Measures for promoting MSMEs: credit guarantees and timely payments 

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The MSME segment represents 30%[1] of the Gross Domestic Product of the country and is a key to India’s vision to become a USD 5 trillion economy. As a result, this has always been a focus area so far as macro-economic policy-making is considered. 

During the present year’s budget, the FM highlighted that one of the key areas where the Government has worked on is ease of access to finance. 

Access to finance has always been a problem for the MSMEs in the country, and the reasons for this are many, including lack of standardisation of business processes, lack of credit history, lack of formal collateral, etc. To plug the demand and supply gap in MSME financing, the Government of India has over the years launched several schemes to directly or indirectly channelise institutional finance to this segment.

Of the several initiatives taken by the Government, the one which has gained the most popularity is the Credit Guarantee Scheme for Micro & Small Enterprises. To operationalise this, the GOI and SIDBI together formed the Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE). The CGTMSE primarily extends guarantee in case of collateral-free loans and loans with insufficient collateral to micro and small enterprises. 

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Financial Regulators to have a consultative approach

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– Timothy Lopes, Manager | finserv@vinodkothari.com

The need for a consultative approach

In a post on LinkedIn, Vinod Kothari stated: “Let us face it – the business world is increasingly governed by regulations, and not rule of law. Parliamentary law in most cases is skeletal, laying what may evasively be termed as the essential principles. Most substantive rules that define, delimit or deny business freedom are made by the regulators. In the world of finance and capital markets, the regulators are SEBI, RBI, IRDA, PFRDA, etc.

This note is to make a case that significant regulatory actions, involving change of the rules that govern business, must necessarily be first proposed for public comments. A sudden change in rules can cause great difficulty as the regulated would keep searching for the rationale behind the regulatory action.  Quite often, regulators come back and say: we have our own observations. But how does one justify the results of regulatory experience not being shared with the regulated? How does one conclude that the observations of the regulator are unbiased, not myopic, or that the proposed rule-making by the regulator is based on a wrong premise or flawed understanding, or that a proposed rule will not do a damage? There are occasions when a regulatory action may have to be taken without the benefit of prior discussion, but this is exceptional. Perhaps, such an action is justified when the regulator has to act abruptly, or the balance of convenience lies in immediate implementation. But for such exceptional cases, one is not able to make a case for a change in rules that takes people by surprise.

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India’s “green growth”: is the green skin-deep?

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– Payal Agarwal, Deputy Manager | corplaw@vinodkothari.com

Talking about green growth may seem like rhetoric. From policy-makers to economists, from corporate governance experts to environmentalists, everyone seems to be having “green growth” on the top of the agenda.

The Economic Survey dedicated a full chapter to climate change and related issues. The Budget also has green growth as one of the seven saptarishis, to guide the FM’s plans for our financial future.

Need of the hour

India has been taking small steps towards reaching its commitment to the net-zero emissions goal by 2070, as compared to a majority of countries committing to reach the net-zero targets by 2050. While the country contributes to a very low percentage of global emissions (only 4% of the cumulative global emissions from the period 1850-2019[1]), the global nature of the problem of climate change is what makes the country equally vulnerable to the problem, if not more. Further, given its long coastline, monsoon-dependent agriculture, and large agrarian economy, India is considered to be one of the most vulnerable countries to the climate change issue[2].

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Market-linked debentures: Is it the end of the market for them?

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– Aanchal Kaur Nagpal, Manager | finserv@vinodkothari.com

Tax proposal to tax gains on MLDs as short-term capital gains

The Budget proposes that the capital gains on market linked debentures (MLDs) will be taxed as short term capital gain.

Presently, MLDs are mostly listed, and as listed securities they have 2 advantages:

  • First , there are exempt from withholding tax. This is one of the carve-outs in sec. 193
  • Secondly, the holding period for capital gain purposes is 12 months,  as opposed to 36 months in case of normal capital assets. This comes from sec. 2 (42A) of the Act. Therefore, if a listed security is held for at least 12 months, and transferred or redeemed thereafter, the gain will be taxed as long term capital gain, with a rate as low as 10%.

