MUMBAI: Advertising agencies in India, which have not built scale, are in danger of being badly bruised from a new rule that comes into force from 1 July.

The gravity of the situation runs deep into the heart of the advertising business, prompting reactions from across the industry that huge cash flow requirement could lead to the closure of small and medium-sized agencies.

The culprit is the new Point of Taxation Rules 2011 under Service Tax that require advertising agencies to pay the tax as soon as the invoice is raised (or services are completed), irrespective of payment collection. Also, service tax must be paid within 14 days of providing service.

There are around 1,000 ad agencies registered under Indian Newspaper Society (INS), out of which 960 run small and medium-sized operations. 
 
Leo Burnett CEO Arvind Sharma said, "Smaller vendors or agencies depend completely on their payments from clients to pay-off their debts and taxes. Huge cash flow requirement may lead to closure of medium and small agencies."

That may be an exaggeration but it has made the ad agencies act collectively. The Advertising Agencies Association of India (AAAI), the apex body of advertising agencies in the country, has set up a core five-member team to deal with the repercussions of the POT rules.
 
The team comprises Madison World chairman and MD Sam Balsara, AAAI president Nagesh Alai, Aegis Group chairman India and CEO South East Asia Ashish Bhasin, Group M CEO South Asia Vikram Sakhuja and Lodestar Universal India CEO Shashi Sinha.

Representatives of the ad industry will be meeting the government officials on Friday to discuss this burning topic.

Balsara is aghast with the proposed changes. "Earlier the payment of service tax was linked to actual collection of service tax for the services provided. Now the agencies are expected to pay 10.3 per cent service tax even before receiving the payments," he said.
 
The health of agencies could further weaken as the service tax payment would be even on bad debts. While the government seeks to advance collection of service tax, there is no provision to adjust excess service tax collected. There is no provision for adjustments of bad debts or settlement based on re-negotiated price.

"The new "Point of Taxation Rules 2011" doesn‘t differentiate between various service providers. How can one equate an on-off service provider of service (pandal contractor or beauty parlour owner) to that of business-to-business service providers with long-term contracts," AAAI has said in an open letter to the government.

Sharma cautions, "It is a huge challenge for agencies. We don‘t have goods that we can secure. In a business already working under marginal margins, additional taxes will be debilitating."

Sharma said that the agencies will get penalised from all sides. Everyone attached with the advertising sector will be affected including the printers and stationary providers as their bill payments will be delayed. He pointed out that this tax arrangement would work well for funded businesses, but would prove to be completely disruptive for the advertising sector.

The new provisions would force the agencies to look for bank credit, which, if obtained, can go up to 20 per cent of an agency‘s total revenue.

Bhasin fears that these provisions "will encourage malpractices" and affirmed that "the rule is not implementable".

MediaCom MD Debraj Tripathy said given the fact that agencies work on such thin margins, the new rules are very difficult to comply with, because of the time needed to bill the clients.

Law & Kenneth India CEO and managing partner Anil Nair noted that if this rule is implemented, the training and development programmes will be the first to get affected.

A senior industry official said he is skeptical of the industry‘s ability to influence the government decision, "Creative guys are at the end of the money chain and no one seems to be taking them seriously. This will be the first time that the industry would be able to influence the government‘s decision, if it happens."

Noticeably, the industry honchos unanimously agreed on one point: the government‘s inability to understand the peculiarities of the advertising sector.