Legal Briefing

Denotification of Special Economic Zones

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India | 01 June 2012

The advent of the Special Economic Zones (SEZ) Policy in April 2000 and the subsequent enactment of the SEZ Act 2005 and the SEZ Rules 2006 paved the way for SEZs in India. SEZs were regarded as the engines of growth, supported by quality infrastructure and complemented by an attractive fiscal package with the minimum possible regulations and were aimed at attracting foreign investment. The SEZ Act 2005, self-contained legislation encompassing the framework of the SEZ, was enacted to provide for the establishment, development and management of the SEZs for the promotion of exports. Further, the foreign direct investment (FDI) Policy was liberalised to allow 100% foreign direct investment under the automatic route for the development of SEZs.

However, it would be interesting to note that, as per the recent statement released by the Minister of Commerce and Industry Mr Anand Sharma, out of the total of 587 SEZs approved by the government to boost exports, only 154 of them have become operational ie only 25.43% of the approved SEZs. This is rather surprising in light of the various concessions, incentives and exemptions accorded by the government to the SEZs. Further, investors were also lured with various incentives and concessions to invest in SEZs, including tax incentives in payment of income tax and other indirect tax benefits, along with stamp duty exemptions. As per the figures released by the Ministry of Commerce and Industry, the SEZs account for just 25% of India’s export earnings.

Despite the various tax exemptions accorded by the government and the consequent revenue loss to the exchequer in relation to the units established in the SEZs, several requests for the denotification of the SEZs have been received from the developers and the co-developers on the grounds of the taxation issues and slowdown in the target market.

A glance at certain statistics would further explain this. Between December 2008 and 15 March 2012, the Board of Approval on SEZs has approved 46 requests for denotification of SEZs, subject to the refund of duty benefits availed, if any, by the developer. In all such cases, either the developers have not availed of duty benefits or the developers are willing to refund or have refunded the benefits if the same have been availed. The reasons given by developers for denotification include economic meltdown, poor market response, non-availability of skilled labour force, lack of demand for space and imposition of Minimum Alternate Tax (MAT) and Dividend Distribution Tax (DDT) on SEZs. This implies that maybe a policy that provided concessions on a case-to-case need basis would have helped to sustain the interest of the developers in the SEZs.

It is pertinent to note that denotification is essentially a request to the Board of Approval to reduce the size of a SEZ, and it appears from the statistics that economic meltdown etc may not be the reason for the developers to press for denotification or the reduction of the size of the SEZs. It may in fact be part of a bigger picture. As per the SEZ Rules 2006, a developer of a SEZ is not permitted to sell land that is notified as a SEZ. However, the developer is permitted to submit an application to the concerned Development Commissioner for reducing the size of a SEZ, who shall then forward the same to the Board of Approval along with their recommendations. It is interesting to note that the neither the SEZ Act 2005 nor the SEZ Rules 2006 provide that, once the land is denotified, it shall revert to the state or central government as the case may be, in cases where the land has been allotted by the government. Hence, after denotification, the land that is purchased either from private parties or has been allotted by the government on a freehold basis can be sold by the developer to third parties or be used for any purpose.

The Board of Approval has also declared that the requests regarding increases or decreases in the areas of a SEZ need not be brought before it, as long as the minimum area requirement is not changed. It further directed that, in future, requests seeking an increase/decrease of up to 10% of the notified area, need not be brought before the Board of Approval as long as the changed area meets the minimum contiguous land requirement. This has been seen as giving breathing space to developers who intend to sell off the land. There have been numerous examples where the Board of Approval have approved the decrease in area of SEZs, the latest example being that of Maharashtra Industrial Development Corporation, where the proposal to denotify a sector-specific SEZ at Ratnagiri, Maharashtra spread over an area of approximately 141 hectares has been approved, subject to the refund of all the tax/duty benefits availed under the SEZ Act/Rules.

Despite the repeated denials by the government, this leads one to ponder whether the concept of the SEZs, which was envisaged as driving the economic boom, seems to have faded. The statistics on the denotification of SEZs prove this. This must ring alarm bells for the government, who should reconsider the policy for the status and usage of the land in a SEZ pursuant to the same being denotified.