Market linked debentures is a concept that prevails world-over, with different names such as equity-linked bonds, index-linked bonds, etc. However, in India, the issuance of MLDs was being exploited as a regulatory and tax arbitrage device.

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CBDCs in India – Another step towards Digitalisation

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finserv@vinodkothari.com

Related write-ups:

  1. CBDCs in India – A Leap of Faith?
  2. Untangling the Mystery of Virtual Digital Assets
  3. The Rise of Stablecoins amidst Instability
  4. Recent Trends in Crypto-Industry: India & Abroad

Takeaways from Budget 2022-23 – Fast Track Exit for Companies

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By Shaivi Bhamaria – Associate, [shaivi@vinodkothari.com]

Introduction

Over the past few years the Government of India has been increasingly focusing on ‘ease of doing business’ by corporates, and has taken several initiatives towards the same, such as exemption to private companies from the requirement of minimum paid up capital by way of the Companies (Amendment) Act, 2015; establishment to the Central Registration Centre (‘CRC’) under section 396 of the Companies Act, 2013 (‘CA, 2013’) for providing speedy incorporation related services; launch of the integrated web form SPICe+ and integration of the MCA21 system with the CBDT for issue of PAN and TAN to a company incorporated using SPICe+; launch of  web based service R.U.N. (Reserve Unique Name) for reserving a name for a new company, etc..

However, the term ‘ease of doing business’ includes not only a seamless start to a business or making the journey less cumbersome, but also involves the ease of exit. While there are various modes of exit available to corporates,  such as winding up, summary liquidation, mergers and amalgamations etc[1], given that in voluntary modes of exit like striking off or voluntary liquidation under IBC, the company is either solvent enough to meet its liabilities or holds nil assets and liabilities, ideally, the closure processes is expected to be fast and simple, However, it has been observed that these voluntary modes have not been essentially ‘easy’ given the significant delays associated with them.

It is in the backdrop of such delays, the Union Budget, 2022-23[2] has proposed certain reforms, specifically for speeding up the striking off process under section 248 (2) of the Companies Act. Further, the Insolvency and Bankruptcy Board of India (‘IBBI’) has issued a Discussion Paper dated 1st February, 2022[3] proposing amendments in the IBBI (Voluntary Liquidation) Regulations, 2016, for ensuring a faster closure of voluntary liquidation processes.

In this write up, the author discusses the two sets of proposed reforms as mentioned above, and attempts to gauge their effectiveness at present and post implementation of the proposed amendments. Read more →

Untangling the Mystery of Virtual Digital Assets

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– Shreyan Srivastava (finserv@vinodkothari.com)

An Insight into Crypto, Tokens and NFTs

Background

The Union Budget Speech 2022-23 created quite a stir in the cryptocurrency industry once again, as the Hon’ble Finance Minister proposed a 30% blanket taxation on virtual digital assets (“VDAs”). Given the plethora of terms existing such as ‘virtual currencies’, ‘digital currencies’, ‘cryptocurrencies’, ‘NFTs’, ‘altcoins’ and so on, the question arises as to what these individual terms entail and which ones fall under the category of ‘VDAs’ and where does the Central Bank Digital Currency (“CBDC”) fall under the maze of these new terms.

The Finance Bill, 2022 appears to provide some clarity through the proposed clause 2(47A) of the Income Tax Act by defining VDAs. To that effect, the current article is dedicated to clearing the confusion with respect to CBDCs and VDAs, arguing that for anything to qualify as a VDA it needs to progressively fulfil the criteria of asset → digital → virtual. Read more →

Budget 2022: Government to roll out battery swapping policy for EVs

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Electric Vehicles slowly getting into priority list of the Government

Qasim Saif | Manager <finserv@vinodkothari.com>

­­­With a growth of more than 100% in sales of Electric vehicles (EVs) from FY21 to FY22 and 9,13,532 EVs currently registered since FY12 and expected sales of 14.8 million EVs by FY30, a comprehensive framework and government support to the industry is no longer an option rather a necessity.

