ISLAMABAD: The government is expected to withdraw general sales tax (GST) on construction of hydropower projects being developed by Chinese companies under the China-Pakistan Economic Corridor (CPEC) on the pattern of tax exemptions given to mass transits like Lahore Orange Line Metro Train last week.

Informed sources said that at least three major hydropower projects with cumulative generation capacity of over 2,700 megawatts among the priority list of CPEC would qualify for the GST waiver worth over Rs50 billion to facilitate their implementation, which is currently at very early stage. The move would improve cash flows of major investors like China Gazhouba Group and China Three Gorges Corporation, they said.

Last week, the Economic Coordination Committee (ECC) of the Cabinet granted Rs20bn tax relief to the Orange Line metro project and decided to extend the same benefits to three future projects of similar nature in Karachi, Quetta and Peshawar with cumulative impact estimated at around Rs80bn.

The sources said the proposal currently under examination would also be in line with similar tax exemptions on Thar coal-based power projects in Sindh to promote indigenous energy resources. Early last year, the Sindh government withdrew GST on services on construction of power projects to be run on Thar coal.

The hydropower resources are not only cleaner sources of energy but also renewable and indigenous. Also, Clause 4 of the CPEC framework agreement requires that Pakistan would ensure all preferential conditions to China that it may have extended to any other investor. This meant that hydropower projects being developed by Chinese firms also qualify for tax benefits that have been extended to Thar coal, mass transit projects in four major cities or infrastructure projects of the National Highway Authority.

The hydropower projects to qualify for these GST exemptions at this stage have been identified as $1.9bn, 720MW Karot Hydropower Project on the Jhelum river on the boundary of Azad Kashmir and Punjab; Khyber Pakhtunkhwa’s 870MW Suki Kinari Hydropower Project on the Kunhar river, a tributary of Jhelum; and more than $2.5bn, 1100MW Kohala Hydropower Project on the Jhelum river in Azad Kashmir.

Karot and Kohala hydropower projects with a cumulative capacity of more than 1,820MW are being developed by China Three Gorges Corporation and are in the process of financial close. The financial close of the $1.8bn Suki Kinari project, being developed by China Gezhouba and Saudi Al-Jomaiah Group, was announced early this week.

The sources said the 16 per cent GST on these projects was adjustable under the input-output GST mechanism but the refund against input adjustment is quite tedious, causing cash flow problems while the government wants smooth implementation of energy projects.

Another problem is the fact that the output tax on electricity produced is chargeable on energy purchase price (EPP) component of power tariff after the commercial operation date, but this was not applicable on capacity purchase price. Since the EPP is less than 5pc of the overall tariff in case of hydropower projects, output tax was insufficient to cover input sales tax on construction and operations.

As a consequence, the tax adjustment cannot be recovered or adjusted during the 30-year life of the project. The overall impact of the Karot Hydropower Project at the end of its 30-year life works out at around $120 million in adjustment shortfall.

Under the letter of support issued to Three Gorges, Karot should have achieved financial close last month. One of the factors for the delay is said to be an advance payment of Rs345m as GST on the EPC contract demanded by tax authorities.

In view of these challenges, the case is currently under active examination of the government to do away with GST application on hydropower projects in the priority list of CPEC to avoid cash flow problems to investors. Some stakeholders within the government, however, argue that such a dispensation would also be claimed by other investors on the basis of fairness and equity and could lead to have significant impact of FBR’s revenue targets.

Published in Dawn January 11th, 2017