Corporate tax reduction is credit positive for companies, but raises government’s fiscal risks, said Moody’s Investors Service.
The rating agency doesn’t expect the tax rate cut to revive growth such that stronger tax buoyancy compensates for the loss in revenue.
Finance Minister Nirmala Sitharaman on Friday announced a reduction in the base corporate tax rate to 22% from 30% as part of stimulus measures to reverse slowing economic growth.
“The move is credit-positive for companies because it will enable them to generate higher post-tax incomes. However, it is credit negative for the sovereign, as it aggravates mounting risks for the government in meeting its fiscal deficit target,” said Moody’s in a statement.
Commodity, IT to benefit
Among Moody’s rated non-financial companies in India, commodity and information technology (IT) services companies will benefit most from the tax rate cut.
However, the degree of strengthening in corporate credit profiles will depend on whether companies reinvest surplus earnings into their businesses, or use them to reduce debt or boost shareholder returns.
In aggregate, rated non-financial companies in Indiareported a total pre-tax net income of about $35 billion for the fiscal year ended March 2019 . Assuming the earnings of these firms remain unchanged for FY20, they will save about $3 billion from the tax rate cut Moody’s said. The Union government’s fiscal deficit target of 3.3% of GDP in fiscal 2020 already assumes faster economic growth and higher tax buoyancy than Moody’s expectations.
The FY20 Budget projected a total corporate tax revenue of ₹7.7 trillion ($ 108.5 billion or about 4% of GDP) and the Finance Minister estimated the decrease in the corporate tax rate to reduce revenue by about ₹1.5 trillion during the current fiscal.
RBI surplus transfer
As such, the reduction in corporate income tax revenue — even when balanced against the windfall from the recent transfer of the Reserve Bank of India surplus reserves, equivalent to about 0.3% of GDP during the current fiscal year — further narrows fiscal room for manoeuvre.
This assumes that the government does not cut expenditure to offset the revenue loss.
While the reduction brings India’s corporate tax rate closer to peers throughout Asia and will support the business environment and competitiveness, a host of cyclical factors, including rural financial stress, weak corporate sentiment and a slow flow of credit in the financial sector, remain headwinds to near-term growth.
“We do not expect the corporate tax rate cut to revive growth such that stronger tax buoyancy compensates for the loss in revenue,” said the Moody’s statement.
