The road ahead

India has one of the largest road networks in the world, with a total length of 35 lakh km. However, there is a shortage of good quality roads in the country and to improve the road infrastructure there has been a significant push by the government.

The National Highways Authority of India (NHAI), a nodal agency of the Government of India, has propelled the growth of road sector in India, which is aided by a host of private investments from within and outside the country.

The government is contemplating large-scale programmes and investor-friendly policies to be implemented in order to increase investor interest. One of the most critical changes is the relaxation of the equity lock-in clause to facilitate the recycling of equity for developing multiple projects in the future. There have been other positive measures such as increase in conflict of interest limit from 5% to 25% and a reduction in minimum technical score (now equivalent to project cost) required by applicants to qualify for projects.

In view of the increasing participation from foreign investors in road projects and upcoming public-private partnerships, following measures can act as key enablers for sustained growth of the road sector:
 
Limited Liability Partnerships (LLPs)
Currently, the tax holiday is granted to ‘companies’ which are engaged in the development of infrastructure projects.  The government should also extend this tax break to the newly introduced ‘Limited Liability Partnership’ form of business setup. Such an incentive combined with the existing favourable tax regime applicable to LLP would have a multiplier effect on the viability of the road projects.

Obviously, the government would also have to make corresponding amendments in model concession agreements to allow LLPs as permitted entities for undertaking the road projects.
 
Dividend distribution tax (DDT)
Under existing provisions of the domestic tax laws, a holding company will not have to pay DDT on dividends paid to its shareholders to the extent it received dividends from its subsidiary company (subsidiary would mean more than half of the nominal capital held) on which DDT has been paid.

However, such benefit is available only up to one level. In case of road projects, there is statutory requirement to house each project in separate entity ie, a special purpose vehicle (SPV). In such scenario, the infrastructure companies form a holding company under which all the SPVs are housed.

Given the regulatory requirement, the benefit provided to avoid the cascading impact of DDT should be extended even if there are multiple layers.
 
The indirect tax cost
Development of roads/ highways attracts input indirect tax (ie VAT, service tax, etc) liabilities; whereas there is no output indirect tax liability. This results into additional costs for the developer. In order to make such large investments viable and attractive, the government should either zero the rate of tax on input goods and services used during investment phase, or allow such taxes to be accumulated and allowed to be set off against output tax liability of the investor, as is allowed to exporters.

Given the state of fiscal deficit (of 6.8%), it is evident that private sector participation would be a key growth driver for achieving the ambitious target of constructing 20 km per day. Thus, in order to attract private sector participation, it is essential that the government comes up with clarity on the tax concerns faced by the investors/ developers and provide the much necessary boost to the critical sector for development of Indian infrastructure.

— Samir Kanabar, Partner, Ernst & Young