Corporate taxation: how far it is towards globalisation?

Finance Minister P Chidambaram was applauded for his announcement in the Budget to reduce the corporate tax rate from 35 to 30 per cent.

The minister said in his speech, "The corporate income tax rate, the surcharge thereon and the rates of depreciation are interlinked. Any reform would have to address all three elements. The international best practice is to provide for depreciation at rates that would enable the investor to replace the asset before its economic life ends."

While on the one hand, the finance minister talks about international practice with regard to charging depreciation, he does not make any attempt to find out international practice with regard to other aspects of corporate taxation.

He has added one more linkage to the corporate income tax, that is, the fringe benefit tax. The overall impact of corporate taxation can be seen after analysing the tax rates, taxability of dividend income, applicability of minimum alternate tax, fringe benefit tax and depreciation rates. Click here here for Table 1 shows the corporate tax rates and provisions relating to taxability of dividend income, minimum alternate tax and fringe benefit tax in various countries. 

The finance minister has proposed to reduce the corporate tax rate from 35 to 30 per cent, but he has simultaneously increased the surcharge rate from 2.5 to 10 per cent, thus reducing the effective tax rate from 36.592 to 33.66 per cent.

As compared to this the US, UK and Japan have minimum tax rates of 15, 19 and 22 per cent and the maximum tax rates of 35, 30 and 30 per cent respectively. Whereas other countries follow the flat tax rate system similar to that in India, even in these countries tax rates are lower than the effective tax rate of 33.66 per cent proposed in the Finance Bill.

Moreover, the overall impact of tax on corporate income in any country can be seen only after analysing how dividend income is taxed there. In the US, dividend income is added to the personal income of shareholders and taxable at the individual rates applicable to shareholders.

In the UK, it is subject to partial imputation. Any dividend received in the UK is grossed up and then a rebate at the rate of 10 per cent is allowed. Dividend income in Australia and Malaysia is subject to full imputation and is, therefore, exempt from tax.

In Singapore and Hong Kong, dividend income is fully exempt in the hands of shareholders. In Japan, dividend income is added to the income of taxpayers and then the tax is deductible at a fixed lower rate. It is only in India that a dividend distribution tax (DDT) is levied in the hands of company.

The DDT in India is taxed at 12.5 per cent plus 2.5 per cent surcharge and further an education cess of 2 per cent on total DDT is levied. In the Finance Bill 2005, the surcharge on DDT is also being increased from 2.5 to 10 per cent.

A look at the global scenario shows that except for the US, in all other countries mentioned in the table, it is either taxable at a fixed lower rate or it is not taxable at all. In India, while DDT is a mild form of double taxation, raising of surcharge from 2.5 to 10 per cent will further increase the tax burden.

The Finance Bill further proposes to levy fringe benefit tax on the employer. This is going to be an additional liability and will increase the effective corporate tax rate. As shown in Table 1, the fringe benefit tax is taxable in all these countries "" except Australia "" in the hands of employees only. In Australia, it is taxable only in the hands of employer.

Therefore, levying such tax partly in the hands of employer and partly in the hands of employee will be against the general practice followed in most other countries. Similarly, the minimum alternate tax, commonly known as MAT, is also applicable only in the US and India.

Depreciation rates
The finance minister has interlinked the corporate tax rates with the rates of depreciation and has made a reference to the international practice to provide depreciation at rates that enable the investor to replace the asset before its economic life ends. It is logical that the cost of asset should be written over its economic life.

However, the question is what is the economic life for calculating depreciation in other countries. The depreciation rates and the economic life of plant and machinery in some selected countries are given below. 

Depreciation allowance in selected countries
Countries	Initial allowance or deduction	Annual allowance (%)	Method of depreciation	Economic life of asset
UK	40%	25	DBM	NA
US	$105,000	28.5	DDBM	5 to 7 years
Australia		30	DBM or	6 to 10 years
		40	SLM	5 to 6 years
Malaysia	20%	14	SLM	6 years
Pakistan	50%	10	DBM	NA
India	15%	25	DBM	NA
DBM: Declining Balance Method, DDBM: Double Declining Balance Method, SLM: Straight Line Method

As can be seen, the depreciation rates are quite high in all these countries. In the US, besides depreciation, according to double declining balance method, an annual deduction is allowed in the first year. The amount of annual deduction allowable for the year 2005 is $ 105,000.

In Australia, a 100 per cent depreciation is allowed where the effective life of the asset is less than three years. In the US, the taxpayer can switch over to the straight line method when it starts providing more depreciation.

Thus, annual depreciation rates have been 25 per cent in the UK, 28.5 per cent in the US, and 30 to 40 per cent in Australia. In Malaysia, although the depreciation rate is 14 per cent, it is allowed according to the straight line method. In Pakistan, 55 per cent depreciation is allowed in the first year itself.

These rates of depreciation across the world show that the depreciation continues to be allowed on the basis of economic life of the asset and the corporate tax rates are not interlinked to the rates of depreciation.

Due to rapid changes in technology and computerisation, the assets whether it be plant and machinery, or motor vehicles, now become obsolete much faster as compared to the time when the existing rates of depreciation were prescribed.

The economic life is not so long as is being considered by the finance minister justifying the reduction in the rate of depreciation. Apparently, the reduction in depreciation rate is an exercise being carried out not only to offset the loss of revenue caused by reduction in corporate tax rates but also to raise additional revenue.

(The author is reader in commerce, Daulat Ram College, University of Delhi)