SEZ La Guerre?

By Lola  Nayar, published on outlook, 2nd August 2010

There seems to be no end to the twists and turns in India’s SEZ story. Over the past four years, these exclusive export enclaves have battled political protests, local opposition, compensation formulas, credit crunches, and even referendums. While many special economic zones are indeed up and running (111 at last count, predominantly in the IT sector), a new trend has come to light in the last six months: over a dozen SEZs have actually got themselves denotified in this period. There is a clear waning of interest with a steady stream of project developers—including biggies like Essar Steel—seeking and getting denotified of the SEZ status.

The numbers of those opting out may be small compared to the 574 SEZs that have received formal approvals from the commerce ministry, but it’s a clear indication of things to come. Simultaneously, the spate of fresh applications from developers seeking approval or notification (after having completed required infrastructure) has come down significantly, down to three to four a month from over 10 till October last year.

This dismal scene is in sharp contrast to the situation just three years back when over 70 new SEZ proposals had been given approval within a year of the SEZ Act being operationalised in 2006. The lure, of course, was the promise of 15-year tax concessions (in stages) on profits earned, something the finance ministry has always been unhappy with. Last month, in its revised draft of the Direct Tax Code (to be placed in Parliament during the monsoon session starting August), the finance ministry tweaked the tax concession calculation for all SEZs. Units set up after March 31, 2011, would not get profit-based exemptions—which, according to the finance ministry, leave the field open for manipulation and rent-seeking by SEZ developers.

With the March-end deadline not too far away, those still in the process of settling land issues or midway through infrastructure development have turned uncertain. “Each of my clients is jittery as a majority of them have not been able to develop the entire facility to the optimum,” states Tapan Sangal, associate director, PricewaterhouseCoopers, which is advising over 100 SEZ clients.

Underlying the need for consistent long-term policy—particularly for capital-intensive infrastructure projects like SEZs—and not a “goalpost change just three years into the scheme”, consultants allege that many of the prospective and current investors have developed cold feet, especially with a low global demand scenario. Biswaroop Todi, SEZ consultant and partner of Calcutta-based chartered accountants BT Associates, fears that “if the DTC is implemented in its present form, I expect 90 per cent of SEZ developers may not push ahead.”

One may well argue that the finance ministry is playing spoilsport considering that Rs 1,48,489 crore has so far been invested in SEZs and 5,03,611 jobs have been generated. Conversely, finance ministry sources point out that revenue foregone from SEZs has risen sharply from Rs 2,324 crore in 2008-09 to Rs 3,204 crore in 2009-10. “When the tax returns come in September, the numbers will go up even more sharply,” a senior ministry official states.

What is upsetting the finance ministry is the curious anomaly in the trade data—while national exports fell in 2009-10 by almost five per cent to $176.5 billion, trade from SEZs recorded a 123 per cent jump to $49 billion from $22 billion in the previous year. Naturally, the question being asked is how SEZs were able to chalk such a high growth when non-SEZ exports were struggling to find markets and ended up with a 22 per cent drop (if SEZ exports are excluded)?

These fears seem real when exporters like O.P. Garg, chairman of the Carpet Export Promotion Council, allege that “SEZs have become real estate business.” Having been roped in by the previous Uttar Pradesh government to explore the setting up of a carpet SEZ, which along with three other projects has since been dropped, Garg stresses, “The SEZs have brought no real benefit to exporters,” particularly as they have bypassed the labour-intensive handloom and handicrafts industry.

Federation of Indian Export Organisations (FIEO) director general Ajay Sahai too is of the view that in the absence of duty drawbacks (reimbursement of duty paid for raw materials) and other domestic tax benefits, and with the change in the DTC policy now, SEZs may not hold much promise to lure exporters. Which is why many, like dlf and Essar Steel, are now looking at denotification as an opportunity to tap the lucrative domestic market.

Striving for a course correction with the finance ministry, commerce secretary Rahul Khullar concurs, “Many who have got approval or notification may prefer to see the final contours of the DTC before they make irreversible financial commitments.” In fact, an internal study by the commerce ministry estimates that less than 115 more SEZs will become operational by April 1, 2011, in time to avail of the present concessions.

Mindful of the tax policy changes in the works, the political machinery in some states is striving to make SEZs more alluring. Maharashtra, for instance, is working post-haste on a legislation granting more autonomy to SEZs to ensure that the majority of its over 200 SEZ proposals become a reality. The state government is of the view that it “may suffer from tax revenues loss in the future but something had to be offered to attract developers.” Anti-SEZ activists estimate that the state exchequer stands to lose around Rs 1,75,000 crore over the next decade.

The finance ministry is strongly of the view that SEZs are not creating better opportunities in areas where no investments happen otherwise. So, as of now, it is not willing to pander to rent-seekers and provide concessions to help companies divert profits. If the ministry sticks to its stand, it may actually bring some sense into the SEZ saga.


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