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KBuzzSector InsightsIssue 13 January 2012

kpmg.com/in


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1 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliatedwith KPMG International Cooperative (KPMG International), a Swiss entity. All rights reserved.

After experiencing a spiraling decline in its growth for some time, the Indian economy is

finally showing signs of a mild upturn through positive performance on key economic

indicators.

Burgeoning inflation, the key challenge before policy makers, finally plummeted to a two year

low with food price pressures easing dramatically. Headline inflation declined sharply to 7.5

percent (y-o-y) in December 2011 as compared to 9.1 percent in November in the same year.

Month-on-Month (M-o-M) growth however remained stable. Food inflation has infact

remained in the negative zone for three consecutive weeks in January. It is however

important to note that core inflation, the watch indicator for the RBI, showed negligable

change on an M-o-M basis. Most market analysts are nevertheless hopeful that core inflation

will also trim down in the days to come as a result of easing demand conditions.

Another indicator of an upswing in economic conditions is Indias December performance on

the Index of Industrial Production (IIP), which displayed a sharp increase of 5.9 percent,

majorly led by manufacturing and electricity. The more pleasant surprise is a near 13.1

percent growth in the index for consumer goods. However, on account of weak investor

sentiment, the index for capital goods still remained in the negative zone.

The Indian economy also witnessed a marginal spike in services growth. Illustratively, a

seasonally adjusted leading Business Activity Index posted 54.2 in December, up from 53.2 in

November, 2011. Statistics for December 2011 also signaled a marginal increase in

employment in the services sector, a positive change in staffing levels since June in the

same year.

Indicating a likely, similar revival in global economic conditions and particularly demand, Indian

exports registered a growth of 6.7 percent compared with a 3.87 percent a month ago.

During the first nine months of this fiscal (April to December), exports grew by 25.8 percent,

while imports grew by 30.4 percent1.

While performance on some of these indicators has displayed improvement, it would be early

to draw any optimism on Indias prospects this fiscal. Given that global economic conditions

will also have a role to play in how India performs this fiscal. The impact of the recent

downgrade in the credit rating of 9 European countries on India is also yet to be seen.

The upcoming budget, which is to be announced in March, is expected to focus on regaining

growth momentum while managing this uncertainty that India faces.

The following pages will present the pre budget memorandum for the Indian economy and its

sectors.

I hope you find this issue of KBuzz engaging and insightful.

Regards,

Rajesh Jain

Head Markets

KPMG in India

2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated

with KPMG International Cooperative (KPMG International), a Swiss entity. All rights reserved.


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EDUCATION 03

GOVERNMENT 07

HEALTHCARE 10

IT-BPO 13

MEDIA AND ENTERTAINMENT 17

PHARMACEUTICALS 21

PRIVATE EQUITY 24

REAL ESTATE & CONSTRUCTION 29

TRANSPORTATION AND LOGISTICS 37

2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated

with KPMG International Cooperative (KPMG International), a Swiss entity. All rights reserved.


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Education



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Narayanan Ramaswamy

Head

Education

[email protected]

The current regulatory

framework is not

conducive for explosive

growth in the education

sector. Government

cannot be expected to

fund all the growth. But,

government as the

regulator, can pave way

for controlled investments

from private sector.

Narayanan Ramaswamy

Head

Education

KPMG in India

Budget 2012: Education sector looks for more liberalisation

1. Press Information Bureau, Government of India, Allocation for Education under eleventh five year plan, March 2008

2. Time of India, Experts decry 10th plan allocation for education, November 2002

3. IDFC Report: Indian Education Sector--Long way from graduation!

Overview

A raging debate in the Education circles is the need for private sector

investment in the Indian Education sector. It is almost a fait acomplinow

given the quantum of investment and urgency of the need. This could well

be the silver bullet .

The past few years have seen a consistent investment by Govt. of India in

Education sector. The 10th five year plan had an allocation of INR 28,7501

crores and 11th plan had significant more attention to this sector by an

unprecedented INR 2,69,873 crore allocation2. While this clearly shows theimportance and magnitude of the cause, we need to juxtapose this with the

enormity of the situation in India.

Never before in the history of mankind has there been a need to educate

such a huge number of people. The staggering hundreds of millions young

Indians are going to depend on this factor Education for their livelihood

and hence the prosperity of the nation. The burden of being a young nation

of providing human resources for the globe is not going to be an easy

task. Clearly, expecting the Govt. to shoulder the entire responsibility is

neither practical nor prudent. Private sector is expected to play a crucial role

in creating infrastructure to educate the countrys young. But then as a

regulator, the government needs to create the right eco-system for private

sector to participate in this effort. In pursuit of this, the Indian government is

trying to reform the education sector. With a host of education bills on theanvil, the sector is expected to receive the much-needed boost.

A quick look at the past decade suggests that the organized private

initiatives are gaining momentum in Indias lucrative education market.

Despite of regulatory ambiguity in some areas, exciting prospects lie ahead

for firms that have already boarded the bus. As national chains emerge,

consolidation ahead shall be seen as a major phenomenon. Test prep and

tutoring appear most segmented, being spread thinly between small

regional players; while areas such as e-learning, teacher training and online

tutoring are nascent. K-12 and private professional colleges are the most

scalable segments on offer.

The liberalization debate is intensifying as Indias policy planners struggle

with a failed public-education system amid continued resistance to thecommercialization of education. Court judgments have talked of a

reasonable surplus for schools and higher-education establishments,

without clarifying the scale of profits that constitute the surplus. In the

absence of centralized or regionally consistent regulation, profit is likely to

come from the provision of services such as land leases, intellectual

property and school management. Nonetheless, recent policy statements

indicate a more liberal and welcoming environment ahead for private

participation.

Challenges and Outlook

Over-regulated and under-governed best describes the current state of

the largest sector in India. The not for profit nature of the USD 40 billion

formal market has deterred private participation, which of course expects a

reasonable profit. The non-formal market, estimated around USD 10 billion

has not been scalable due to its inability to transform education into a

process-driven model3.


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Some of the key challenges noted are:

Regulations require all education institutions (school or college) to be run

as a trust or a society or a section-25 company. It has deterred much

larger private participation in the education sector

Multiple Regulators with not much value addition to the whole eco-

system

No single-window clearance for setting up education institutions. No

incentives to private companies to invest in creating educationalinfrastructure. With no clear road-map for industry sponsored education

Institutions

Even though 100 percent FDI through automatic route is allowed since

2000, no regulations formulated for recognizing foreign HEIs under UGC

But with governments continuing efforts on liberalization, we believe Indian

education system will mature in near future with encouraging positives for

all the stake-holders. Some desired trends will be:

Focus on technical and professional education with employment

orientation

Multiple entry and exit points removing barriers in getting integrated

education

Increased industry-academia linkages

Substantial & sustainable private investment

Policy & Regulatory Imperatives

The sector, of course, needs more liberalization on many accounts. The top

of the list, in our view, should be allowing selective for-profit education or

allowing foreign as well as larger private participation in education, Indian

education. Some of the expected regulatory imperatives are:

Encouraging private participation in education across segments i.e. K-12,

vocational and higher education through various means- for profit,

incentives, tax breaks

Creating road-map for Pathways Programs for integrated formal &

vocational education

The Prohibition of Unfair Practices in the Technical Educational

Institutions, Medical Educational Institutions and Universities Bill, 2010

bars accepting admission fee and other charges other than those

declared by the institution in the prospectus

The Foreign Educational Institutions (Regulation of Entry and Operations)

Bill, 2010 in order to allow foreign universities to operate in the country



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KPMG in India point of view

At the risk of repeating let me add that this is the defining decade for Indian

education. Thanks to many years of seclusion, apathy and inadequate

funding, the Indian education sector is neither scaling up nor offering quality.

