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Petrosight July-September 2011 - EY - India

Petrosight July-September 2011

Tax incentives required for the CGD sector

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With rising petrol prices, it is an opportune moment to replace traditional transport fuel with natural gas. Keeping the above in mind, there is a greater need for better gas infrastructure including City Gas Distribution (CGD) networks.

In an endeavor to develop and fuel growth for the natural gas market, the Government of India (GoI) has set-up the Petroleum and Natural Gas Regulatory Board (PNGRB) which, in turn, has notified regulations for CGD networks for supplying gas to compressed natural gas stations and piped natural gas (PNG) to household consumers, other industrial and commercial consumers.

Given the recent gas discoveries in the east coast and expansion of gas infrastructure have encouraged a shift toward natural gas. While the existing players are planning to expand operations, many new players are exploring alliance options to enter this space.

In view of the significant investment and lengthy gestation period associated with CGD networks, it is imperative for the GoI to provide tax incentives to companies interested in setting up these networks.

With an objective to boost this sector, the Finance Act, 2007 introduced a 10 year tax holiday for laying and operating cross-country natural gas distribution network, including pipelines and storage facilities.

To avail this tax holiday one of the prerequisites is that certain portion of the total pipeline capacity should be available for use on a common carrier basis by persons other than the assessee or its affiliate(s).

In a paradigm shift in its policy of granting tax incentives, the GoI replaced 10 years tax holiday with investment-linked tax incentives with effect from 2009.

Under investment-linked tax incentives, tax benefits are directly linked with the amount of capital investment, i.e., 100% deduction for capital expenditures (excluding expenditures on land, goodwill and financial instruments) is allowed in the year in which capital expenditures are incurred. Capital expenditures incurred during the pre-commencement period are also allowed as deduction in the first year of commencement of operations.

There is ambiguity whether CGD is eligible for tax incentives since the term cross country is neither explained nor articulated in the law. On plain reading of the law, it seems that the tax incentives are available to companies engaged in laying and operating cross country natural gas distribution network and therefore not available to companies involved in CGD network.

Separately, the prerequisites in the tax incentive provisions are not in line with CGD policy. The CGD regulations provides for initial years exclusivity from the purview of common carrier and following the exclusivity period, the company has to allow access to around 33% of its network capacity on a common carrier basis.

Tax incentives were introduced with an aim to promote the setting up of gas infrastructure and simultaneously reduce the existing subsidy on LPG. Since gas distributed through the CGD networks is a substitute for LPG, the applicability of tax incentives for CGD network is in line with the legislative intent. Tax incentives will also reduce operating costs, which, in turn, will help in reducing the price charged to consumers and encourage households to migrate from LPG to PNG.

Given that India is currently dependent on fuel imports to meet its energy needs, there is immediate need to develop and promote use of natural gas, which is not only economical but also supports green environment on account of its lower emission levels. Given that the CGD network involves significant investment and lengthy gestation periods, the GoI should clarify the ambiguity and extend tax incentives to the CGD network as well.

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