VAT, SEZs and Federal Politics

The legal regime surrounding SEZs raises a host of issues concerning the relationship between different levels of government. For instance, whether state governments (including through urban development authorities) are (or will) usurp the authority delegated to panchayat and urban bodies is something that continues to be debated.

One area where the conflict is likely to be particularly intense is with respect to taxation. In the process of working out so-called 'anomalies' in the tax code, SEZ promoters and firms operating within their boundaries have lobbied heavily for policy changes. This has manifested itself most recently in the form of complaints by these actors that they are treated unfairly when it comes to VAT applied to products sold by SEZ units within India's Domestic Tariff Area (DTA).

As reported recently, a collection of state governments are opposing a move by the commerce ministry to do away with VAT on goods sold into the DTA. States, not surprisingly, see this as a good (and legitimate) source of revenue. The Government of India organization that represents SEZ promoters and units is, on the other hand, of the view that, because SEZ units already pay import duty on intermediate goods used to produce that portion of their production that is sold into the DTA, their products should not be subjected to VAT as well.

Whatever the legal merits of the case -- and there is disagreement as to whether the SEZ Act trumps other legislation in this respect -- it seems likely that the final decision, which requires the Finance Ministry's approval, will not be taken in a political vacuum.