At this juncture, where India is expected to be the home of a third of worlds

working population, the need for education is acute.

The current regulatory framework is not conducive for such an explosive

growth in Education sector. Government cannot be expected to fund all the

growth. But, government as the regulator, can pave way for controlledinvestments from private sector which essentially means there should

some means of allowing reasonable profit and returns from the sector. Are

we willing to bite the bullet? The slew of reform bills introduced in the

parliament over the past few years seem to show the inclination in this

direction. Will 2012 budget usher in the much-needed liberalization in

education sector particularly in the areas of private funding, in foreign

institutions participation? Do we have a choice?



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Government



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Overview of Recent Developments in the Indian economy

After a decade of startling growth (2000-2010), the Indian economy in the

recent past has been experiencing a downturn of its own. A weak domestic

environment coupled with global uncertainty has led to a slowing economy.

Domestically, persistently high inflation and a consequent liquidity tightening

program by the RBI has impacted the growth prospects of the Indian

economy. GDP growth, earlier forecasted to touch 9 percent is now

expected to touch around 7 percent by many. Indicatively, quarterly growth

slowed to a two and a half year low of 6.9 percent during the second quarterof FY12 from 8.4 percent achieved a year earlier1. Slowing growth is also

reflective of slumping investment and consumption in the economy.

The weakening domestic situation has further been aggravated by continued

upheavals in Europe and other parts of the world. Much of this has

translated into weak investor sentiment leading to a flight to safety amongst

these investors. Essentially, an outflow of short term funds from India

exerting downward pressure on the Rupee. Illustratively, the Indian rupee

touched a record low of INR 54.30/USD in the middle of December, 2011 2.

Policy paralysis and corruption scandals have also played a part in derailing

the India growth story. Despite a large market marked by a burgeoning

middle class and increasing urbanization, Indias investment attractiveness is

marred by its tainted business environment. The long held reforms in DTC,GST and FDI in retail are however expected to help the economy climb the

ladder on investment attractiveness, translating into high growth

momentum.

The last two months have however brought in some signs of a mild upturn

in macroeconomic conditions. Inflation was seen to touch 7.5 percent in

December 2011, down from 9.1 percent in November of the same year 3.

Inflation is further expected to plummet to 6-7 percent by March, 2012 as

per Indias Finance Minister, Pranab Mukherjee4.

Moderating inflation is expected to help the RBI revisit its liquidity tightening

stance and change focus to growth stimulation. Much of this revival in

growth will however depend on how the global economic scenario unfolds.

Challenges and Outlook

The government is entering this fiscal with a number of domestic challenges

to be dealt with.

One, the urgency and challenges in picking up growth momentum, given

the global uncertainty, particularly in the Euro Zone. This requires prudent

fiscal and monetary policy management that ensures a steady flow of

investments into the country.

Second, keeping the Rupee under control is another area of concern given

its implications for the overall economy. Falling growth and a weakening

Rupee have negatively impacted the already battered government finances.

Fiscal deficit, which was budgeted to be 4.6 percent of GDP during FY12, is

now expected to be close to 5.5 percent of GDP indicating increased

government borrowings. This has been majorly driven by weak tax

collections, a rising subsidy bill and under achievement of disinvestment

targets5.

With a difficult last

quarter in the current fiscal

it is imperative that the

budget is able to provide a

strong tax collection

strategy, achieve the

disinvestment targets

while controlling the rising

subsidy bill. A responsible

budget at this point would

help address critical gaps

in policy-making,

governance, and facilitate

success of the reforms

agenda.

Navin Agrawal

Head

Government

KPMG in India

Expectations from the Budget

Navin Agrawal

Head

Government

[email protected]

1. LiveMint, IMF lowers growth forecast, Jan 25, 2012

2. Economic Times , Steps to curb rupee speculation may not be temporary: RBI, Jan 24, 2012

3. Office of the Economic Adviser

4. LiveMint , Inflation to moderate to 6% by March, Dec 29, 2011

5. LiveMint, India to miss fiscal deficit targets, Dec 10, 2011


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Expectations from the Budget

Conclusion

It is notable that the budget is expected to be released at a time when the

economy is navigating through a complex maze of domestic and global

challenges. Illustrated below are a few points that the FY 2012 -13 budget is

expected to focus on:

Prudent fiscal management has emerged pivotal to the economic health

of the Indian economy. Accordingly, the government is expected to

renew focus on its agenda of fiscal consolidation in the upcoming

budget. Controlling the currently, stubbornly high fiscal deficit isimportant to regain investor and consumer confidence on Indias

economic prospects. It is however expected and hoped that the

government will employ a balanced approach to fiscal management

ensuring minimal impact on growth. The path to consolidation is

expected to be based on expenditure reforms that aim to rationalize

government spending. Another area of focus could be improving

recovery from various public services and goods, while increasing

revenues of the government in addition to disinvestment. This would

hold immense importance as increasing taxes would negatively impact

economic units such as the corporate and household sector, which are

already battling with the monetary tightening by the RBI.

Developing infrastructure is expected to be another core area of focus in

the upcoming budget. Budgetary allocation and efficiency of allocationon various infrastructure development schemes such as JNNURM,

Bharat Nirman, Restructured Accelerated Power Development, Reform

Programme (RAPDRP) and Rajiv Gandhi Grameen Vidyutikaran Yojana

(RGGVY) need to be accelerated for sustainable and inclusive growth.

An acceleration in next generation reforms covering taxation, banking

and insurance and pension in the upcoming budget is expected to play

an important role in stimulating economic growth

Given the challenge posed by high inflation, it is natural that the

government focuses on easing supply side bottlenecks. It is expected

that the government will employ targeted efforts to improve agricultural

productivity through investment, technology and innovation

The Government needs to focus on social sector reforms particularly on

laying down a roadmap for the Food Securities Act and in areas relating

to universal education, gender equality, and welfare of weaker sections

Education and health are expected to emerge as important sectors of

development. It is expected that the upcoming budget will encourage

private participation in both the sectors through various means- for profit,

incentives, tax-breaks and subsidies.

Overarchingly, it is expected that the budget will address the need for a

balance between higher government spending on inclusive growth and

fiscal prudence. Reforms are expected to be central to achieving this

balance ,while managing domestic challenges such as inflation.


