Advertisment

DOMESTIC MANUFACTURING: A Level-playing Field?

author-image
VoicenData Bureau
New Update

After the recent policy announcements, it is very important that the Indian

manufacturers once again bring up the bias against domestic manufacturing. The

anomalies in excise, customs and sales tax are adversely affecting Indian

manufacturers. The net impact of these announcements can be devastating and can

lead to very high preference for importing telecom equipment rather than

manufacturing it locally. And secondly, it will lead to Indian manufacturers

further getting into contract manufacturing from locations like China.

Advertisment

Excise Anomaly



Goods manufactured in India bear the burden of paying taxes and excise

duties on the end-customer realizable value. That includes distribution costs,

manufacturers profits and value addition in the form of services rendered for

installation, commissioning of the systems. Imported goods on the other hand

attract Customs duty and countervailing duty (CVD) on import price which does

not include local distribution costs, maintenance costs for warranty period,

customer training costs, local profits and local-value addition in the form of

local services rendered for installation, commissioning of the systems. In the

case of high technology equipments the import price of hardware is generally

half of the end customer price because of local installation, commissioning,

programming, maintenance and training of customer.

These problems are more alarming in products with high content of

intellectual property (IP) or high amount of local-value addition and goes

against the overall objective of promoting Indian IP and local value addition.

Manufacturing

in China is More Profitable
Assumptions:
1. High

“IP” content & Bill of material is one fourth the end

customer price. A realistic situation in technology oriented

products with local R&D.
2. Job

work charges are 20 percent of BOM, which are easily achievable in

India. Job work or contract manufacturing charges in China could

only be lower.
Govt.

taxes
Made

and exported from China to Indian customer
Made

in India and sold locally
1. Bill

of material of all imported  inputs
100 50
2. Bill

of material of all Indian Inputs
50
3. Job

work Charges in India
20
4. Job

work Charges abroad
20
5. Cost

of local value add/ IP/installation/warranty/ freight/ packaging and

profit
  180.38
6. Customs

Duty @15% on item 1+4
18 7.5
7. CVD

@16% on item 1+4+6
21.76 9.2
8. SADD

@0% on item 1+4+6+7
0 0
9. ModvatÂ

= item 4
On

Manufacturing  only
-9.2
10. Excise

16% on item 1+2+3+4+5+6
  49.26(ex-factory

price w/o excise)
11. Sales

Tax @12% on item 1+2+3+5+6+7+8-9+10
  42.85(Sales

Price incl. Excise)
12. Profit

Margin
222.44 These

are excisable as part of net realizable value from customer
13. Profit

billed as service hence 8% Service Tax
17.76(billed

as service)
 
14. End

Customer price
400 400
Thus

the total duties paid to government in case of manufacture in China

is Rs 57.52. Customs duty of Rs 18, CVD of Rs 21.76 and SADD of Rs 0

and service tax of Rs 17.76. In the case of indigenous product

manufacturing, total duties paid after accounting for benefit of

modvat is Rs 99.61 consisting of Rs 49.26 of excise including modvat

and Rs 42.85 sales tax and Rs 7.50 of basics customs duty
Advertisment

To make matters worse the percentage of sales tax charged on local produce is

much higher than the sales tax equivalent charged on imported material in the

form of special additional duty (SADD), which is now zero for IT products.

Further the sales tax on Indian manufactured goods is also charged on end

customer realizable value, which has a cascading detrimental affect. These

handicaps need to be mitigated if Indian R&D and manufacturing efforts have

to be promoted.

This anomaly becomes even more glaring once we take into account the impact

on account of splitting the cost of imported material into software (Zero

Customs duty) and hardware. In the case of a manufacturer this break up on

imported material is meaningless because of Mod-vat implications.

Subcontracting to China



Present system of taxation makes it extremely attractive to shift

manufacturing of goods with high local value addition to countries with low job

work charges. In "IT" products that have large IP content the ratio of

cost of inputs to the end customer price could be as much as 1:4 as it involves

warranty costs, customer training costs & costs for customization &

programming for integrating with third party products like computer systems etc.

