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Is Obama right about Bangalore?

By Business Standard
Last updated on: May 07, 2009 14:52 IST
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Before anyone in India gets hot under the collar about US President Barack Obama's tax proposals, because they might seem targeted at job creation in 'Bangalore,' it is important to understand what he is trying to do. For, on any rational basis, it is hard to be critical.

American companies that invest abroad have been tax-exempt on the profits from such businesses until they bring the profits back into the US; however, they have been allowed to claim a set-off on the expenses related to such investment.

This has been an open invitation to invest overseas and not in the home market, especially if the money is routed through tax havens so that the firms pay no tax on their profits anywhere. Mr Obama has called this a 'scam,' a term to which American businessmen have taken umbrage, but it is hard to think of it in any other terms.

The figures trotted out, showing that effective tax rates on such investments have been in the 2-3 percentage points range, support the president's drive to raise the effective level of tax on such corporate activity, at a time when he is running a gigantic deficit and needs money for other programmes.

Indeed, India should do likewise (companies that borrow money to invest overseas, and claim a tax set-off on the interest cost of the loan, should not get a set-off unless they remit the profits home and pay tax on it).

In other words, this is not about jobs in Bangalore or Buffalo, though that is how Mr Obama put it somewhat dramatically. The truth is that no Indian tech or BPO companies are going to be affected by this; nor will any of their clients in the US now find that it pays to cancel their contracts with Infosys and TCS.

The situation is different for American companies like IBM and Accenture, which have large back-office operations in India and which may well find that their tax burden goes up in the US as a result of Mr Obama's proposal.

However, one should not conclude from this that they will pull up their stakes and go hotfooting it back to the US to set up tent there. It is more than likely that it makes economic and business sense for these companies to locate their operations in India, even without the tax breaks.

It is possible that some marginal operations are affected, but that should not blur the larger picture.

The Obama initiative should be seen in a larger context.

International capital has become so mobile, and has access to so many tax havens through which to route money, that the owners of this capital have a global tax holiday. It is to strike at this that the Organisation for Economic Cooperation and Development has started moving against the tax havens, which in turn has resulted in the debate in India about how much Indian money is hiding in such places as Leichtenstein.

And so, far from criticising the US president, India should welcome the initiative that Mr Obama has taken to attack the tax havens (for they are his real target, not Bangalore), and see what New Delhi can do -- about Mauritius and others.

Doing this will not be easy.

The giant US corporations will line up their lobbying firepower to try and defeat or water down the new tax proposals. Similarly, any such move in India will draw howls of protest from the business lobby groups.

At the end of the day, however, the issue is quite simple: you should not be claiming tax set-offs on expenditure that is used to earn profits on which you do not pay tax under the same tax regime.

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