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Healthcare



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Expectations from the budget 2012 - Healthcare

Amit Mookim

Head

Healthcare

[email protected]

1. Press Articles Economic Times (4 September 2011) Healthcare firms such as Fortis Healthcare and Apollo Hospitals expect big growth in foreign patient

arrivals


arrivals

Introduction

The Indian healthcare sector has witnessed a significant growth in the past

few years in terms of size as well as research and development activities

(R&D). Industry reports suggest that about 150000 medical tourist visit

India every year and medical tourism in India is expected to bring revenue of

USD 2 billion by 2012.1 Areas like cardiology, cancer treatment and organ

transplants are the main drivers for growth in medical tourism in India. Also,

leading Indian healthcare firms are expecting an 80 percent increase in the

number of foreign patient arrivals this year2 There would, therefore , be an

urgent need to improve the quality of treatment. This would also incur theuse of new and advanced equipments which would require a large capital

outlay.

b. Direct Tax

With the Union Budget round the corner, there would be a lot of

suggestions from the industry, some of which are provided as under:

At present, 100 percent deduction is available for initial five years under

sub-section (11C) of section 80IB of the Income Tax Act to an

undertaking deriving profits from the business of operating and

maintaining a hospital located in rural areas or anywhere in India, except

excluded areas (certain urban areas). Accordingly, no deduction is

available to hospitals set-up in specified urban areas. Further, in view of

huge capital outlay for set-up, typically hospitals may take 4-5 years tobreakeven and hence, such hospitals would not be able to obtain the

benefit of tax holiday. To attract substantial investments in the

healthcare sector, the deduction should be extended to such excluded

areas as well. Also, the tax holiday period should be extended to 10

years or grant an option to the hospitals to select five consecutive years

from initial 10 years of commencement. In fact, hospital should be

granted infrastructure status.

To promote the development of rural and semi-urban areas and to have

better access to healthcare facilities, the Government should support

and encourage the private sector by sharing infrastructure; subsidy or tax

incentives (focused SEZs) and so on. Also, encourage private

investments in BIMARU (Bihar, Madhya Pradesh, Rajasthan and Uttar

Pradesh) states where the health infrastructure is abysmally low evencompared to the India average, in the form of 10-year tax holiday or free

land allocation.

Government must provide an impetus to innovation. Accordingly, in case

of companies engaged in Pharma R&D and Contract manufacturing, the

government should provide the benefits by way of deduction from

profits linked to investments. Further, benefits in the form of research

tax credits which can be used to offset future tax liability, similar to

those given in the developed world, should be introduced. The low cost

and high skill advantage makes India an attractive destination to

outsource R&D. The sector has been long demanding restoration of the

erstwhile 10 years tax holiday / deduction under Section 80-IB (8A) of

the Act.

Higher tax depreciation on plant and machinery used for hospital /

medical diagnostics would be a welcome initiative.


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Expectations from the budget 2012 - Healthcare


arrivals


arrivals

To promote the outsourcing of R&D activities to a company, the

weighted deduction on contributions made to an exclusive R&D

company should be increased from 125 percent to 175 percent of the

expenses incurred for scientific research.

Drug research is lengthy process and involves huge costs. It therefore

becomes important to allow weighted deduction to the entire

expenditure incurred by an approved R&D facility and not only to

expenditure approved by Department of Scientific and Industrial

Research (DSIR) as at present.

c. Conclusion

As the investment in R&D is one of the major concern alongwith the

infrastructure, it raises hopes of the healthcare sector getting the necessary

attention in this budget 2012. Further, the Budget should also look forward

for streamlining policies and tax holidays to boost healthcare facilities across

the country i.e. in tier 2 and tier 3 cities.


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IT - BPO



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1 http://articles.economictimes.indiatimes.com/2012-01-05/news/30593096_1_euro-zone-gartner-global-growth-forecast

2 NASSCOM Strategic Review 2011

3 http://www.thehansindia.info/News/Article.asp?category=1&subCategory=5&ContentId=10806

IT can be used as a

strategic lever to bolster

inclusive growth of the

country. Positive steps

taken by the government

can lay a foundation for

the next wave of growth.

Indias goal of becoming aglobal IT-BPO hub by 2020

can be given a positive

reinforcement if the

government takes

measures to create an

environment conducive of

maximum growth, which

are in-line with global

standards

Pradeep Udhas

Head

IT-BPOKPMG in India

Expectations from Budget 2012

Pradeep Udhas

Head

IT-BPO

[email protected]

The global IT spending is expected to grow at 3.7 percent in 2012 the

slowest pace in the last three years.1 In such a scenario, the export-driven

USD 88 billion Indian IT-BPO industry is exposed to considerable risk. Indias

IT-BPO exports are valued at USD 59.4 billion and account for nearly 67

percent of the total industry as of FY 2011.2 Indias over-dependence on the

US and Europe, which account for almost 90 percent of the IT-BPO exports,

is further compounding the risk.2 With organizations increasingly tightening

the belt, the industry is pinning its hopes on this years union budget.

Asking for a much needed push to propel the growth of the IT-BPO industry,

the sector is expecting reforms/changes in following areas:

Tax holiday

The tax benefits under the Software Technology Park of India (SPTI) STPIscheme, which expired in April 2011, hurt the margins of Small and Medium

Business (SMBs) significantly. The industry is expecting a revival of these

benefits under section 10A/B of the Income tax Act for STP/EOU units. ICT

Minister, Kapil Sibal, has also given positive hints by stating that the

government might extend the tax holiday under the SPTI scheme as it may

act as a catalyst for scale expansion.3

Focus on eGovernance initiatives

The government has repeatedly emphasised on its focus on long-term

growth and inclusive development and has highlighted that eGovernance

would play a pivotal role in this. In the recently published draft National IT

Policy-2011, the government stated that it is targeting overhauling service

delivery through effective eGovernance programmes. In order to do this, the

government must allocate reasonable budgets and provide some kind of

financial incentives for IT-BPO vendors who take up such projects.

Expectation Implications

Tax holi day for STPIs Positive for all; medium and small sized

software companies to benefit more than large

companies

Focus on eGovernance Positive for companies having a strong position

in the government vertical

Partial roll back of MAT Positive for all ;medium and small sized

software companies to benefit more than large

companies

Cla ri ty on DTC Positive for all software services and products

companies

Reducti on of corporate tax rate Positive for all software services and products

companies

Improvements in i ndirect tax ation Positive for software product companies


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Minimum Alternate Tax (MAT)

As per global standards, MAT is not more than one-third of Corporate Tax

[which effectively is nearly 32.5 percent (including education cess and

surcharge) in India] and therefore, it should be somewhere around 10-11

percent in India.4 However, the government announced a 50 basis points

increase in MAT to 18.5 percent and also brought Special Economic Zone

(SEZ) units/ developers under the purview of MAT in last years Union

Budget. The increase in MAT rate and the levy of MAT on SEZs has been

strongly opposed by the industry and SEZ developers. A number ofcompanies have stalled their projects and many of them are seeking more

time from the government to implement their projects. In this years budget,

the industry is expecting a roll-back of amendments made to the MAT policy

in 2011.

Clarity on Direct Tax Code (DTC)

The DTC is expected to miss the deadline of April 2012 again as the bill has

not yet been passed in the winter session of the parliament. As a result, the

industry is seeking clarifications on a number of aspects which may impact

their financials. For example, there is still ambiguity around the availability of

MAT credit under DTC (which currently can be carried forward and set off

within a period of 10 years), Advanced Pricing Agreements (APA) under

DTC, etc.

Reduction in corporate tax rates

An appeal was made by industry associations (CII, FICCI and ASSOCHAM)

in last years pre-budget meet to reduce the corporate tax rate from 30

percent to 25 percent; however, last years budget did not bring about any

change in this rate. This year, the industry is again expecting some relief in

the form of a lower corporate tax rate or abolition of surcharge and

education cess to keep the effective tax rate at 30 percent level instead of

the prevailing 32.5 percent.

