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Mixed Blessings

By Sumant Banerji     August 27, 2016

While presenting Union Budget 2016/17, Finance Minister Arun Jaitley had a surprise for the automobile industry - an infrastructure cess of 1-4 per cent on cars. He also imposed 1 per cent tax on cars costing more than Rs 10 lakh. Car makers were dismayed.

Not for long. This month, Parliament passed the Goods and Services Tax Amendment Bill, clearing the way for replacement of the host of taxes that Indian companies pay at present with GST. This will simplify the country's tax structure and make life easier for tax payers. However, automobile makers are anticipating something more - a GST rate of 18-20 per cent, much lower than the 28-49 per cent cumulative taxes that they pay at present. This will reduce their tax burden and, if they pass on the savings to buyers, lower prices too. Every segment will gain, though sedans and sports utility vehicles, or SUVs, taxed at much higher rates than the others, may see sharper cuts (see Advantage Consumer).

Car makers are happy. But jittery too - they fear potential buyers will delay purchases in expectation of price cuts when the GST comes into force next year. This could impact sales in the short term.

Tax Maze

The biggest tax for car makers is excise duty of 12.5-30 per cent; the collections go to the central exchequer. Plus, there is 12-14.5 per cent value added tax, or VAT, whose proceeds go to the state government. With cesses, the total tax on a small car is around 28 per cent. For a mid-sized sedan such as Honda City, it is 44 per cent. For an executive sedan such as Toyota Corolla, it is 46 per cent, while for a burly SUV such as Mitsubishi Pajero, it is 48 per cent.

"India has one of the highest tax rates on automobiles," says Sumeet Sawhney, Managing Director and Chief Executive Officer, Renault India. "If the country's economy has to grow, the automotive sector has to play an important role, as it contributes 7.1 per cent to gross domestic product (GDP), 45 per cent to manufacturing GDP and over 23 per cent to industrial GDP. The (GST) rate should allow the industry to increase its consumer base."

Setting the Rate

While the Centre and states debate over the rate(s), Chief Economic Advisor Arvind Subramanian had, last December, suggested three tax slabs -12-14 per cent merit rate for essential goods and services, 17-18 per cent standard rate for most goods and 40 per cent demerit rate for luxury cars, aerated drinks and tobacco products. The Congress is demanding a cap of 18 per cent on the standard rate. "There has been a broad consensus among opposition parties that the standard rate of 18 per cent would be appropriate. It would be non-inflationary, it would be something that could be sold to the people of India and it would be something that would not lead to tax evasion," senior Congress leader P. Chidambaram told reporters before the Rajya Sabha took up the GST Bill on August 3. The government has not committed to a specific figure. But just after the GST Amendment Bill was passed, there were murmurings that the standard rate could be more than 18 per cent.

Though it is unlikely that the automobile industry will be put in the merit rate category, even Subramanian-recommended standard rate of 17-19 per cent, or even 20 per cent, will bring it huge savings.

"In passenger vehicles, the mid-segment (engine size 1,200-1,500 cc) will be the biggest beneficiary with estimated duty cut of nearly 20 per cent," says Prasad Koparkar, Senior Director, Crisil Research. "Small cars could see a price cut of 10 per cent, while prices of luxury cars and utility vehicles would come down by nearly 5 per cent. Given the intense competitive scenario where players struggle to maintain market share and strong financials of the companies, we expect players to pass on the benefit to consumers," he says.

For small cars with lowest excise duty rates, the reduction in prices could be Rs 25,000-80,000. For sedans such as Honda City and Maruti Ciaz and mid-sized SUVs like Scorpio and Duster, it could be Rs 1.2-4 lakh. The high-end sedans and luxury cars will become more affordable. "We anticipate that consumers will shift towards premium hatchbacks due to shrinking of the gap between prices of small and mid-size cars," says Koparkar.

Too Good to be True?

Given the government's knack for surprising the industry with higher taxes, and its penchant for making the tax structure for cars more and more complex, not everybody is convinced that the story will play itself out as anticipated. While it sought to encourage production of small cars by lowering excise duty rates, it imposed huge taxes on SUVs and big sedans, considered luxury as well as gas guzzlers. A standard GST rate will simplify this mess. But some in the industry feel that all this is too good to be true.

"A lot of work has to be done before GST becomes reality. We do not know the rates or how the different segments will be classified," says Jnaneswar Sen, Senior Vice President, Honda Cars India. For instance, a car like Honda City may be put in the luxury category and taxed at 40 per cent.

There are also apprehensions that a tax cut will be followed by an increase in one-time levies such as road tax and registration tax that will not be subsumed in GST. Many state governments have in the past increased road tax while cutting excise duties. "State governments are wary they may lose out on revenue. So, who knows what they will come up with when they realise that prices will fall," says an executive of a top car company. "We are used to being surprised and are expecting a lot of caveats and riders for the industry. The courts may step in or state governments may have different ideas," he says.

Consumer Choice

Anshuman Parua, a Bangalore-based IT engineer, has been looking to buy a hatchback for the past two months. After test-driving half-a-dozen cars, he zeroed in on Honda Brio. But just as he was about to pay advance to the dealer, the GST Constitution Amendment Bill was passed. He hit the pause button.

"I don't know by how much prices will fall. Nobody knows. But it may be foolish to not wait," he says. "The price cut may be Rs 30,000, which will mean little. But what if it is Rs 50,000? It will also have a bearing on the resale value. It may be prudent to wait till April," he says.

For companies, the prospect of people delaying purchases is real, though for now most do not want to get into this discussion saying things are not clear yet. They are hoping that consumers will not wait that long. "It will be a risk to wait for that long. For all we know, prices may go up too," says Maruti Suzuki India Chairman R.C. Bhargava.

The industry is hoping that the exact rates will be revealed closer to the GST implementation date. "At the end of the day, the government is looking at revenues, and so we do not know by how much it will reduce the rates. I don't think it will do something so drastic that people get a very big benefit," says Sawhney of Renault India. "These decisions are taken much closer to the implementation date. It should be done in such a way that it does not impact the industry and there is no demand hold-up or anticipatory slowdown," he says.

With the festive season coming up, there would be some anxious moments at car dealerships, but should the GST deliver what it promises, the companies may not mind a few bad months.


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