India's outsourcers face higher taxation

BANGALORE, India -- Export revenue of a large number of Indian outsourcing companies will be taxed, according to new provisions in the country's federal budget. The tax could be the first of several measures by the government to reduce tax benefits for the country's outsourcing industry.

Prices that outsourcers charge their customers are unlikely to go up as a result, but profit margins will be affected, said N. Ramachandran, chief financial officer at outsourcer iGATE Global Solutions Ltd.

In his budget speech before India's Parliament Wednesday, Indian Finance Minister P. Chidambaram announced the decision to extend a minimum alternate tax (MAT) to income that is currently covered under tax exemptions.

There are other tax issues looming for the Indian outsourcing industry, consisting of software services, business process outsourcing (BPO) and call center companies. A large number of the operations of these companies were set up under an export-promotion scheme called the Software Technology Parks of India (STPI), which entitled them to tax breaks under the Indian Income Tax Act.

However, the STPI scheme ends next year. Although the industry and the National Association of Software and Service Companies have asked for an extension of the scheme for another 10 years, the finance minister made no reference to this request in his budget speech.

The imposition of MAT is disappointing, as is also the absence of any announcement on the continuation of tax benefits beyond next year, said Ananda Mukerji, managing director and CEO of Firstsource Solutions Ltd., a BPO company in Mumbai. If the STPI scheme is not renewed, outsourcing companies will have to locate themselves in special economic zones for tax benefits. Under the STPI plan, they could locate their facilities where it is most viable for them in terms of cost and availability of staff, Ramachandran said.

A small group of executives in India's outsourcing industry, including N. R. Narayana Murthy, chairman of Infosys Technologies Ltd., believes that the outsourcing industry is now large enough to pay taxes at levels similar to other industries in India.

The finance minister has also brought employee stock options under a fringe benefit tax. This move will make current stock options expensive and make it difficult for the IT industry that uses options as a major tool to attract talent, said Deepak Ghaisas, CEO of India operations of i-Flex Solutions Ltd., a financial software company that is majority owned by Oracle Corp.

Overall, India's gross domestic product is forecast to grow by 9.2% in the year that ends March 31, with 11.3% growth in the manufacturing sector and 11.2% growth in the services sector.

Copyright © 2007 IDG Communications, Inc.

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