Indirect taxes

In last years budget, some new services were added to the Service Tax

regime which led to an increase in output costs. In addition to this, the issue

of double taxation of licensed software and hardware (through VAT as wellas Service tax) continues to persist. Any amendment/reform providing some

relief to IT vendors in this space would be a welcome move. This would

bolster the hardware and software product market in India, which has not

grown to its full potential.

KPMG in India view

Amidst a challenging global business environment, there is a strong need for

the Indian government to provide some growth impetus to the Indian IT-

BPO sector. Indian IT-BPO industry is highly oligopolistic, with the top ten

players accounting for a significant portion of the industrys revenues. There

are a large number of IT-BPO SMBs in the country, many of which are still

struggling to find their footing. Imposing a financial burden on them will

greatly impede their growth in the medium to long term. In order to achieve

inclusive growth within the industry, government needs to put special focus

on SMBs through launch of various fiscal and monetary incentives.

4 http://economictimes.indiatimes.com/news/economy/policy/union-budget-2011-it-sector-unimpressed/articleshow/7594850.cms



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Incentives such as extension of STPI scheme, tax subsidies for SMBs, etc.

will help them to bloom and compete with giants of the industry.

The government and industry are undertaking measures to drive the next

wave of growth in the IT-BPO industry. The government recently announced

plans to launch a USD 1 billion5 innovation fund to create new products and

services, especially to serve the underprivileged. In a similar move, it also

plans to grant USD 1 billion6 to create next-generation supercomputers in

India. While the thrust of within the industry is to invest more n more in

R&D to create Intellectual Property (IP), any additional burden will just proveto be counter-productive.

The importance of the IT sector to the countrys economy can hardly be

over-emphasized. With a number of low-cost destinations such as the

Philippines, China, Indonesia, etc. coming up, it is increasingly becoming

difficult for Indian IT-BPO vendors to maintain their competitiveness in the

global markets. With the Indian IT-BPO sector competing with companies

from countries such as China, which have given outsourcing companies a

business tax exemption of 5 percent till the end of 2013,7 Indian vendors are

now looking forward to receiving some support from the government. What

now remains to be seen is whether the government will finally implement

tough but necessary economic measures to make the going easier for IT-

BPO firms, or fiscal pressures would continue to plague the IT-BPO industry.

5. http://www.indianexpress.com/news/1-bn-india-innovation-fund-by-july/900554/

6. http://indiatoday.intoday.in/story/supercomputers-government-largest-grant/1/170128.html

7. http://www.ibtimes.com/articles/42557/20100811/outsourcing-barack-obama-bpo-kpo-ito-nasscom-kpmg.htm



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Media andEntertainment



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The Indian Media & Entertainment Industry grew from INR 587 billion in

2009 to INR 652 billion in 2010, registering a growth of 11 percent. The

sector is projected to grow at a CAGR of 14 percent to reach INR 1,275

billion by 2015 on the back of positive industry sentiment and growing

media consumption1.

With a myriad of taxes in various forms and multifarious statutory

compliances, the Media and Entertainment (M&E) sector is keenly awaiting

the Union Budget 2012. The industry hopes for simplification of the onerous

tax laws and resolution of some of the long standing tax controversiesimpacting this sector.

Provided below are the key issues affecting the sector and the wish list

from the budget:

Carriage fees / Placement charges paid by Channel Companies

Television channel companies pay carriage fees / placement charges to

DTH, MSOs and various cable operators for scheduling the placement of

channels. The Channel companies have uniformly been deducting tax under

section 194C at the rate of 2 percent treating such payments as

consideration for work. The Tax Authorities have been contending that such

payments are liable for tax deduction at source (TDS) at 10 percent under

Section 194J of the IT Act on the ground that such payments are towards

technical services/ use of process, etc. and have launched survey

investigations on various channel companies towards the above.

A suitable clarification in the Budget on this matter to the effect that

withholding tax on the above should be at the rate of 2 percent and not at

the rate of 10 percent is much needed to put above controversy at rest.

Uplinking Charges paid by Channel Companies to Uplinking

Companies

Television channel companies pay charges to Uplinking companies towards

uplinking of their transmission to transponders. As in the case of carriage

fees, the channel companies deduct TDS under section 194C at the rate of

2 percent on such payments since these are nothing but towards availing of

a facility of uplinking of their contents from the earth station and hence are

in the nature of work. The Tax Authorities have been contending that

such payments are in the nature of fees for technical services or towards

use of process / equipment and hence are liable to withholding tax at the

rate of 10 percent. The Budget should provide for a specific clarification in

this regard.

Sale of satellite rights on cost basis for loss making films

Several film producers incur huge losses on theatrical distribution of the

films if the film does not pick up. The satellite rights of such films are

typically sold to television channel companies on cost or loss basis.

Presently, the payments made on sale of satellite rights are subject to TDS

under section 194J since they are treated as royalty for use of copyright.

Since the film industry operates on thin margins, such TDS on loss making

films could cause great hardship to the industry. The Budget should insert aspecific provision in the Income tax Act to the effect that the aforesaid

payments by Television channel companies should be exempted from TDS.

KPMG View Expectations from the Budget 2012

Jehil Thakkar

Head

Media and

Entertainment

[email protected]

1. FICCI-KPMG Indian Media and Entertainment Report 2011


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Discount by DTH operators to distributors on recharge voucher

The DTH operators typically sell recharge vouchers to subscribers through

third party distributors. The distributors buy out the recharge vouchers on a

principal to principal basis and then onward sell such vouchers to the

subscribers on their own behalf. The income-tax (I-T) department has

alleged that the mark-up applied by the distributors is nothing but the

commission charged by distributors who are essentially agents of the DTH

operators. The Department alleges that DTH operators have not deducted

TDS at the rate of 10 percent on such commissions2. Since the vouchers are

onward sold by distributors on a principal to principal basis, there is no

question of any commission to be paid to such distributors and no TDS

would need to be deducted. This could be clarified in the Budget by way of

a specific provision.

Rationalization of Tax Structure

The M&E sector is subject to a host of taxes / levies like service tax, license

fees, entertainment tax, State levies such as VAT, etc. apart from corporate

income-tax. To add to the above, there exists a disparity between taxes

imposed on companies falling under different segments in the M&E sector.

For instance, a broadcasting company is subject to taxes such as service

tax, VAT, etc. Whereas, print companies enjoy relief from service tax and are

also eligible for certain other waivers. A relook at the sector tax framework

bringing uniformity and rationalizing the multiple levies into a unified levywould ease the otherwise burdensome compliances and to a large extent

reduce the current litigation on various vexed issues.

Deductibility of expenditure incurred for acquiring telecasting rights in

films/ programmes

Whether the expenditure incurred by foreign broadcasting companies for

acquiring telecasting rights in films / programmes either on an outright basis

or on licence for specified period, should be allowed as a deduction in the

year in which rights are acquired or be deferred over the period of licence, or

be capitalized for claim of depreciation has been a matter of considerable

debate. A similar issue is upsetting the FM radio operators with regard to

license fees paid to the Government. Specific legislation clarifying that on

account of a small shelf life of T.V. programs, the entire expenditure shouldbe allowed as a deduction in the year of first telecast or at least allowed as a

deduction as per accounting norms rather than tax depreciation, is much

warranted.

