Markets normally have a lot of expectations from the Union Budget 2016. To begin with there is an expectation that the budget will continue the reforms process. That is critical for equity as an asset class. Investors also look at specific issues like FII inflows as it is a critical determinant. Hence any measure in the budget that encourages FIIs to invest in India will be seen as a positive move by investors. Thirdly, investors also look at a variety of tax breaks and incentives which can actually reduce their cost of investing in equity and eventually enhance their returns.
Create an atmosphere to perpetuate economic reforms…
That is the primary demand of investors. Capital market buoyancy is not possible without a clearly defined reforms process. The euphoria that took the Nifty up to the 9100 mark was largely determined by the reformist credentials of the current government. The government has a slight dilemma in this regard. This year the government is likely to exceed its fiscal deficit estimates due to factors like OROP and Seventh Pay Commission. Additionally, the government is expected to invest in infrastructure and also to spend to put more money in the hands of rural India.
At the same time fiscal deficit overshooting its target is considered as a negative signal by global rating agencies like Moody’s and S&P. Typically, a rise in fiscal deficit is seen by rating agencies as a case for rating downgrade and that is likely to have negative repercussions on FII investments into India. Above all, the government in this budget must be seen to be embarking on a full-fledged process of reforming labour laws, ease of doing business, encouraging start-ups and allowing honourable exits to business. These will go a long way in establishing its reformist credentials and propping up the equity markets.
How about some tax incentives…
Currently, equities are favourably taxed in India. Short term capital gains are taxed at concessional rates while long term capital gains are exempt from tax. Additionally, dividends are tax-free in the hands of the investors. However, there are a few expectations that people have from Union Budget 2016:
- The Dividend distribution tax (DDT) that is imposed on the company has the same effect as taxing dividends in the hands of the investors. The argument is that since dividends are a post-tax appropriation, even DDT amounts to double taxation. As a first step, the government can at least reduce the rate of DDT.
- STT has been a major bane for investors, traders and arbitragers. STT or Securities Transaction Tax tends to distort pricing in the market and also impacts liquidity in the market. There have been repeated calls to abolish STT. But it does look like the government may choose to raise the STT rates in this budget. STT has been contributing nearly $1 billion per year in revenues and that has been static for the last 8 years. The government is looking to increase its revenues on this front.
- There is an expectation that ELSS schemes may be given a special category status and allotted a dedicated limit outside the current limit of Rs.150,000/- under Section 80-C. This will go a long way in encouraging retail investors to get into equities and is also in tune with the long term goals of this government.
- Then there are some procedural issues that can be addressed in this budget. The previous budget had spoken about a comprehensive centralised KYC. This will avoid the need to do a KYC for each separate investment product. It will save time and money for investors. Additionally, there is a complex cost structure for equities which include service tax, stamp duty, SEBI tax, turnover tax, STT etc. For the sake of simplicity, the stamp duty can be removed to simplify the trading process.
Reintroducing STT credit…
Where there are strong demands for the abolition of STT, it is doubtful if the same will be accepted by the government. The government will not want to forsake $1 billion of revenue unless it has a better alternative at hand. One way would be to restore the benefits of Section 88E that was withdrawn in 2009. Section 88E allowed brokers to get credit for STT paid in the form of a rebate. While the government abolished this section due to allegations of STT trading, the abolition has taken away a good legitimate benefit for brokers. At least, the government can look to restoring this benefit.
While the equity markets segment has matured over the years, there are some additional benefits the government can offer. Small steps like centralized KYC and ELSS incentives can go a long way in building an equity cult. Budget 2016 is expected to focus on expanding the equity cult in India. That by itself would be a major positive.
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