Special Economic Zones Act, 2005 & Economic Transition In India:

A Legislative Comment


By Amruta Sawarkar,

V BSL, LL.B, ILS Law College, Pune.




I] History and passing of the Act.


II] Important Provisions of the Act.

a) Authorities under the Act

b) Incentives and Concessions granted to Developers & Entrepreneurs in SEZ’s

c) Distinguishing features of the SEZ

d) Exiting out of the SEZ Scheme


III] Critical Evaluation


IV] Conclusion: An Alternative way out.





Since the early 1990’s, India has undergone a series of transactions almost unprecedented in both pace and magnitude. The economy has no doubt progressively moved away from a central-planning configuration to a market-based one and from a relatively closed system to one that is increasingly integrated into the world economy. The developments have hastened the process of industrialization, urbanization and have also brought about an impressive upsurge with not only breathtaking expansion in production and trade but have also substantially improved the overall standard of living. Despite the internal and the external difficulties that the country has encountered, as well as the enormous social, political and economic challenges that it still is facing, the transactional process has so far, on an average, been remarkably smooth and, judged by most social and economic indicators, outstandingly successful.


Along with the robust economic progress, the country has emerged as one of the most dynamic and fast growing economies in the world with a powerful force driving development in the Asia region. Sweeping reforms are being carried out in areas ranging from taxation, investment financing, banking, and foreign exchange management to trade, wages and prices etc.  Slowly and steadily the private ownership is being encouraged and the private sector is playing an increasingly important role in the economy. Small and medium size collectively owned enterprises are flourishing in both rural and urban areas. And in such a background the Ministry for Industry and Commerce in the 56th year of the Republic decided to bring in an act that shall extend to the whole of India in order to provide for the establishment, development and management of the Special Economic Zones to enhance foreign investment and promote exports from the country and realizing the need that level playing field must be made available to the domestic enterprises and manufacturers to be competitive globally.


Originally the Indian SEZ was conceived on the model of Chinese SEZ’s way back in 1999-2000 when a delegation led by the then Commerce and Industry Minister Dr Murasoli Maran visited China along with the inter-Ministerial team of senior officials from the Ministry of Commerce, Industry, External Affairs and Finance to have on the spot feel of the functioning of the SEZ’s developed by China which had brought not only large chunk of FDI but also provided employment besides export-led growth and becoming the ‘Islands of Excellence’ of the Chinese economy.


What is a Special Economic Zone (SEZ)?

A Special Economic Zone (SEZ) is a geographical region that has economic laws that are more liberal than a country's typical economic laws. Usually the goal behind setting up of a SEZ is to bring about an increase in foreign investment. Special Economic Zones have been established in several countries, including the People's Republic of China,  Iran, Jordan, Poland, Kazakhstan, the Philippines and Russia. North Korea has also attempted this to a degree, but failed. In the United States, SEZ’s are referred to as "Urban Enterprise Zones".  Any Special Economic Zone (SEZ) that is setup, specifically delineates duty free enclave and is deemed to be foreign territory for the purposes of trade operations and duties and tariffs


Statistics show that as on 31.3.05, there are 811 units in operation in the 8 functional SEZs in India. Investments by the units in these Zones are of the order of Rs. 8309 million. The SEZ units provide employment to about 100650 persons out of which 32185 are Females.




Taking a leaf from the Chinese concept, the Government of India after detailed deliberation introduced the concept of SEZ for the first time in the EXIM Policy 1999-2000 by permitting two SEZs, one at Poshitra near Veraval Coast (Gujarat) and other at Nedundgerry (Tamil Nadu). While the Poshitra made a good beginning in collaboration with Port of Singapore Authority, no progress was made in the case of Nedundgerry. Later on a new Special Economic Zone Act 2005 was passed with following objectives in mind as laid down u/s 5:

a) For increasing exports                 

b) Generating employment

c) Attracting foreign and domestic investments

d) Creating world class infrastructure

e) And these objectives were to be achieved by providing competitive fiscal exemptions,

f) Uninterrupted power supply and easy access to international finance through Offshore Banking Units (OBU) to SEZ units and to the developers of the SEZs as well. It may be relevant to mention that RBI while announcing the OBU Scheme earlier in 2002 had envisaged that they will be virtually foreign branches of Indian banks and exempted from normal banking regulations. These OBU’s were also required to provide finance at international rates to SEZ units and developers by sourcing foreign currency funds externally as well as deal in foreign exchange, and follow all the norms applicable to overseas branches of Indian banks besides getting Income Tax exemption u/s 80IA.

Under section 3 of the SEZ Act, a Special Economic Zone may be established, either jointly or severally by the Central Government, State Government, or any person for manufacture of goods or rendering services or for both or as a Free Trade and Warehousing Zone. Any person, who intends to set up a Special Economic Zone, may, after identifying the area, make a proposal to the State Government concerned for the purpose of setting up the Special Economic Zone. A person may also make a proposal directly to the Board provided that, after receipt of such approval, the person concerned shall obtain the concurrence of the State Government within the period, as may be prescribed.