In such a situation if one was to get the product manufactured from China the

duties levied would be around 35 percent (Customs 15 percent, CVD 16 percent

& SADD 0 percent) on 120 Percent of the raw material costs (Assuming that

conversion cost or job work cost would be 20 percent of BOM which is on the

higher side even in the Indian conditions) i.e all duties & taxes levied

would be around 43 percent of the BOM.

Advertisment

On the other hand if finished goods are produced in India then 28 percent

duties (16 percent Excise & 12 percent Sales tax) are paid on end customer

realizable value i.e., 28 percent on 400 percent of the bill of material (BOM).

This would work out to 112 percent of BOM. It thus becomes unattractive to

manufacture in India, goods that have high local-value addition. We continue to

manufacture because our volumes are not large enough to justify contract

manufacturing in an overseas country.

Solutions



The solutions to these are not very difficult. Add about 30 percent to the

imported price and customs duty as local-value addition before levying CVD and

SADD–a practice followed in countries like Sri Lanka. Abatement on the

end-customer price for excise and sales tax, with a minimum value addition norm

should also be provided.

Rajesh Tuli, heads an EPABX company

Advertisment

Excise and Sales Tax Anomalies Increase Costs

The government regulations on excise and customs adversely discriminate

against locally produced goods. For example, locally-produced goods bear the

burden of paying taxes and excise duties on the end-customer price while

imported goods attract taxes and levies on import price, which is generally half

of the end customer price. Further, the sales tax charged on local produce is

much higher than the sales tax equivalent charged on imported material in the

form of SADD.

If an EPABX project is to be installed in India at the end customer price of

Rs 100 and the Indian company was to keep a gross margin of Rs 20 then let us

look at the taxes paid in both the cases. In case of a turnkey project, there

would be costs like installation, warranty, freight, software integration,

packaging and some civil works, which are locally arranged by both the importer

and the Indian manufacturer and they would be worth Rs 20. Total duties paid to

the government for imported goods is Rs 15.71. (Customs duty of Rs 6.56, CVD of

Rs 7.55, zero SADD and Rs 1.60 service tax.

Advertisment
As

shown earlier  the

duties paid in the two cases are as under:
Government

taxes
Direct

imports & local manufacturer
Indian

manufacturer  executing the project
1. Cost

of Imported or  Modvatable Indian material
43.77 20
2. Cost

of local material/value add/ IP/ installation/warranty/freight/

packaging & profit
53.97
3. Customs

duty @15% on item 1
6.56 3
4. CVD

@16% on item 1+ 3
7.55 3.68
5. SADD

@0% on item 1+3+4
0 0
6. Modvat

= item 4
-3.68
7. Excise

16% on item  1+2+3+4+5-6
12.31

(ex-factory price w/o excise)
8. Sales

Tax @12% on item 1+2+3+4+5-6+7
  10.72

(Sales Price incl. Excise)
9. Installation/warranty/freight/packaging

20 These

are excisable as part of net realizable value from customer
10. Service

tax @4% on 9
0.8
11. Profit

Margin
20 These

are excisable as part of net realizable value from customer
12. Profit

billed as service hence 4% Service Tax
0.8

(billed as service)
 
13. End

Customer price
100 100

In the case of indigenous product total duties paid after accounting for

benefit of modvat is Rs 26.03 consisting of Rs 12.31 of Excise after modvat

benefits and Rs 10.72 Sales Tax and Rs 3.00 of basics customs duty and Rs 3.68

of CVD on imports and Rs 0 of SADD on imported raw material sales tax. This

clearly shows that domestic manufacturer stands to loose at the rate of at least

10.32 percent in comparison to imported good. This is because imported goods pay

excise component on the purchase price, which is about 50 percent of end sale

value and sales tax levied is at the rate of 0 percent against local sales tax

of 12 percent.

Indian manufactured goods have to pay excise on end-realizable value from the

customer, which includes freight, packaging, local warranty support costs and

profits of the entrepreneur. On all these components including excise one has to

pay sales tax at the rate of 12 percent. This anomaly becomes even more glaring

once we take into account the impact on account of splitting the cost of

imported material into software (zero customs duty) and hardware. In the case of

a manufacturer this break up is meaningless, because of Modvat implications.

Advertisment