Taxability of subscription revenues earned by foreign telecasting

companies

The foreign telecasting companies generally grant distribution rights for the

channels to an Indian company, which in turn transfers these distribution

rights to the MSOs, cable operators, etc. The payment for grant of

distribution rights is not for the copyright in the content and hence, is not in

the nature of royalty. The income from grant of distribution rights is in the

nature of business income. However, the divergent views taken by the Tax

Authorities in characterizing these receipts as royalty or business income

has led to protracted litigation. A clarification to the effect that the payments

do not qualify as Royalty is sought for in the Budget 2011.


2. http://www.livemint.com/2011/08/04221818/Tax-department-turns-its-eyes.html?atype=tp


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Dual taxation on transfer of Copyright

Post introduction of the service category of Copyright Service in the

Budget 2010 (which is made effective from 1 July 2010), service tax is

applicable on the temporary transfer or permitting the use of Copyright in

relation to the cinematographic films. Under the state specific Value Added

Tax (VAT) laws, transfer of right to use of the Copyright is already subject to

the VAT. Prior to introduction of Service tax (Copyright Services), the transfer

of copyright was subject to only VAT under the respective VAT law.

This dual taxation (i.e. Service tax and VAT) on transfer of Copyright inrelation to the cinematographic films is affecting the industry at large and

lack of clarity on the applicability of Service tax and VAT on same transaction

from the Government is fuelling speculations. It is envisaged that the clouds

of dual taxation would be cleared post implementation of the

comprehensive Goods and Service Tax (GST) by the Government.

In the meantime, the industry is left with levying both Service tax and VAT

on the transfer of Copyright in cinematographic films. Some industry players

have challenged the constitutional validity of levying Service tax under newly

introduced service category of Copyright Services, whereas some are

challenging applicability of VAT on the same.

In the past the M&E industry has been struggling with the regulators to get

concessions / benefits. With the upcoming Budget, the industry expects theGovernment to come out with some clarification and clear the ambiguity on

the above aspect. While the M&E sector has tremendous growth potential,

prudent fiscal legislation would only help to perform at its potential. The

Government would do well to introduce appropriate tax reforms to enable

the Indian M&E sector reach new heights and become truly global.


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Pharmaceuticals



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Introduction

The Indian Pharma industry is likely to lead the manufacturing sector of India

with Research and Development (R&D) playing an important role in the

growth of Pharma business. Considering the importance of R&D activities in

the progress of a country, the Prime Minister in a speech recently delivered

at the 99th Annual Session of the India Science Congress at Bhubaneshwar

highlighted his concerns on the declining position of India in the world of

science. He further mentioned that we must ensure a major increase in

investment in R&D.

In backdrop of the above, a lot is expected from the forthcoming budget by

the Industry. With the Union Budget 2012-13 to be announced shortly,

various forums / chambers as in the past representing the Pharma Industry

are expected to flood the Ministry with heap of suggestions to introduce

favourable tax proposals.

Direct Tax

Few of the direct tax changes expected by the Pharma Industry in

forthcoming Budget are as under:1

The existing provisions do not provide any benefit for units engaged in

contract R&D. The Government can play its role by providing benefits to

units engaged in contract R&D by way of deduction from profits linkedto investments.

Many Pharma companies are facing challenges in claiming weighted

deduction on the entire expenditure incurred in the approved R&D

facility vis--vis weighted deduction for approved expenditure only and

hence requires clarity from the Government. Further, it also needs to be

clarified as to whether expenditure incidental to research carried outside

the R&D facility in India or in any foreign country, falls within the ambit

of weighted deduction.

Currently, there is lack of clarity on whether deduction for R&D

expenditure is allowed to companies where a part / entire manufacturing

activity is outsourced to another company. The Government could make

a provision specifically for weighted deduction of R&D expenditure in

case of such companies.

Weighted deduction on sponsored scientific research undertaken

through approved Laboratory / University / Institutions was increased

from 125 percent to 175 percent by the Finance Act, 2010. However,

weighted deduction for similar sum paid to an approved company

continues to be at 125 percent. The Government in order to boost the

R&D activities could increase the percentage of weighted deduction on

contributions made to such companies to 175 percent.

Sales promotion which includes free samples to doctors and hospitals is

a major expenditure for the Pharma sector. In the absence of proper

documentation such as verification from doctors, it becomes difficult for

the companies to claim such expenditure. A specific clause could be

provided whereby companies are allowed a deduction of sales

promotion such as a percentage on sales basis, on the basis of a

certificate from a Chartered Accountant etc.

Expectations from the budget 2012: Pharmaceuticals

Rajesh Jain

Head

Markets

[email protected]

1 KPMG Analysis


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Expectations from the budget 2012: Pharmaceuticals

A major area of litigation for Pharma companies in the transfer pricing field is

the comparison of import price of researched APIs and the generic APIs. The

conflicting Tribunal judgments on the matter have increased uncertainty and

have resulted in increased litigation for many taxpayers. The introduction of

Advance Pricing Agreement mechanism would go a long way in reducing

litigation on this front in the pharma sector and assist in having fair certainty at

the time of entering into transaction itself.

Indirect Tax

From an Indirect tax perspective, following are the key expectations from the

budget:

The present inverted duty structure i.e. higher excise duty on inputs and lower

excise duty on finished goods has lead to accumulation of Cenvat Credit. It is

important that either the excise duty rate for inputs is reduced or as an

alternative Government should provide a refund mechanism for accumulated

credit to enable the Pharma companies to reduce the tax incidence.

In regard to physicians sample, the value on which excise duty shall be

applicable has been always a matter of controversy. Exemption from levy of

central excise duty should be considered for physician samples as in line with

exemption from levy of VAT. Excise duty on pharma products is generally

levied on the Maximum Retail Price (MRP) of the said products. Abatement

from the MRP is allowed for the purpose of calculating the assessable valuefor the levy of excise duty. Currently, the abatement allowed for pharma

products is 35 percent of the MRP, which is not sufficient enough to cover the

trade margins. Further, there are other industries that enjoy a higher

abatement percentage such as Paan Masala containing tobacco (55 percent),

and glazed and vitrified tiles (45 percent). It is therefore expected that the

abatement percentage for the purpose of levy of excise duty on MRP basis on

pharma products be increased from the current 35 percent, so as to enable

the pharma industry to at least cover the costs inherent to the industry.

In case of goods manufactured through a job worker, the Cenvat Credit on the

input services consumed is a cost to the brand owner even though the

services are utilized in relation to the business activity. In cases, where the

brand owner itself is the manufacturer the credit would have been availed and

utilized. The same should be followed in the case of a job work arrangementalso as it could be construed that the said services are in relation to the

business of the Company.

Further, the basic principle of Cenvat Credit scheme is to avoid cascading

effect of taxes, however the amendments made in the Cenvat Credit during

the last budget has created more confusion and restriction to availability of

credit. The intention of the eligibility of Cenvat Credit on all the activities

relating to business could be clarified and suitable amendments could be

made to the definition of input service to avoid litigation and narrow

interpretation of the definition.

Conclusion

The importance of R&D highlighted by the Prime Minister recently, the impetus

required for the R&D sector and considering the current economic scenario, it isexpected that the government will take initiatives in Budget 2012 and provide the

required boost to the Pharma Industry by making favourable tax amendments.