In case a State Government intends to set up a Special Economic Zone, it may after identifying the area, forward the proposal directly to the Board for the purpose of setting up the Special Economic Zone provided that, the Central Government may (a) after consulting the State Government concerned; (b) without referring the proposal for setting up the Special Economic Zone to the Board; and (c) after identifying the area; suo moto set up and notify the Special Economic Zone.


In any of the cases, the proposal is subject to such terms and conditions as it may deem fit, to impose, or modify or reject the proposal. After the Board approves of the proposal, whether it is with or without modification, it shall communicate the same to the Central Government.


Accordingly the Central Government will grant a letter of approval to the Developer under section 4 who will have to fulfill all the requirements in the specially identified area. It is only after the appointed day that the Board may, authorise the Developer to undertake in a Special Economic Zone, such operations which the Central Government may have authorised.


The SEZ Act under section 6 is to mention areas in the SEZ would be specifically classified as processing and non processing units and accordingly in the processing area Units for activities relating to manufacturing of goods, or rendering services and the area exclusively for trading or warehousing purposes would be located.



a)      Authorities under the Act


Chapter 3 of the Act has empowered the Central Government to constitute a Board of Approval for the purpose of performing the functions. The members of this Board are to have special knowledge and practical experience in matters relating to and activities connected with the Special Economic Zones. Section 10 of the Act empowers that if at any time the Board is of the opinion that a Developer - (a) is unable to discharge the functions or perform the duties imposed on him by or under the provisions of this Act or rules made thereunder; or

(b) has persistently defaulted in complying with any direction given by the Board under this Act; or

(c) has violated the terms and conditions of the letter of approval; or

(d) whose financial position is such that he is unable to fully and efficiently discharge the duties and obligations imposed on him by the letter of approval, and the circumstances exist which render it necessary for it in public interest so to do, the Board may, on application, or with the consent of the Developer, or otherwise, for reasons to be recorded in writing, suspend the letter of approval, granted to the Developer for a whole or part of his area established as Special Economic Zone, for a period not exceeding one year and appoint an Administrator to discharge the functions of the Developer in accordance with the terms and conditions of the letter of approval and manage the Special Economic Zone accordingly.


Consequent upon appointment of an Administrator, the management of the Special Economic Zone of the Developer shall vest in the Administrator.


Under section 11 of the act a Development Commissioner is to be appointed who shall take all steps in order to discharge his functions to ensure speedy development of the Special Economic Zone and promotion of exports therefrom. He is to ensure proper co-ordination with the Central Government or State Government Departments concerned or agencies and monitor the performance of the Developer and the Units in a Special Economic Zone. He is expected to discharge such other functions as may be assigned to him by the Central Government under this Act or any other law for the time being in force; and also discharge such other functions as may be delegated to him by the Board.


Section 15 lays down that any person, who intends to set up a Unit for carrying on the authorised operations in a Special Economic Zone, may submit a proposal to the Development Commissioner concerned in such form and manner containing such particulars as may be prescribed provided that an existing Unit shall be deemed to have been set up in accordance with the provisions of this Act and such Units shall not require approval under this Act. On receipt of the proposal  the Development Commissioner shall submit the same to the Approval Committee for its approval who  may, either approve the proposal without modification, or approve the proposal with modifications subject to such terms and conditions as it may deem fit to impose, or may even  reject the proposal. Provided that in case of modification or rejection of a proposal, the Approval Committee shall afford a reasonable opportunity of being heard to the person concerned and after recording the reasons, either modify or reject the proposal. Any person aggrieved, by an order of the Approval Committee, may prefer an appeal to the Board within such time as may be prescribed and No appeal shall be admitted if it is preferred after the expiry of the time prescribed therefore.


 U/s 16 The Approval Committee may, at any time, if it has any reason or cause to believe that the entrepreneur has persistently contravened any of the terms and conditions or its obligations subject to which the letter of approval was granted to the entrepreneur, cancel the letter of approval provided that no such letter of approval shall be cancelled unless the entrepreneur has been afforded a reasonable opportunity of being heard and even in this case an appeal may be preferred before the expiry of the said period.


U/s 20 for better working and ensuring SEZ’s the Central Government may, by notification, specify any officer or agency to carry out surveys or inspections for securing of compliance with the provisions of any Central Act by a Developer or an entrepreneur, as the case may be, and such officer or agency shall submit verification and compliance reports, in such manner and within such time as may be specified in the said notification


U/s 31 The Central Government to constitute, for every Special Economic Zone an Authority to be called the ……… (Name of the Special Economic Zone) to exercise the powers conferred on, and discharge the functions assigned to, it under this Act.