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Non-Performing Assets: A Solution at Last?

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– Shreyan Srivastava (resolution@vinodkothari.com)

Background

In India, Non-Performing Assets (“NPAs”) have been a chronic plaque in the economy for decades. Although recent reports indicate that the Gross NPA (“GNPA”) and Net NPA (“NNPA”) have been systematically declining, in comparison to other economies, the country still faces a high volume of NPAs. For this reason, for the last several budgets, economic policies in India have been tailored to provide relief from the existing NPAs and to provide mitigatory steps to reduce the rate of such NPAs.

In this article, we discuss the current situation of NPAs in the country and assess the feasibility of the steps taken by the Government to mitigate, control and resolve the same, specifically through measures introduced by the Union Budget 2021-22[1] leading upto the Union Budget 2022-23[2] and the extent of the reliefs they provide.

A Two-Decade History

As illustrated in Figure 1, from the fiscal year of 2008-09, both Gross NPA (“GNPA”) and Net NPA (“NNPA”) for Scheduled Commercial Banks (“SCBs”) were following an upward trend with a slight dip in 2010-11. The highest NPA was recorded for the financial year of 2017-18, following which a structural decline was observed despite the overwhelming impact of the pandemic on all economic sectors in 2020.[3]

As per data provided by the RBI, there has been a constant decline of Net and Gross NPA Ratios in Scheduled Commercial Bank ever since the fiscal year of 2018-19:-

  • As of September-end 2021, the NNPA ratio sits at 2.2% compared to 6% in 2017-18.
  • As of September-end 2021, the GNPA ratio sits at 6.9% compared to 11.2% in 2017-18.

Similarly, the NNPA and GNPA ratios for NBFCs stood at 6.55% and 2.93% and 6.55% for September-end 2021.

A large portion of this declining rates of GNPA and NNPA ratios can be attributed to various available resolution mechanisms, including the Insolvency and Bankruptcy Code (IBC), SARFAESI Act, Debt Recovery Tribunals, etc, which have proved to be useful to certain extent. However, there still remains a large stock of legacy NPAs which are yet to be resolved. As per a report issued by RBI[5], in F.Y. 2019-20, the total amount of NPAs recovered was merely 23% of the total NPAs worth a whopping Rs. 7,42,431 crores.

The Indian Council for Research on International Economic Relations (“ICRIER”) studied Asset Management in various foreign jurisdictions such as the United States, Sweden, Italy and Indonesia all of which had instituted a centrally owned Asset Management Company (“AMC”) during a financial crisis with a sunset clause. Thus, once the financial crises had been lifted the AMC would be dissolved via its sunset clause.

Union Budget 2021-22: Creation of the Bad Bank

The need for a government owned ARC to manage the NPA problem on a large scale was identified as early as 2017 by the ICRIER and recognising the same the Governor of the RBI: Shri Shaktikanta Das observed: “If there is a proposal to set up a bad bank, the RBI will look at it”.[6] Subsequently, the Finance Minister of India during the Union Budget Speech of 2021-22 stated:

“An Asset Reconstruction Company Limited and Asset Management Company would be set up to consolidate and take over the existing stressed debt and then manage and dispose of the assets to Alternate Investment Funds and other potential investors for eventual value realization”.[7]

Soon after the Union Budget of 2021-22, the Government incorporated the National Asset Reconstruction Company Limited (“NARCL”) under the Companies Act, 2013 and registered the same with the RBI. The NARCL is essentially the first government owned ARC in India, set up in a manner similar to Asset Management Companies in the foreign jurisdiction, and is owned primarily by public sector banks.

