%, on the book profit.
• Industry has been demanding withdrawal of MAT, and the finance minister had acknowledged this demand, although there has been no relief so far. The only respite has been to allow set-off of MAT paid against future tax liability for 15 years as against 10 years.
• The intent and willingness of the current government to go the extra mile for overall growth, has been well received. With time, industry expects more clarity in GST and a reduction in corporate tax rate to make up for withdrawal of direct tax incentives.
• Access to funds, technology, entrepreneurship and political will to transform infrastructure with the help of public and private investment are more actionable today.

Challenges in Infrastructure sector in India: Figures sourced from Government reports reveal that nearly 276 projects out of 566 projects tracked by Ministry of Statistics and Programme Implementation have been delayed.

• Land acquisition and environmental clearance
• Lack of coordination between various Government agencies
• Inappropriate structuring of the projects, particularly of demarcation of risks and rewards between Government and private sector
• Lack of a proper dispute resolution mechanism between private players and government agencies
• Debt burden of infrastructure developers, as a consequence of execution delays and irrational bidding

Government’s initiative for infrastructure development:

• One of the examples of a large planned infrastructure development is the Delhi-Mumbai Industrial Corridor, envisaged to accommodate large industrial zones, development of smart cities and creation of logistics network.
• Finance Minister Arun Jaitley assigned infrastrucute status to affordable housing in the recent budget in order to make the infrastructure sector more attractive and robust.

Way ahead:

• As villages gradually turn into suburbs and urban centres transform into work intensive metropolises the demand is imperative and so is the need for innovation.

Solutions:

• Reduction of regulatory uncertainty and delays:

The government needs to create a mechanism for single window clearance for various approvals. This would require a proper regulatory body overseeing the progress of approvals and coordinating with various government bodies.

• Appropriate structuring of project:

Current mechanism of structuring a project as an EPC or PPP or 100% private ownership needs to be relooked to account for varying risk profiles of projects. There is need for creation of a dispute resolution mechanism for the PPP projects.

• Developing financing mechanisms to suit the sector’s needs :

Infrastructure companies are finding it difficult to raise funds, as banks have restricted exposure to the sector while funds from abroad are not finding a suitable avenue to invest in the sector. In this regard, long term debt instruments such as international pension funds will reduce the cost of debt and thereby viability gap for infrastructure projects. The proposed new investment vehicles like infrastructure investment trusts and Infrastructure Debt Funds need to be hastened to provide a fillip to the sector.

• Efficient project management :

Private companies need to evolve their processes to employ best-in class project management tools and techniques. Companies need to address issues related to lack of skilled manpower and improve their current sourcing & project management practices, to reduce the incidence of cost and time overruns during execution. Conclusion: The infrastructure sector in India has evolved from purely Government funded projects to newer business models involving partial or complete ownership of the private sector. Currently, the infrastructure sector is in a state of flux, with the sector being hit by slowdown in the economy and strain being faced by various infrastructure developers. Going ahead, the sector is poised to bounce back with new opportunities. But growth of the infrastructure sector is dependent on solving some key challenges related to reducing regulatory uncertainty, developing appropriate financing mechanisms and ensuring efficient project management. There is need for more proactive participation from private sector in the form of Public-Private Partnership (PPP) projects, particularly in roads and power sector.

Infrastructure sector is critical for India’s economic development. The opportunities for future growth of the sector are enormous but there are also significant challenges that need to be overcome to make this infrastructure sector dream a reality.