Section 17 says that setting up and operation of Offshore Banking Unit in a Special Economic Zone may be made to the Reserve Bank in such form and manner as may be prescribed. If the Reserve Bank is satisfied that the applicant fulfills all the conditions specified it may grant permission to such applicant for setting up and operation of an Off-shore Banking Unit. U/s 18 The Central Government may also approve the setting up of an International Financial Services Centre in a Special Economic Zone and may prescribe the requirements for setting up and operation of such Center.


Section 21 permits the Central Government to specify any act or omission made punishable under any Central Act, as notified offence for purposes of this Act and by general or special order, authorise any officer or agency to be the enforcement officer or agency in respect of any notified offences or committed in a Special Economic Zone. Every officer or agency authorised is given all the corresponding powers of investigation, inspection or search or seizure as is provided under the relevant Central Act in respect of the notified offences.


For better justice delivery system the act u/s 23 has assigned the Chief Justice of the High Court of that specified State, to designate one or more courts (a) to try all suits of a civil nature arising in the Special Economic Zone; and (b) to try notify the offences committed in the Special Economic Zone. Thus there exists a bar of jurisdiction to ensure much specialized and committed judicial setup. It is only in cases of Appeal that an approach to the States respective High Court is approved of. U/s 42 the Act also refers to arbitration to be sought as a medium to resolve dispute of civil nature arising amongst two or more entrepreneurs or two or more Developers or between an entrepreneur and a Developer in the Special Economic Zone.


Chapter VI lays down Special Fiscal Provisions whereby Exemptions, drawbacks and concessions are offered to every Developer and entrepreneur.



b)      Certain incentives and concessions offered to the Developers and Entrepreneurs in the SEZ’s:


·        100% FDI allowed for:

(a) Townships with residential, educational and recreational facilities on a case to case basis,

(b) Franchise for basic telephone services in SEZ.



c) Distinguishing Features of the SEZ

·        All the import/export operations of the SEZ units will be on self-certification basis. Goods and services going into the SEZ area from DTA shall be treated as exports and goods coming from the SEZ area into DTA shall be treated as if these are being imported.

·        The units in the Zone have to be a Net Foreign Exchange earner but they are not subjected to any pre-determined value addition or minimum export performance requirements.

·        Further Offshore Banking Units (OBU) are encouraged to be set up in the SEZs.

·        Under section 76F of the Customs Act rules are made that:
(a) any goods admitted to a special economic zone from the domestic tariff area shall be chargeable to export duties at such rates as are leviable on such goods when exported;                                                      
(b) any goods removed from a special economic zone for home consumption shall be chargeable to duties of customs including anti-dumping, countervailing and safeguard duties under the Customs Tariff Act, 1975, where applicable, as leviable on such goods when imported; and
(c) the rate of duty and tariff valuation, if any applicable to goods admitted to, or removed from, a special economic zone shall be the rate and tariff valuation in force as on the date of such admission of removal, as the case may be, and where such date is not ascertainable , on the date of payment of the duty.

·        No Environment Impact Assessment is required for setting up of SEZs.  In case the SEZ area is located near the coast, clearance is required from the M/o Environment and Forests under Coastal Regulation Zone (CRZ) Notification.

·        Under section 35 of the SEZ Act, the Central Government may, after due appropriation made by Parliament by law in this behalf, make to every Authority by way of grants and loans such sums of money as that Government may think fit for being utilised for the purposes of this Act.

·        Moreover under section 36 there is constitution of a Fund to be called the ………. (Name of the Special Economic Zone concerned) Authority Fund and there shall be credited thereto (a) all sums of money, which the Central Government may, after due appropriation made by Parliament by law in this behalf, provide to the Authority b) all grants or loans that may be made to the Authority under this Act; (c) all sums received on account of user or service charges or fees or rent for the use of properties belonging to the Authority etc.

·        Regular accounts and relevant reports and records are to be maintained and section 37 also specifies that the accounts of every Authority are audited by the Comptroller and Auditor-General of India at such intervals as may be specified by him and any expenditure incurred in connection with such audit shall be payable by the Authority to the Comptroller and Auditor-General of India.

d) Exiting out from SEZ Scheme:


A SEZ unit may opt out of the scheme with the approval of the Development Commissioner. Such exit from the scheme shall be subject to payment of applicable Customs and Excise duties on the imported and indigenous capital goods, raw materials etc. and finished goods in stock. In case the unit has not achieved positive NFE, the exit shall be subject to penalty that may be imposed by the adjudicating authority under

Foreign Trade (Development and Regulation) Act, 1992.


SEZ unit may also be permitted by the Development Commissioner, as one time option, to exit from SEZ scheme on payment of duty on capital goods under the prevailing EPCG Scheme, subject to the unit satisfying the eligibility criteria of that Scheme and standard conditions for exit indicated in Appendix 14-II of Handbook (Vol-I) of the Foreign Trade Policy.




