No near-term benefit of tax rate cut for tech firms; BSE IT falls 3%

Even as the broader market sentiment was teeming with positivity and most sectoral indices were trading with strong gains, the BSE IT index cracked 3 percent on September 23.

Around 1240 hours, the BSE IT index was 465 points, or 3 percent, down at 15,114, with Infosys, TCS, Wipro, HCL Technologies and Tech Mahindra in the red. Of the constituent stocks, 22 were in the red, while 29 were trading in the green.

Brokerage Kotak Securities has a cautious view on the IT sector as it believes that there is no material near-term benefit from the tax rate cut.

"Benefit in FY20 will be modest to negligible since many avail tax exemption on SEZ profits in India. However, the benefit will be material in the medium term once the SEZ benefit fades away," said the brokerage.

"The companies that could potentially benefit in the near term are Infosys and Wipro, while the tax rate will remain largely unchanged for TCS and Mindtree," the brokerage added.

The government has cut the effective tax rate for domestic companies to 25.6 percent from 34.9 percent earlier. Those companies which avail the lower tax rate will not be able to avail any tax exemptions.

However, companies currently availing exemptions can opt to pay the new (lower) tax rates once the exemption period is over.

MAT for companies availing exemptions has been reduced to 15 percent from 18.5 percent. Effective MAT rate (after surcharges) has been cut to 17.5 percent from 21.5 percent.

IT service companies enjoy tax exemptions under Section 10AA of the Income Tax Act for revenues from special economic zones (SEZs). The tax exemption amount varies from 100 percent of profits for the first five years of operations to 50 percent of the profits for the next five and 50 percent for another five years depending on investment of tax benefits back into the business.

"Deriving full benefit from the third block of five years is challenging noting limited opportunities for reinvestment in the same SEZ; after all the reinvestment is largely in computing assets that do not cost a lot relative to profits generated from the SEZs," the brokerage said.

"Companies have to decide whether taxes paid in India are less than or more than the revised effective tax rate, if it is the latter they may forgo the current SEZ exemptions and transition to new (lower) corporate tax rate in India," the brokerage added.