The finance ministry is considering a string of tax sops for asset reconstruction companies and securitisation companies.

The ministry plans to allow the contribution made towards the initial capital of an ARC or SC by banks and financial institutions as a deduction in the hands of the contributors while computing their business income and also exempt distribution tax on dividend distributed by the reconstruction trust.

Further, income of the trust set up by the ARC is likely to be exempt from tax.

With the domestic financial system reeling under non-performing assets in excess of Rs 1,00,000 crore (Rs 1, 000 billion), the tax concessions being contemplated are significant.

"As the initial capital put in by banks and FIs will be utilised for setting up the operations of securitisation and reconstruction companies, the contribution has to be allowed as a deduction in the hands of the contributors. Towards this end, a new clause needs to be inserted in Section 36 of the Income Tax Act," said a source.

A similar enactment was made under Section 36 (1)(x) of the Income Tax Act to allow deduction of the contribution made by financial institutions to the Exchange Risk Administration Fund, which was set up to provide exchange risk protection to borrowers of foreign currency from financial institutions.

A new clause is to be incorporated in Section 115R to exclude reconstruction trusts from the liability of distribution tax. Investment in units of a reconstruction trust is akin to that in an equity-oriented mutual fund on account of the inherent high risk of investment in the underlying stressed assets with uncertainty in recovery of the defaulter dues.

To encourage the ARCs/SCs, which have been established in accordance with the Securitisation Act, 2002, and remove hindrances like double taxation of the same income, it is essential that the income of the trust set up by the ARC be exempt from tax, sources said.

The statute book already contains similar provisions to accord exemption to income in the hands of specified mutual funds falling under Section 10(23D) of the Income Tax Act. As the income of the trusts is to be exempt from tax, no tax is to be deducted at source on such income.