As compared to the Chinese SEZs, Indian SEZ have the disadvantage of location, size and infrastructure; some of these having an area as small as 10 hectares for instance a multi product SEZ could be in an area of 100 hectares and above, IT specifics in an area of 50 hectares and jewellery only 10 hectares. Moreover only 25% of the area is earmarked for manufacturing activities and remaining 75% to be utilized for development of infrastructure facilities such as housing, road, hospitals, community centers, etc. including the residential accommodation. This has resulted in mushroom growth of SEZs and it is learnt that as many as 600 applications were received by the Board of Approval and 460 applications have been cleared so far and many more are in the pipeline. In the process it appears that the whole concept of SEZ has been diluted and got lost despite flaunting of Chinese example on SEZ, our mindset has not changed and we have not learnt all the lessons from Chinese experiment of SEZs but on the whole gamut of the globalization that China has to offer in the post-WTO era.


 In the race for grabbing prime land at subsidized rates by dislodging Indian farmers, the SEZ has permitted a virtual race for land grabbing in the garb of developing SEZs. This has undoubtedly led to a serious distortion of the Scheme bedsides resentment in the Indian farming community who has been displaced from their land without adequate compensation and resettlement. Examples of acquisition of land by Haryana, Punjab and elsewhere in the country has led to serious concern in the Government. Coupled with these concerns, excessive tax benefits extended to SEZ units and developers were likely to result in serious erosion of resources which as per the Ministry of Finance sources may result in the overall revenue loss of Rs.102,000 crores in four years out of which direct taxes loss are estimated to be Rs.54,000 crores and indirect taxes loss of Rs.48,000 crores which may adversely affect the management of countries finances.


It is also apprehended that if every SEZ unit was permitted to borrow 500 million dollar only by the OBU’s in such SEZs, it may lead to overall increase of external debt of the country. Total borrowings by SEZ units so far during the last couple of years which are presently operating only in three SEZs – SEEPZ SEZ (Mumbai), NOIDA SEZ and Cochin SEZ comes to only 200 million dollars (approx.) which is not very encouraging looking to the size of investment made in the existing 15 SEZs.

Ever since the SEZ Act and Rules came into force last year, several concerns have been raised ranging from acquisition of fertile agricultural land, change in land use pattern, resettlement of displaced agriculturists, and environmental issues. Equally there has been a deluge of announcements in the Media both by the private investors as well as State authorities which have led to suspicion that these are more of a land grabbing attempts seeking generous incentives/tax bonanza and real estate boom and less of manufacturing, exporting, employment generating and foreign exchange earning entities as envisaged in the Act itself. Experience of the existing 15 functional SEZs which have attracted so far an investment of Rs 2200 crores (approx.) is dismal in terms of the overall export kitty of the Government. As such there is a need to revisit the whole gamut of the SEZ policy along with the attendant concessions of all sorts announced so far to provide a course correction and desired direction in order to enable the country to achieve the objectives of the SEZ. It has all the more become necessary when the policy as such acquired political overtones leading to misapprehensions and concerns of all type from large sections of Indian society both urban and rural in particular. Even in Post WTO China after 2001 there has been a gradual shift in state support to these SEZs in order to adhere to WTO regulations. Since the whole SEZ concept has been based on the Chinese experiences of over two decades, it may be relevant to have some comparative advantages/disadvantages of both the systems:-

a) In Chinese SEZ, tax benefits are available to foreign investments and not to exports alone unlike in India where apart from export units, SEZ developer also gets substantial tax benefits as may be noted from table above. Hence there is a need to limit/restrict such benefits.

b) While Six Chinese SEZs are located in a large area and in the less developed coastal belts, Indian SEZs are spread all over country in all sizes ranging from 10 hectares to over 100 hectares, largest SEZ in India is being developed by Reliance Industries in an area of 1000 hectares approx.

c) In terms of labor laws Chinese SEZ have more flexibility in comparison to Indian labor laws which are restrictive and less liberal.

d) All the Chinese SEZs are developed by the state while Indian SEZs have a mixed bag of both state and private enterprises.

In order to arrest the mushroom growth of so many SEZs which have yet to take off, capping of SEZ unit would be necessary sooner or later lest they become tax havens like Bahamas, Channel Island and St Kitts. Here again if we follow the Chinese model, we may have five or ten large coastal SEZs with state driven public-private partnership in one category with all infrastructure facilities and multi-product manufacturing units, and the second category could be of smaller SEZs to be developed in the hinterland areas as the feeder channel in terms of providing inputs, raw materials, intermediate products to the larger SEZs besides HRD Support and services.

