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India attacks US on plan to ban outsourcing

India attacks US on plan to ban outsourcing

Author: Khozem Merchant in Mumbai
Publication: Financial Times
Date: January 25, 2004

India's technology industry has attacked proposed new US legislation that bans the outsourcing of federal work to low cost countries arguing it is a protectionist measure contrary to the spirit of free trade.

The move by the US Senate coincides with decisions by a number of foreign companies to halt further outsourcing to India because of a new domestic tax ruling that would enable the Indian government to tax part of their worldwide earnings.

The US bill, which was passed by the Senate of Friday but has still to be signed by President George W. Bush before it becomes law, is the most significant attempt to stop outsourcing, a fast-growing industry trend that has led to the loss of thousands of highly-paid technology jobs in the US and become a hot political issue in a US election year.

Although US federal contracts account for only 2 per cent of India's IT earnings, the bill sends a worrying message to the Indian outsourcing industry, which has been lobbying hard to stave off protectionism.

Arun Shourie, Indian's information technology minister, said the bill damaged the outlook for talks on freer multilateral trade. Kiran Karnik, president of Nasscom, the umbrella body for Indian IT, said he "hoped wiser counsel would prevail" before the law was enacted.

The revenues from India's technology industry are forecast to expand by a third to $15.5bn in the year to March, with two-thirds of the growth coming from the US, as more companies in North America and elsewhere leverage India's high IT skills and low costs.

But US companies such as JP Morgan and General Electric, which have outsourced thousands of jobs to India, could be casualties of the controversial rule on the taxable status of foreign companies' outsourced units. This week Nasscom said three unidentified foreign companies with back office operations in India had frozen future outsourcing until "there was clarity".

The government circular, which is binding on the tax-collecting authorities, says a foreign company's global income would be taxable under India's double-tax treaties if that company's outsourced unit in India carries out "core revenue-generating activities." Non-core activities conducted at arm's length and at fair market value would be exempt.

Accountants say the ruling introduces artificial distinctions between core and non-core work. "This raises technical ambiguities that could lead to litigation," said one tax expert.

Experts say an accepted principle of global accounting norms is that double-tax treaties override domestic tax regulations. Foreign companies could therefore appeal to double tax pacts, which prevent the imposition of taxes from different countries on the same business, to circumvent the circular.

Nasscom has protested to the Indian government, arguing the measure is contrary to the government's tax-friendly stance towards a nascent, job-creating industry.

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