As provided in its mandate, the Indian Debt Resolution Company Limited (“IDRLC”) was set up to act as the operational entity designed to manage the NARCL such that while the latter would offer the purchase stressed assets of the lead bank and acquire them, the IDRLC would engage with the management (market professionals and turnaround experts) and value addition of such assets. Thus, what was born was a unique Public-Private Partnership of NARCL-IDRLC with the mandate to mitigate the NPA problem in the economy.

The NARCL had proposed to acquire stressed assets worth Rs 2 lakh crore in a phased manner in the proportion of 15% Cash and 85% in Security Receipts (SRs), all the while operating within the existing framework for ARCs as issued by the RBI.[8]In fact, the NARCL had already planned for Phase I with fully provisioned assets of about Rs. 90,000 crores expected to be transferred to NARCL before the end of the current financial year of 2021-22.[9] From what is understood, NARCL shall focus on the legacy assets, worth Rs. 500 crores or more, which are generally not targeted by the privately owned ARCs.

However, despite being proposed a year back, NARCL was only made live on 27th January, 2022, merely 4 days prior to the Union Budget 2022-23. Hence, we are currently in a very nascent and premature stage to gauge if at all the public-private relationship would give the expected results.

The National Bank for Financing Infrastructure and Development

With the NARCL due to begin their operations of Phase I, the Ministry of Finance issued a notification on 28th January 2022 (close to the Union Budget Speech of 2022-23) which formally established the National Bank for Financing Infrastructure and Development (“NBFID”).[10]As elaborated by the PRS India, the NBFID is to operate as a corporate body with authorised share capital of one lakh crore rupees which can only be held by selected public sector enterprises.[11] Its mandate would be to directly or indirectly lend, invest, or attract investments for infrastructure projects as selected by the Central Government located entirely or partly in India. The various sectors have been identified in Figure 2 below: –

Thus, unlike any other jurisdictions, India appears to adopt a three-fold sectoral approach to rectify their NPA problem:

  • Private Sector: Private ARCs registered with the RBI.
  • Public-Private: The NARCL-IDRLC
  • Public: The NBFID.

Concluding Remarks

While the Union Budget 2021-22 had formally recognised the commencement of the NBFID and NARCIL, its performance and efficacy is yet to be investigated. Moreover, what makes the NBFID stand out from its government owned AMC counterparts in foreign jurisdictions is the lack of a sunset clause given that it targets the Infrastructure Sector. Similarly, not much can be said about the NARCL-IDRLC which is also due to begin its Phase I sometime before 31st March 2022.

[1] https://www.indiabudget.gov.in/budget2021-22/doc/Budget_Speech.pdf

[2] https://www.indiabudget.gov.in/doc/Budget_Speech.pdf

[3] https://www.indiabudget.gov.in/economicsurvey/doc/echapter.pdf#page=55

[4] https://www.indiabudget.gov.in/economicsurvey/doc/echapter.pdf#page=55

[5] https://rbi.org.in/Scripts/PublicationReportDetails.aspx?UrlPage=&ID=1188

[6] 39th Palkhivala Memorial Lecture

[7] https://www.indiabudget.gov.in/budget2021-22/doc/Budget_Speech.pdf

[8] https://pib.gov.in/PressReleseDetailm.aspx?PRID=1755466

[9] https://pib.gov.in/PressReleseDetailm.aspx?PRID=1755466

[10] https://egazette.nic.in/WriteReadData/2021/226210.pdf

[11] As per PRS India: the shares may be held by: (i) central government, (ii) multilateral institutions, (iii) sovereign wealth funds, (iv) pension funds, (v) insurers, (vi) financial institutions, (vii) banks, and (viii) any other institution prescribed by the central government.