Further these SEZs should be established in the least developed areas such as Northeastern states and nearer to the border for giving support to the international trade with neighboring countries in the wake of RTA and FTA Agreements. Such a development would reduce the economic disparity within the country in terms of industrial and economic growth. Here again we could take lesson from Chinese development of Greater Mekong Sub Region.

The smaller SEZs could also be commodity specific Zones such as for Textile, IT, IT- enabled and service oriented institutes and HRD.

In order to take care of the problem of acquisition of land, resettlements, larger SEZs should be located on the coastal areas which would take care of most of the concerns of the agriculturists relating to land acquisition and also political and environmental concerns barring the security aspect which will have to be kept in mind. The land acquisition policy for such smaller Zones should be, as some of the States have already started doing either only arid land or semi-arid land, yielding only single crop should be acquired but compensation at market rates and not the land revenue rates which are too meager. In any case the State should not be the one acquiring the land except acting as a facilitator between SEZ developer and the land holder.

Land use for industrial and manufacturing activity should be more in ratio of 50% as against the present stipulation permitting only 25%.This would balance both the manufacturing as well as infrastructure development and provide fewer avenues for making such Zones only as a real estate development.

Greater flexibility in the existing Labour Laws may be provided particularly for the larger SEZs on the Chinese pattern.

In order to make FDI more attractive in SEZs mere operational freedom to the existing OBU units on the Chinese pattern should be done.

Tax benefits should be linked to the overall performance of both the units as well as developers in the zones with a cut off point and bench mark rather than existing stipulations.

Lastly the concept of ‘one stop service’ should be created for SEZs with single command for providing expeditious clearance and trade facilitation enabling the units to reduce their transaction time and cost and be competitive in the domestic and international market.


Is the SEZ a Rip Off of the nation?


The SEZ s are touted as future engines of growth by establishing excellence zones but if you closely examine the developers/SEZ units profile then it is self evident that three things are imminent.

 1. Land Grabbing at throw away prices.

 2. Tax exemptions exploitation.

 3. Huge downward impact on Tax: GDP ratio & the common man has to pay the price of it.


If these zones are excellence are even made then this will be costly exhibition pieces (like Shanghai) but not the engines of growth. The underdeveloped environment surrounding these zones will drag down these zones in time to come. Advanced infrastructure will clash with Indian realities. (JNPT port is a case in point-How we plan & implement). The differentials will exacerbate inequities & create very serious problems for the domestic tariff units and this is unsustainable. The public governance has to improve to deliver desirable outcomes & there is no semblance of this in SEZ scheme.

May be the GDP figures will show growth because of the SEZ & create a lot of Buzz & talking points but the real India will be withering under the load of the SEZ s. There may be more money in the hands of the people but then that will not be enough to secure good education for their children.

With exemptions from all taxes & duties are made available there is no issue that an enabling environment  will be created where the Indian manufacturers will be ut at par with any other nation but in addition to all the valid exemptions, IT exemption is allowed, which is subsidy & keeps exports subsidy dependent & perpetuates inefficiency. The exporters remain inefficient so that subsidies continue.

If Income Tax exemption is actionable subsidy then why it should be given & risk taken. The DGFT is reportedly concerned with saving Advance Authorization scheme but ready to jeopardize the SEZ scheme, WHY!

Without nett additionality in investments & blanket tax exemptions & huge actual revenue losses by way of income tax waiver, SEZ s can only be misutilized & will not be able to push exports in a big way.

 In the name of Export Promotion anything & everything has been done. Target Plus scheme benefited a select few to the extent of Rs.10000 Crores.5 Biggest IT companies get away with more than 1000 Crores IT exemption per year. They have been getting IT exemption for more than 10 years. All these companies have more than 500 Crores in their balance sheets through IT exemption already. Still these companies want to extend their IT holidays by moving to SEZ s. The IT exemptions have made the owners filthy rich because there is no tax on dividends. The General reserves have been capitalized by issuance of liberal bonus shares serving their own benefits.

If SEZ s can be the real engines of growth then why the existing SEZ s are failing to showcase the future success. Just the name change cannot serve any purpose. Is it that the government is a miserable failure & cannot ensure success. 

When the best enabling environment to ensure profitability of the SEZ s is made available by giving all possible exemption then why SEZ income should be tax exempt. This tax exemption can be as high as 300-500% of effective rate of duty. If profits are earned by SEZ unit or by domestic tariff area units then why they should be treated differently under the IT law. The colour or treatment of profit does not depend on how it is earned. An inequitable treatment of income is detrimental & favours the rich & permits them the benefit of rent seeking.

If the SEZ’s are meant to bring in all inclusive growth then they should pay taxes & make a positive contribution to the growth of the economy.