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Private Equity



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Expectations from the budget 2012

Vikram Utamsingh

Head

Private Equity

[email protected]

While the recent pro-

industry verdict in the

Vodafone case has been a

big positive for investors,

PE fund managers will

look forward to

rationalization of tax andregulatory policies to

provide the necessary

push for the industry

Vikram Utamsingh

Head

Private Equity

KPMG in India

1. Venture Intelligence, Data does not include Real Estate deals

2. EMPEA

3. The specified sectors are (i) nanotechnology, (ii) information technology relating to hardware and software development, (iii)

seed research and development, (iv) biotechnology, (v) research and development of new chemicals in pharmaceuticals, (vi)

production of bio-fuels, (vii) building and operating hotel/convention centers, (viii) certain sectors of infrastructure, and (ix) dairy

and poultry.

Background

The private equity (PE) industry plays a critical role in the creation and

nurturing of industries vital to the economic growth of India. Industry

estimates suggests that over 1,800 Indian companies have accessed

growth capital from VC/PE funds over the period 2004-2011 with

investments to the tune of USD 53 billion1 across diverse industries.

Moreover, nearly USD 22 billion in capital has been raised for PE

investments in India over the period January 2007-September 2011

accounting for nearly 11 percent of total PE fund raising for emerging

markets2.

An important requirement for an accelerated growth of the PE/VC industry is

a conducive tax and regulatory environment. The recent pro-industry verdict

in the Vodafone tax case is expected to be a major positive with respect to

foreign investments in India and increase confidence levels in the Indian law

enforcement agencies. However, there are a host of other taxation and legal

issues that continue to plague the industry and affect its development.

Moreover, in todays challenging environment, investors look upon a well

defined stable policy and tax regime as bedrock for investments. While the

India growth story continues to hold good over the long term, there have

been concerns on slow pace of bureaucracy affecting regulatory reforms

and slowing down investments.

Already, there are signs that other emerging economies of Asia andelsewhere are fast catching up in terms of competing with India to attract

PE investments by introducing new rules and regulations. For instance, in

China, the foreign-invested limited partnerships rules which came into effect

in March 2010, have encouraged the fast growth of the RMB Funds.

Singapore and Hong Kong have used the opportunity of a booming Asian

economy to position themselves as a financial hub with substantial reforms

in the recent past. Brazil too has substantially reformed its private funds

regime in the last few years. Hence, in a global context, it becomes

imperative for India to undertake reforms and frame tax and legal policies

that position it as a true investment destination.

In the current issue, we highlight some key areas with respect to the PE/VC

industry which industry participants will hope to be addressed in the

upcoming union budget. This would likely bring in clarity on a number of

ambiguous issues and lower the cost of compliance/litigation along withrationalization of tax structures which would help address investment-

distorting tax policies. Such changes are likely to benefit all stakeholders in

the industry and act as a key differentiator in terms of attracting PE players

to invest in India.

KPMGs Point of View Budget Recommendations

1. Tax Pass-Through for VC/PE Investments

Domestic fund managers often cite inconsistent tax pass through rules

as a source of confusion that clouds investment decisions. For instance,

under the extant tax regime in India, section 10 (23FB) of the Income

Tax Act 1961 (IT Act) provides tax exemption in respect of investment

income of a SEBI registered PE/VC fund from investments in 9 specified

sectors3.


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4. Section 115U

Such investment income is taxable only in the hands of beneficiaries of

VC funds at the time of actual distribution by the fund4. Gains from

disposal of investments in non-specified sectors are not covered under

this regime.

The current taxation regime is in stark contrast to the earlier regime

that existed prior to the Finance Act of 2007 where in exemption was

provided in respect of all income of a PE/VC fund from any investment

made in a venture capital undertaking (VCU) without any sectoral

restrictions. Further, such exemption was available in respect of anyincome of a VC fund including sundry income such as interest on bank

deposits, etc. and was not restricted to income from investments in

VCUs. Thus, the earlier regime provided a complete tax pass-through

for VC investments across all sectors and fostered the growth of

domestic PE/VC industry through clear, stable and single level tax

regime.

Suggestions

The policy rationale for such a change brought in under the Finance Act

of 2007 is unclear. Undoubtedly, the 9 identified sectors are critical to

the Indian economy and every effort to channelize capital thereto is

laudable. However, at the same time, significant capital is required in a

wide range of other sectors not falling under the specified sectors

under section 10 (23FB) of the IT Act.

In view of the above, it is recommended to remove the sectoral

restrictions encapsulated under section 10 (23FB) of the IT Act and

thereby extend the pass through status to income from VC/PE

investment across all sectors. Further, the exemption should be

extended to any income earned by a SEBI registered fund as opposed

to income from investments in VCUs. Preferably, the aforesaid

amendments should be made effective retrospectively from April 1,

2008 onwards to eliminate any uncertainty in the tax consequences in

the assessment years following the enactment of the Finance Act of

2007.

2. Administrative reforms in respect of claiming credit for taxespaid/deducted at source

In India, for a host of regulatory and legal reasons, most VC/PE funds

are typically constituted as trusts formed under the Indian Trusts Act,

1882. The trustee is regarded as the representative assessee with

respect to the income earned by the trust (VC/PE funds) for the benefit

of the beneficiaries (investors). The tax assessment can be framed

either in the hands of the trustee or the beneficiary in respect of the

income earned by the trust.

It is common for the trustee to pay the income-tax due on income

earned by the trust and taxable in its hands as a representative

assessee of the beneficiaries. The trustee could pay the advance

tax/self assessment tax either in its own name (using trusts

permanent account number (PAN)) or in the name of the beneficiaries

(using the PAN of each of the beneficiaries). In respect of the taxes

deducted at source (TDS) from income payable to the VC funds, thedeductor could report the tax deduction in the name of the trustee (i.e.

deductee) or alternatively, in the name of the beneficiaries (i.e. person

other than the deductee).


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However, there are practical difficulties with respect to claiming credit

for taxes paid/deducted at source. Typically, the tax authorities grant

credit in respect of advance tax, self assessment tax and TDS based on

details featuring in Form 26AS generated by income-tax authorities. In

several cases, to protect itself from future tax demands, the trustee

pays the advance tax/self assessment tax under the Trusts own PAN.

Therefore, the tax so paid would typically not feature in Form 26AS

generated for the individual beneficiaries.

Consequently, in beneficiaries individual tax assessments, it is notuncommon for Assessing Officer to deny tax credit in respect of

advance tax/self assessment tax paid by the trustee or TDS deducted

in trustees name leading to needless procedural delays and litigations.

Suggestions

Hence, in respect of any advance tax/ self assessment tax paid by the

trustee, a mechanism could be stipulated pursuant whereto the tax

gets reflected both against the PAN of the trustee as also the PAN of

the individual beneficiaries. This would safeguard the trustee from any

future tax demand and at the same time preclude any tax credit issues

at assessment stage, either in hands of trustee or the beneficiaries.

Similarly, a mechanism could be introduced whereby the trustee could

pass on TDS credit to individual beneficiaries through the issuance of

an appropriate form in addition to the mechanism currently

encapsulated in Rule 37BA of Income-tax Rules, 1962. In all cases, theadvance tax / self assessment tax and TDS ought to feature in Form

26AS generated for both the trustee and each of the beneficiaries.

3. Safe Harbour provisions for offshore funds managed from IndiaAnother point of consideration is to allow safe harbour provisions for

offshore funds managed from India. There are several countries such

as Singapore, which have special safe harbour provisions under their

tax laws to encourage domestic fund management industry. Under

such provisions, the offshore fund being managed by a local fund

manager does not create any taxable presence for the fund in that

jurisdiction so long as prescribed conditions are complied with.