[12] https://prsindia.org/billtrack/the-national-bank-for-financing-infrastructure-and-development-bill-2021

Strategic Disinvestment in Public Sector

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The Economic Survey 2020-21 had laid a significant emphasis on the importance of utilising private-industry expertise to its optimal level- the same has also been reflected in the Finance Bill, 2021. The Bill proposes to facilitate strategic disinvestment of public sector company by relaxing the provisions of section 2(19AA) and section 72A of the Income Tax Act, 1961 (‘Act’) for amalgamations and demergers by PSUs.

Extant Conditions under the IT Act, 1961

The extant provisions of section 2(19AA) of the Act defines that “demerger”, in relation to companies, means the transfer by a demerged company of its one or more undertakings to any resulting company. It further enlists certain conditions, which if fulfilled render the demerger as tax-neutral for all parties involved. It provides that an arrangement shall be termed as a “demerger” if:

Section 72A, on the other hand lays down conditions relating to carry forward and set off of accumulated loss and unabsorbed depreciation allowance in amalgamation or demerger. However, such exemption is subject to fulfilment of certain conditions, viz.

While tax neutrality and the carry forward of losses acts as a motivator of entering into such transactions, fulfilment of such conditions is not ensured in all cases. Hence, with a view to motivate PSUs to enter into such disinvestment arrangements, the Finance Bill, 2021 has introduced to bring certain relaxations to the table, discussed below-

Proposals under Budget 2021

The Union Budget, 2021 proposes the following relaxations to the PSUs-

  1. Change in the definition of demerger as provided u/s 2 (19AA) of the Income Tax Act, 1961

The Finance Bill, 2021 proposes to insert an explanation in the definition of demerger provided u/s 2 (19AA) to clarify that the reconstruction or splitting up of a PSU shall be deemed to be a demerger, if:

  • Such reconstruction or splitting up has been made to transfer an asset of the demerged company to the resultant company; and
  • the resultant company is a PSU on the appointed date[1] indicated in the scheme approved by the Government or any other body authorised under the provisions of the Companies Act, 2013 or any other Act governing such PSUs in this behalf; and
  • fulfils such other conditions as may be notified by the Central Government in the Official Gazette

As a result, PSUs shall not be required to follow the stringent conditions of section 2 (19AA), and be entitled to avail the benefit of tax-neutrality. Effective from 01.04.2021, this proposed amendment will be applicable to demergers effected on and from 01.04.2021.

  1. Proposed Amendments in section 72A of the IT Act

Amendments proposed in section 72A (1) propose to extend the benefit the extend the benefit of set off and carry forward of losses to PSUs and erstwhile PSUs. The Union Budget, 2021 proposes to-

  • Substitute clause (c) to provide that the provision of section 72(A) (1) shall also apply in case of amalgamation of one or more PSU, or companies with one or more PSUs;
  • To insert a clause (d) to provide that section 72A (1) shall also be applicable to amalgamation of an erstwhile PSU, if
  • the share purchase agreement entered into under strategic disinvestment restricted immediate amalgamation of the said public sector company;
  • the amalgamation is carried out within five year from the end of the previous year in which the restriction on amalgamation in the share purchase agreement ends
  • To insert a proviso to clause (d) to provide that in case of amalgamation involving an erstwhile PSU, allowance for unabsorbed depreciation of the amalgamated company shall not be more than the accumulated loss and unabsorbed depreciation of PSU as on the date on which the PSU ceases to be a public sector company as a result of strategic disinvestment.

Similar to amendments in section 2(19AA), These amendments will also take effect from 1st April, 2021 and will accordingly apply to the assessment year 2021-22 and subsequent assessment years.

Way Forward

It is likely that a significant number of PSUs will intend to opt for business arrangements, in view of the relaxations provided. With a view to encourage reorganisation and involvement of private-expertise,  the proposed amendments are expected to act as a catalyst to the disinvestment targets, to achieve optimal utilisation of resources.

[1] The date on which the Scheme shall be reflected in the books of the companies.