In Haryana, the farmers are complaining that their livelihood has been taken away & they are paid paltry sum. The Income tax law or the intention of the SEZ policy is that it would entail additional investments, additional production capacities & additional exports i.e. incremental approach is the key. However, there is no provision in the law, which ensures & implements this! If this is to be implemented then the IT law should specifically spell this out. The Income Tax act says that the SEZ unit should not be set up on the basis of relocation, re-organizing of business, splitting up of business etc. however; the SEZ Act does not spell this out.

The IT exemption to Free Trading & Warehousing Zone is touted by the Ministry of Commerce & Industry as available & accepted by the parliament but the Ministry of Finance neither accepts this nor there is a provision in the IT law. The issue is headed for courts like many other MOC & I Export promotion schemes.

The same kinds of benefits are available in Uttranchal & there is no condition to export but then there is no mad rush there because land grabbing is not possible.

On the other hand we have the power units who can be established in SEZ s. The power units can sell power to DTA by just paying duties on consumables therefore SEZ units can be a big threat to domestic power producing companies because of all the other advantages showered on them.



The SEZ’s no doubt are the real engines of growth, but these developments ought to take place through non fiscal sacrifices and by taking a holistic development view taking the underdeveloped regions along.

To be able to have a harmonious development we need to understand the major difference between the Indian SEZ Policy and that of China on the land issue. In the Chinese case, the State acquired the land and developed the required infrastructure, where private enterprises were invited to set up units. The land continued to be owned by the State. In the Indian case, private entities are being involved in developing the SEZ infrastructure. Land is being acquired by the State and handed over to private developers. Some of the proposed SEZs involve huge tracts of land, over 10000 hectares in some cases. If private entities are allowed to own such huge tracts of land, it would amount to the reestablishment of the zamindari system sixty years after independence and this is totally unacceptable.

Moreover, a thorough cost-benefit analysis of the SEZs, especially the giant-sized ones, from the point of view of rehabilitation and livelihood security of the displaced people, diversion of agricultural land and its implications for food security, the nature of urbanisation, usage of power and water and environmental impact assessment, is necessary before approving these projects. While land is a State subject and the cost-benefit analyses have to be undertaken by the State Governments before approving the SEZ proposals, the Central Government also needs to take a view on the important issues related to land acquisition, ownership and use. The following measures are suggested:

(a) There should be no transfer of land ownership to the private developer. Private developers should not be allowed to take land on lease or build the infrastructure on a BOT basis. Moreover, the Board of Approval for SEZs at the Centre should only consider those proposals, which have been duly approved by the State Governments.

(b) The Central Government should set an appropriate ceiling on the total land area under a SEZ, which can be developed by a private entity. In Section 5(2) of the SEZ Rules only minimum land area requirements for the different classes of SEZs have been mentioned. The maximum land area also needs to be specified here. Private entities should not be allowed possession or control of land beyond the stipulated ceiling.

(c)  SEZs whose land area exceeds the specified ceiling should only be developed by the State (Public Enterprises of the Central or State Governments). The State can undertake Joint Ventures in developing such SEZs; but in such cases majority stake should lie with the public sector. Selection of the private developers in the case of Joint Ventures should be made in a transparent manner.

(d) SEZs should be built on non-agricultural land and acquisition of agricultural land for the purpose of SEZs should be discouraged. A provision limiting the acquisition of agricultural land should be built into the SEZ Act itself.

(e)   In case of displacement of farmers and other sections of people, it is important to ensure the livelihood security of the displaced families in addition to providing adequate compensation. The role of the Government in land acquisition should be geared towards protecting the interests of the people, especially the displaced families. The Government should frame a National Rehabilitation Policy, preferably through a Central legislation, in order to address the issues concerning rehabilitation of displaced families. Suitable amendments should also be made to the Land Acquisition Act in order to address these issues.

(f)   A model compensation and rehabilitation criteria should be framed by the Central Government and included in the SEZ Rules, following consultation with the State Governments. It should be ensured that the current owners of land are awarded compensation in line with market prices taking into account the expectation of future land development. The suggestion that displaced families be given minor equity stakes in the companies floated for the purpose of building SEZs can be considered as an option. A provision must also be made to compensate those with long-term tenancy rights on the acquired land and farm labourers.

(g)  The Government should urgently address the issue of unblocking and recycling of land and other assets of closed industrial units under liquidation.

Apply Appropriate Cap on Different Classes of SEZs

The initial cap of 150 on the total number of SEZs was later lifted by the Central Government. Since different classes of SEZs have been envisaged in the SEZ Rules, a cap on the total number of SEZs irrespective of its class and size makes little sense. However, if several large SEZs developed by private entities are allowed to come up in a few States, while many States do not receive any proposal from private developers, this will only aggravate regional imbalances. The RBI has also expressed concern on this issue in its latest Annual Report. It needs to be noted that the total number of SEZs in China stands at six only. Moreover, the proliferation of proposals for setting up IT SEZs is clearly an attempt to take advantage of tax breaks. There is an apprehension of existing units shifting over to SEZs, which will result in loss of revenue that presently accrues to the Government.

