Banking and Healthcare sectors in the European Union will now find it difficult to offshore their work to the ITeS majors in India – Infosys, Tata Consultancy and Wipro owing to the new set of VAT rules set up by the EU this January. While the new rules will make outsourcing costlier by around 15 per cent, the top Indian technology firm will also face a cut in their profit margins.

Quoting Amneet Singh, vice-president of Everest Group, a report in the Economic Times said that since the new rules would affect rates by anything between 10% and 15%, many customers in the European Union have already started to renegotiate their rates with the Indian tech firms.

It may be mentioned here that the 27 nations of the EU has enforced new VAT rules on services obtained from nations outside the bloc like India. The new VAT rules that became effective from January 1, 2010 are expected to make a further dent in the profits of the tech service providing firms. In fact, according to the new VAT rule, the place of supply is also supposed to be the buyer’s location, making offshore outsourcing liable to VAT in economic sectors like the banking and financial services, healthcare as well as education.

According to Nick Beecham, a partner at Field Fisher Waterhouse, EU customers who outsource their IT and back-office work will now be expecting to haul out superior value from their service providers in order to make up for the financial repercussions of the new tax rules. Meanwhile, recent studies conducted by the Everest Group indicate that prior to the new VAT rules companies were able to cut costs by 30% but now the savings may be reduced by 10% to 15%. This assumption has been made on the basis that the seller may forward the total tax liability in the wake of the tax responsibility.

Nevertheless, Singh observes that the IT service providers would still be in a sound position with existing contracts since with the new VAT regime the billing rates would come up for appraisal and hopes that the suppliers would succeed in swaying the buyers to adjust it. On the other hand, Singh says, that the buyers will now be compelled to reassess their outsourcing policy.

Som Mittal, president of the Nassocom, however, differs with the views expressed by Singh. According to Mittal, since Indian IT companies don’t serve the end customer, an EU customer can make up for the VAT charged by the Indian partner by passing it on to the final customer.  Hence, there is no possibility of  pressure developing on the Indian IT service providers’ billing rates.