Resultantly, there are no adverse tax consequences for the offshore

fund despite having a local fund manager.

However, under the extant tax regime in India read with the double tax

avoidance agreements entered into between India and various

countries, an offshore fund managed by a fund manager based in India

could potentially be regarded as having a taxable presence in India

through a permanent establishment owing to such fund being

managed from India. As a consequence, the income of such offshore

fund could potentially be subject to tax in India, which would adversely

impact the returns made by such offshore investors making such a

structure unworkable. Hence, fund managers do not want to operate

out of India.

SuggestionsIt is recommended that the provisions of the IT Act are amended to

provide for a safe harbour mechanism where under offshore funds,

which are managed from India by a domestic fund manager are

deemed not to have a taxable presence in India subject to fulfilment of

certain conditions. Such a forward looking regime will significantly

assist India in being perceived as an investor friendly jurisdiction and

foster the growth of the domestic fund management industry.


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4. Income characterization Capital gains v/s Business income

Another point that needs clarification is the characterization of

investment income of a PE/VC fund as business income or as capital

gains particularly as both are subjected to different taxation rates. The

IT Act does not lay down specific criteria for determining the

characterization of income and there are perennial disputes between

the revenue and tax payers on this aspect.

Suggestions

It is recommended that any income of a SEBI registered VC/PE fund

from sale of shares/securities should be in the nature of capital gains

and not business income owing to the fact that PE/VC are typically

long term investors with low frequency of trading. Moreover, PE/VC

funds are not permitted to make investments out of borrowed funds

and cannot undertake any activity other than investment activity. This

would simplify the system of taxation, bring certainty and eliminate

needless litigation on the income characterization issue.

In conclusion, these tax reforms will significantly support and

encourage this industry to grow. Indian businesses are benefitting from

a supply of mid term smart capital for their growth plans. Some

industry experts suggests that the private equity industry will grow to

about USD 25 billion in annual investments by 2020 which should besignificantly positive for Indian businesses.


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Real Estate andConstruction



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Overview of Recent Sectoral Developments

The Indian real estate is presently undergoing multiple headwinds, which

has considerably slowed activity in the sector. The sharp rise in property

prices, a series of monetary tightening measures by the RBI, and

developers insistence on keeping prices high have led to significant

slowdown in volumes across markets in the country.

Delays in government decisions and the impact of rising interest rates have

led to a fall in the investment/Gross Domestic Product (GDP) ratio and to a

large extent have contributed to the deceleration in construction GDPgrowth. Delay in policy reforms and lower-than-planned public spend on

infrastructure may further impede the infrastructure investments and

construction sector growth.

Also, availability of debt has become extremely difficult for the sector while

approval processes have become more stringent. To add to these woes,

higher commodity prices and acute labor shortage have dented profitability

and led to slower execution.1

The talks of double dip recession and unfolding economic crisis in many

European economies coupled with considerable governance related issues

at government level has shaken the confidence of international investors.

The barometer of this confidence can only be gauged by the amount of Real

Estate FDI (Foreign Direct Investment) that has entered into the country inlast 12-18 months.

Apart from FDI, access to funds from domestic banks has been few and

selected. This has led many developers to borrow finances at unreasonable

rates to be able to remain in the business and complete their ongoing

projects.

As a policy initiative, the Government of India, Ministry of Housing and

Urban Poverty Alleviation, on 11 November 2011 has published the Draft

Real Estate (Regulation and Development) Bill, 2011 for comments from

stakeholders and may subsequently introduce it in the forthcoming winter

session of Parliament. Aimed at protecting customers from fly-by-night

developers, the draft Bill will seek to bring more transparency in the realty

sector. The Draft Real Estate (Regulation & Development) Bill, 2011 seeksto establish a regulatory oversight mechanism to enforce disclosure, fair

practice and accountability norms in the real estate sector, and to provide

adjudication machinery for speedy dispute redressal.

Challenges & Outlook

Complex regulations, regressive taxation and lack of appropriate financing

structures

Real estate

Estimates reveal that real estate developers are required to pass the

approvals through 150 tables in about 40 departments of central and

state governments and municipal corporations. Delays in project

approvals almost add 25-30 percent to the project cost. The biggest

handicap in approval process is lack of coordination among the multiple

authorities dealing with various permissions/approvals


Sachin Menon

Partner

Real Estate and

Construction

[email protected]

Real estate and

construction sector should

be given an Industry status

and other consequential

benefits that are available

to other similar industries

Sachin Menon

Partner

Real Estate and

Construction

KPMG in India

1. IDFC Real Estate Report , 20 October 2011


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The taxability of real estate transactions has also been a subject matter

of intense dispute and litigation as the Central Government of India,

individual State Governments and local authorities are empowered to

impose various indirect taxes. The industry is waiting with a bated breath

for these controversies to be resolved as a uniform tax regime or

rationalized tax structures will go far in ensuring affordable real estate

development

The Reserve Bank of India has increased provisioning for lending to the

sector, which has adversely affected the availability of funds forconstruction. Also, REITs and REMFs which can be excellent funding

opportunities for development have failed to gain momentum due to

certain practical impediments as well as lack of clarity on taxation and

additional transaction cost such as stamp duty

Expected outlook

The real estate sector in India today is witness to a wide spectrum of

changes that slowly but surely is expected to make the country into a

preferred real estate destination. Factors such as proper urban infrastructure

and attractive skyline are likely to attract new investors, industries and

business houses in the state. The real estate market is on a growth

trajectory; however, the sector has been undergoing a number of challenges

related to Government Policies, Archaic Laws and Regulations, transparencyand efficiency in Government machinery.

A strong regulatory and effective policy framework like introducing uniform

tax regime, rationalizing stamp duty across states through uniform stamp

duty policy, formulization of effective single window clearance mechanism

of approvals, avoiding multiple levy of indirect taxes, etc., should be in place,

which could act as a catalyst in fuelling the growth of the sector in the

country.

Construction

Based on the revised projections of Mid-term Review (MTR) of the XI-

Plan, lower government infrastructure spending as compared to XI-Plan

estimates is the key reason for the shortfall in infrastructure investments

as a percentage of the GDP, even as private investment has been aboveestimates. Further, with interest rates close to peak levels, the growth in

investments is likely to be impacted, especially in the private sector.

Without a commensurate increase in public spending, there is unlikely to

be acceleration in infrastructure investment in the next few years

Growth in the construction industry has been impacted by policy inertia

in some key ministries, leading to deferment of capex rollouts. Some

key issues that impact major infrastructure sub-segments are:

Stricter norms for environment clearances for projects; delays in

clearances.

Increase in land prices and delays in land acquisitions

Differences between ministries, leading to delay in approvals

Personnel issueschanges in ministers and key personnel



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The government is significantly behind the XI-Plan targets. Without

appropriate changes in policies to address the above-mentioned

impediments, the growth in key industries may continue to be hampered,

affecting the growth of the construction sector.

Construction projects have invariably faced delays in the past on accountof problems over land acquisition, legal issues and regulatory

bottlenecks. In several projects, these issues have led to significant

delays in project execution, rendering them unviable

Construction companies require regular funding to meet their workingcapital and capital expenditure requirements. They also require funding

to meet their equity commitments in BOT and real estate projects. The

working capital intensity for the sector has increased in the recent past

due to longer execution cycles on account of issues in land acquisition

and lengthy approval process; delay in payments from clients; blockage

of funds in the form of retention money and margin money required for

availing the non-fund based limits (bank/performance guarantees).