Therefore, there should be separate caps for the total number of multi-product and sector specific SEZs. This also provides a further case for fixing an appropriate ceiling on the land area of SEZs developed by private entities. The Central Government should consider setting up of SEZs through public investment in those States where private investment is not forthcoming. This is important from the point of view of regional balance. A cap on the number of IT SEZs should also be set keeping in mind the revenue considerations.

Revise the Criteria for Processing/Non-Processing Area

The purpose of setting up SEZs is to promote foreign and domestic investments and exports of goods and services. However, certain provisions in the SEZ Rules prepared by the Ministry of Commerce and Industry have opened up the possibility of misuse of the myriad exemptions provided by the SEZ Act, which could thereby fuel a real estate bubble.

According to Section 5(2) of the SEZ Rules, while at least 50% of the land area needs to be earmarked for developing processing area for sector specific SEZs, the minimum processing area requirement for multi-product SEZs is only 25%. It is noteworthy that while the minimum land area requirement for sector specific SEZs is 100 hectares, for multi-product SEZs it is 1000 hectares. Therefore, while a developer of a sector specific SEZ of 1000 hectares is required to develop at least 500 hectares of processing area, the developer of a 1000 hectares multi-product SEZ is required to build only 250 hectares of processing area. This is a clear anomaly. The processing area of SEZs should not be less than 50%. Further, 25% of the non-processing area should be dedicated for infrastructure development. Building of residential and commercial complexes should be permitted over 25% of the total land area. The SEZ Rules should be suitably amended in this regard.

Regulate Land Use within SEZ Area

There are certain provisions contained in the SEZ Rules, which have given rise to apprehensions regarding misuse of the SEZ Policy. For instance, Section 5(4) of the SEZ Rules state that “The Developer or Co-Developer shall have at least twenty-six percent of the equity in the entity proposing to create business, residential or recreational facilities in a Special Economic Zone in case such development is proposed to be carried out through a separate entity or a special purpose vehicle being a company formed and registered under the Companies Act, 1956.” However, no guidelines have been provided for the creation of such facilities, either in terms of land use or other essential regulatory parameters of such real estate development. The RBI has recently raised the interest cost of credit for real estate development in the SEZs. In keeping with such an approach, there is a need to regulate real estate development within the SEZs.

The SEZ rules have to clearly lay down norms for the development of infrastructural facilities by private developers within the SEZs, in terms of what is permissible and what is not. The role of the SEZ Authority and the Development Commissioner in this regard needs to be categorically defined. Most importantly, the SEZ Rules should contain a Land Use Plan for the giant SEZs. The issue of housing facilities for the workers in the giant SEZs have to be concretely addressed. Wherever residential complexes would be permitted within the SEZs, they should be built not only for the management and the white-collared employees but also for the workers. A situation where lakhs of workers of the SEZ units would be forced to stay outside the SEZ area leading to a proliferation of shantytowns in neighbouring areas should not be allowed to arise.

Review Tax Concessions

The revenue implications of the tax holidays being given under the SEZ Policy have to be seriously considered. According to media reports, internal estimates of the Finance Ministry suggest a revenue loss of Rs 1,75,487 crores against an estimated investment of Rs 3,60,000 crore. While these projected estimates are based upon certain assumptions, the issue cannot be brushed aside by saying that these revenue losses are “notional”, as the Minister for Commerce and Industry has done in the Parliament. In a context where subsidies on food, fuel and fertilizer are being whittled down and the social welfare schemes promised in the NCMP being either under funded or abandoned by the UPA Government citing resource constraints, the justifiability of the tax largesse to big business under the SEZ Policy needs to be thoroughly debated. Through the Note on Resource Mobilization submitted to the UPA Government-Left Coordination Committee in January this year, the Left parties had suggested that the Government should revisit the tax concessions under the SEZ Policy. Unfortunately, this has not been considered so far.

Given the concerns expressed from different quarters with regard to revenue loss, tax concessions in some areas in Chapter VI of the SEZ Act, under the “Special Fiscal Provisions for Special Economic Zones” need to be reconsidered by the Government:

(a)   While customs and excise duty exemptions for units within the SEZs can be understood as measures to ensure price competitiveness of exports, the case for providing 100% exemption from income tax on profits for the first 5 years and 50% for the next 5 years by modifying the Income Tax Act, as has been provided in the Second Schedule of the SEZ Act, does not seem to be persuasive. Such fiscal incentives for new units, if it is to be given at all, should not be for more than 2 years, as was done in the case of Chinese SEZs. Income tax concessions for a period longer than 2 years should only be provided for the reinvested portion of profits, and that too only for a maximum of five years.

