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Key Policy Changes Impacting Doing Business in India

By Sharanya G Ranga, Aditi Rani and Probal Bose

2016 for sure trumped our expectations! Entering its third year in power, the present government led by Prime Minister Mr. Narendra Modi continued its efforts to bring about structural changes to improve the ease of doing business in India and moved one notch higher (from 131 to 130) in the World Bank’s ease of doing business rankings. We started the year 2016 with a bang, with India being an outlier bucking the global slowdown and recording 7.9% economic growth in the January-March quarter.  Thanks to sluggish growth and demonetisation, we may have ended the year stuttering to reach half of that percentage in the October- December quarter. Here is a look at the key policy changes effected in 2016 that will impact doing business in India.

Foreign Direct Investment (FDI)

The FDI policy essentially remained the same with specific sector caps under the automatic or approval route. However, the liberalization trend continued with more sectors being opened up for FDI under the automatic route and sectoral caps and conditions relaxed under the approval route. Defence, pharma, aviation and e-commerce hogged the headlines in 2016 with these sectors opened up for FDI considerably, albeit with some sector-specific conditions. The policy announcement permitting FDI in e-commerce marketplaces with price and vendor restrictions caused quite a bit of heartburn for the nascent e-commerce industry with many criticizing it as a classic case of regulatory overreach. Other policy relaxations such as permitting deferred consideration in share purchase transactions and escrow arrangements involving foreign investments under the automatic route (without any prior approval of the Reserve Bank of India as was the case earlier) will be helpful in respect of cross-border M & As.

Start-ups

Recognising India’s potential as one of the world’s fastest growing startup hubs, a detailed action plan for startups was rolled out in early 2016 to boost the entrepreneurship ecosystem and make it easy for startups to start up, grow and flourish. Eligible and registered startups have been provided with tax incentives and a simplified self-certification system for labour law compliances besides a fast-track mechanism for patent applications at discounted fees and access to external commercial borrowings. However, this has not found many takers with recent reports stating that merely 497 startups have registered under this plan. Despite the slowdown in venture capital funding and the markdown in valuations in startups, angel investor groups continued to increase their footprint across India and the recent policy relaxations by the Securities and Exchange Board of India to encourage angel investment in startups will go a long way in building a vibrant startup ecosystem.

Amendments to the double taxation avoidance agreements (DTAA)

One of the key policy changes in 2016 has been the amendment to the India-Mauritius DTAA followed by the DTAA amendments with Cyprus and Singapore recently. The “Mauritius” route contributes to almost one- third of India’s total FDI inflows owing to the exemption on capital gains tax (on sale of shares of an Indian company in India and no tax imposed on capital gains in Mauritius). However, it has been plagued by allegations of round-tripping of funds and treaty abuse leading to loss of revenue for the Indian exchequer and tax litigation. The amendment shifts to source-based taxation (from the residence-based regime) and protects investments made prior to April 1, 2017. It is expected to hasten our migration to a transparent tax regime that curbs double taxation, tax evasion and tax avoidance.

GST: A long wait coming to an end

The landmark tax reform, the Goods and Service Tax (GST) finally saw the light of the day with the Constitutional amendment was passed by both houses of Parliament. The model GST law was released in June 2016 and the state governments are still in the process of drafting their rules and businesses are getting GST-ready for its roll out by September 2017. This is expected to completely transform the prevailing indirect tax framework and bring in a unified and simplified system for businesses across India and do away with the multiplicity of taxes collected at both the state and central levels. In a marked departure from the distribution of fiscal powers enshrined in our Constitution, the amendment empowers both the Parliament and the state legislatures to frame laws on GST.

Simplified dispute resolution process

Ranking a dismal 172nd (out of 190 countries) for enforcing contracts in the World Bank’s rankings, much ink has been spilt on the time-consuming and expensive process of pursuing legal action in Indian courts. Hearteningly, there have been considerable reformative measures towards building a robust and efficient framework for dispute resolution for businesses in India over the last couple of years (which explains our ranking moving up from 178 in 2015). While the Arbitration Act was amended in October 2015 to make arbitration a preferred mode of settlement of commercial disputes, a new law to set up commercial divisions and commercial appellate divisions in high courts and commercial courts in districts was notified on January 1, 2016. This legislation, aiming at speedy disposal of commercial disputes beyond a specific pecuniary value, has received lukewarm response with the infrastructure required for such a set up taking time.

Single forum for corporate disputes

The establishment of the National Company Law Tribunal (NCLT) as a single forum replacing the erstwhile Company Law Board is expected to drastically alter the corporate litigation landscape of India.  Subsuming various forums (such as the High Courts and Company Law Board) dealing with company matters, the NCLT is empowered to deal with settlement of all corporate disputes, matters relating to M & A and corporate restructuring, winding up and adjudicating on the insolvency resolution process under the new insolvency law. With the NCLT focusing on capacity and infrastructure building in its early days, it is expected to revamp the grievance redressal mechanism for corporate law matters in a cost and time-effective manner.  

New Insolvency Law

Considering our abysmal ranking (136 out of 190 countries) in resolving insolvency in the World Bank’s rankings, the need of the hour was a complete overhaul of the existing regulatory set-up for insolvency and bankruptcy. That is exactly what the Insolvency and Bankruptcy Code, 2016 seeks to do. The Code is a game-changer as it provides a time-bound and professional process for insolvency resolution for corporate entities, partnership firms and individuals. Commendably, the Code also provides creditors an option to revive the defaulting company by drawing up a resolution plan instead of directly aiming for liquidation.

Demonetisation and getting on the highway to a digital economy

No prizes for guessing, but the biggest disruption in 2016 was the demonetization announcement by the Prime Minister in November fast-tracking our progress to a digital economy. Though formal numbers on its impact are awaited, the general consensus points to a significant slowdown in the economy due to the surgical strike on ‘cash’ and the lack of an adequate implementation plan to manage the roll-out across the length and breadth of India. Digital payments and mobile wallet companies have eradicated the pain points to an extent, especially in the metro/urban areas though it is going to take a considerably longer time for the informal economy to embrace digital alternatives. Renewed concern over the safety and security of digital transactions should hopefully pave the way for a strong data privacy and security legislation in 2017.

Right from day one of taking charge as our Prime Minister, Mr. Modi has been chanting the mantra of ‘reform to transform’ and emphasized on how reforms have to be comprehensively brought about to build a strong foundation and environment stimulating and facilitating economic growth. The reformative zeal exhibited through the course of the year gone by is not a ‘great leap forward’ but increases the attractiveness quotient for India as an investment destination.

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