Further, debt funding for the sector is largely confined to banks (45-50

percent), which are constrained by sectoral caps and exposure norms,

beside asset-liability mismatches.

Expected outlook

The construction sector has witnessed robust growth during the last few

quarters, benefiting from increased spending on transportation, power, and

urban infrastructure, besides from an increase in the award of build-operate-

transfer (BOT) contracts. The PPP model has gained prominence as the

GoIs preferred means to undertake infrastructure development. The GoIs

focus on private participation in infrastructure development is expected to

lead to a significant increase in the share of PPP projects in the total

investment outlay.

The extent to which infrastructure investments is stepped up along with

revival of industrial capex and real estate development activity would be the

key growth drivers for the construction sector. Amidst the potential

opportunities, execution risks for the sector are increasing given the land

acquisition problems, lengthy approval processes and shortage of

manpower and resources. Further, the sector continues to face challenges

from adverse political and structural changes, cost overruns and difficultiesin securing the necessary funding. Moreover, diversification into BOT

projects/real estate development is expected to involve additional risks for

the construction companies. On the whole, as the Indian construction sector

embarks on expanding opportunities, there is a pressing need to review and

enhance project execution capabilities to realize the envisaged benefits and

growth.

Policy & Regulatory Imperatives

FDI / exchange control Policy

The Foreign Direct Investment Policy with regard to investment in thereal estate sector has been amended on reactive basis and some of the

changes are adversely impacting the development of the sector. In fact,

some of the changes have increased confusion and uncertainty for theinvestors. These changes have resulted in loss of confidence of the

foreign investors especially real estate funds investing in the global

markets. The Government should come out with detailed guidelines that



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will facilitate foreign investment and also addresses practical issues that

the sector is currently facing such as lock-in period for original

investment, meaning of real estate and development, minimum are

requirement, meaning of green field projects, exit of investment in

specified circumstances, investments under Joint Development

Arrangement, etc.

Real estate and construction sector should be given the status of

Industry and other consequential benefits that are available to other

similar industries should also be extended to the real estate andconstruction sector namely, easy lending, availment of ECBs,

exemptions and concessions in taxes and duties, etc. Alternatively,

some of large real estate development projects such as Industrial Parks,

SEZs, Townships, Mass Housing Projects, Affordable Housing Projects

and Projects under JNNRUM Scheme should be classified as industrial

projects and aforementioned benefits be extended to such projects

Typically, the Reserve Bank of India (RBI)s perceives Compulsorily

Convertible Debentures (CCD) and Compulsorily Convertible

Preference Shares (CCPS) with in-built options as debt. Suitable

clarifications be issued with respect to CCDs and CCPS given the

perception of the RBI that such an instrument, with a built-in option,

qualify as debt and not FDI

Downstream investment by Limited Liability Partnership (LLP) having

FDI should be permitted. Further, FDI in LLPs engaged in the real estate

sector should be permitted

Banks and NBFCs should be allowed to raise fund from overseas

lenders under the External Commercial Borrowing (ECB) route for

onward lending to real estate companies in the affordance housing

segment. This would result in ease of fund raising and access to

cheaper funds for the affordable housing sector

Industrial Park policy and related tax benefits

New Industrial Park Scheme, 2008 was notified by the CentralGovernment on 8 January 2008, for parks that began to develop,

develop and operate or maintain and operate between the period of 1April 2006 to 31 March 2009. (During the interim period, there was no

notification as the IPS 2002 came to an end on 31 March 2006 and the

IPS 2008 was only notified on January 8 2008). Applications were made

in the intervening period April 2006 till the introduction of Industrial Park

Scheme 2008, are pending approval. We recommend that all pending

applications applied under the original Industrial Parks Scheme of 2002

should be cleared both under the Automatic and Non Automatic Route

One of the criteria to claim the benefits under the Industrial ParkScheme, 2008 is that the number of units in the Industrial park should

not be less than 30. Since large areas are occupied by the individual

industrial companies, there should not be any restriction on the number

of units



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The Scheme provides a benefit to any undertaking which develops,

develops and operates or maintains and operates an Industrial park

which is notified upto 31 March 2011. Companies in service sector need

to be given incentives in view of the employment generation ability of

this sector. As rental costs form part a significant expenditure of IT/ BPO

business - Urgent need to give incentives in view of competition from

global peers. Based on the above, we recommend extension in time

limit for notification upto 31 March 2015

Currently the tax benefits are available to the tax payers only aftercompletion of the projects. However, the developers start earning

income from the projects even the projects are part complete and a

portion on the project are being let out. These benefit u/s 80IA should be

allowed on part completion of project also

Special Economic Zone Policy

Processes and procedures for approvals, reporting, etc to operationalizethe policy should be more user friendly

In an SEZ, normally the contractor sub-contracts the entire or part of thework to sub-contractors. The services provided by sub-contractors to

SEZ unit or developer are not eligible for exemption from Service tax,

thus resulting in increased project costs. We recommend that all

services provided and consumed in the SEZ area to a unit or developer,whether provided by the main contractor or sub-contractor, should be

exempted from levy of service tax

Absence of provision for issuance of Form I by the main contractor sothat subcontractors can also claim CST exemption, results in additional

tax costs. We recommend incorporating a provision for issuance of Form

I by the main contractor so that sub-contractors can also claim such CST

exemption

Single Window Clearance Mechanism

It is imperative to have a single-window of clearances and a high-levelbody for coordination between different central and state level agencies

to expedite the process and award projects at a faster pace. This system

is likely to result in approximately 10-25 percent reduction in cost

Transparency, which is one of the main components of the real estateecosystem, should be maintained between the Government

department, Developers and Buyers

Further, a dispute redressal system also needs to be put in place tosettle disputes between various stakeholders in the infrastructure

developments

Tax related issues on Joint Development Agreements (JDA)

Currently, there exist no provisions to specifically govern the taxation(both direct and indirect) of JDAs. Varied tax positions are taken by

Revenue Authorities in respect of JDA in the hands of both the parties

concerned (i.e. Developer and Land Owner). Most of the times, the

uncertainty in tax position and also multiple levy of taxes result in anincrease in the price of the residential unit for the ultimate house buyer.

It is recommended that suitable instructions/guidelines or rules paper be

issued on the tax treatment of JDAs after obtaining the comments from

the stakeholders, amendments to respective laws be carried out



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Significant uncertainty in JDAs on the point of accrual of capital gains. Inorder to bring in certainty to real estate taxpayers, suitable clarification to

be brought to the effect that first sale registration of the proposed

development to be treated as the point of accrual of the capital gain as

that will establish willingness of the transferee to perform his obligations

as envisaged under section 53A of the Transfer of Property Act

Levy of Service tax under JDA, on built-up portion provided by developerto land owner results in increase in construction cost. Under a JDA, no

service is provided by developer to the land owner. It is a mutualexercise of development of land. There is no service provider- service

recipient relationship between the developer and land owner. Further,

there is no monetary consideration under the JDA. Accordingly, it is

recommended that no Service tax should be applicable under a JDA

Housing projects

Cut-off date for qualifying for tax holiday benefi

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