(b)  Chapter VI of the SEZ Act provides for similar exemptions, drawbacks and concessions for the entrepreneurs setting up units within the SEZ and the developers of the SEZ. Thus private developers will be able to derive tax benefits without contributing to exports. The positive net foreign exchange earning requirement, specified in Chapter VI of the SEZ rules, is only valid for units within the SEZs and not the developers. Therefore the developers and the entrepreneurs should not be treated on par as far as tax exemptions and concessions are concerned. Fiscal incentives for developers, if they have to be provided at all, should be separately specified and should be considerably lesser than the ones provided for the entrepreneurs for income tax as well as customs and excise duties. 

(c)  Exemption from Service Tax has been granted to the developers in a Special Economic Zone in the SEZ Act. Moreover, units in the International Financial Services Centre and Offshore Banking Units have been given income tax exemptions equivalent to those of other units in the SEZs. Securities transactions entered into by non-residents through the International Financial Services Centre under a SEZ have also been exempted from the Securities Transaction Tax. These policies will simply encourage investors, including in financial services, to move from other locations in India to SEZ areas, with no benefit to the economy and substantial revenue loss. These exemptions, which are unrelated to exports, should not be granted.

(d)  Section 50 of the SEZ Act state: “The State Government may, for the purposes of giving effect to the provisions of this Act, notify policies for Developers and Units and take suitable steps for enactment of any law: - (a) granting exemption from the State taxes, levies and duties to the Developer or the entrepreneur”. Thus the SEZ Act empowers the State Governments to take decisions related to exemptions of State taxes. However, Section 5(5) of the SEZ rules state that “Before recommending any proposal for setting up of a Special Economic Zone, the State Government shall endeavor that the following are made available in the State to the proposed Special Economic Zone Units and Developer, namely: - (a) exemption from the State and local taxes, levies and duties, including stamp duty, and taxes levied by local bodies on goods required for authorized operations by a Unit or Developer, and the goods sold by a Unit in the Domestic Tariff Area except the goods procured from domestic tariff area and sold as it is; (b) exemption from electricity duty or taxes on sale, of self generated or purchased electric power for use in the processing area of a Special Economic Zone”. In effect, the SEZ Rules have imposed the granting of tax and duty concessions upon the State Governments, which is not in keeping with the spirit of the Act. Either this rule has to be amended or the Central Government should fully compensate the State Governments on the loss of revenue on account of these tax and duty exemptions.

(e)  The granting of duty concessions to goods sold by a Unit to the Domestic Tariff Area should not be permitted, since such concessions are intended only for exports. This will imply major diversion of productive activities away from the Domestic Tariff Area to the SEZ, with substantial revenue loss for both the Central and State Governments.

Protect Worker’s Rights

Section 5(5) (e), (f) and (g) of the SEZ Rules asks the State Governments to delegate powers under the Industrial Disputes Act to the Development Commissioner and to declare SEZs as Public Utility Services. These are incompatible with the SEZ Act, which does not contain any such provision. Such deviations of the SEZ Rules from the parent Act have to be corrected. The ILO recommendation regarding separation of powers between the Development Commissioner of an Export Processing Zone and the Grievance Redressal Officer should be seriously considered in this regard.

Prevent Enclaves of Speculative Finance

The provision for setting up Offshore Banking Units and International Financial Services Centers within the SEZS needs to be qualified. While the need for efficient financial intermediation and credit delivery for the purpose of industrial and export promotion within the SEZs is understandable, utmost care has to be taken to ensure that these financial entities do not develop as tax havens for speculative finance capital. There is no need for providing tax breaks for the financial entities within the SEZs. All financial activities should be within the regulatory ambit of the RBI and subject to the same tax provisions regardless of whether their offices are physically located within the SEZ or the Domestic Tariff Area. Moreover, the RBI needs to ensure that the financial activities permitted within the SEZs are strictly related to the economic activities within the zone.

 Amend SEZ Act and Rules

The suggestions made above involve several amendments to the SEZ Act and the SEZ Rules. It is firmly believed that unless these changes are brought about, the SEZ Policy would degenerate into a free fall for all, which would have serious consequences. The Government should therefore initiate a Review of the SEZ Act at the earliest with a view of making appropriate amendments. Amendments to the SEZ Rules can be made consequent to the Amendment of the Act. The Board of Approval should stop granting fresh approvals until the completion of the Review process. The changes suggested in the Land Acquisition Act and the formulation of a National Rehabilitation Policy, preferably through the passage of a Central legislation, should also be considered on an urgent basis.

Thus it can be well concluded that no doubt the Special Economic Zones would most certainly help built up infrastructure and promote exports, enhancing employment generation but it is important to ensure that the Special Economic Zones do not turn themselves into Conflicting Zone where floods of investment will be drawn creating oases of development within underdeveloped rural and urban areas, aggravating even more the problem of uneven growth within and across the nation.