TAX NEWS - June 2010

Safeguards on anti-avoidance rules welcome, but not enough

Mumbai: The general anti avoidance rules (GAAR) proposed in the draft direct taxes code (DTC) had given the commissioner of income-tax (CIT) wide-ranging power to declare an avoidance arrangement as impermissible and had put the onus entirely on the taxpayer to prove his innocence.

This was a major area of concern as it would have caused massive uncertainty, subjectivity and thus led to extensive litigation.

A view questioning the introduction of GAAR itself was also prevailing, since tax authorities were well-equipped with various anti-avoidance provisions to identify and pursue transactions involving impermissible tax avoidance practices even in the pre-GAAR era in the light of various anti-avoidance provisions in statute and judicial precedents laying down well-settled principles.

The revised discussion paper (RDP) on DTC, released last week, somewhat reinforces the government's intention to insert GAAR provisions in DTC, though, it clarifies that every arrangement for tax mitigation would not be classified as an impermissible avoidance arrangement.

Based on several representations made by the industry and tax experts, the following additional safeguards for invoking GAAR are provided in the RDP:

- Central Board of Direct Taxes (CBDT) will issue guidelines outlining the circumstances under which GAAR may be invoked;

- GAAR would be invoked only where tax avoidance would be beyond a specified threshold limit;

- Dispute Resolution Panel would be available where GAAR is invoked.

The above safeguards are welcome, but not enough. The government should give considerable attention to certain points discussed below while tabling the revised DTC.

Clarity is required on the commencement date of GAAR to avoid complex situations where certain transactions are entered before its commencement, but the effect of which spills into post-GAAR period. Therefore, GAAR should be made applicable only to transactions undertaken subsequent to introduction of GAAR in statute.

CIT should not be entitled to invoke GAAR as an alternative basis for making assessment as this would be contrary to the taxpayer's inherent right to administrative justice.

CIT should be required to undertake assessment on taxpayer under general provisions of DTC and only in the event of inability, should he have an option to invoke GAAR. Further, CIT should invoke GAAR through reassessment proceedings only in case of concealment of evidence relating to transaction to field officer. Also, specific time limit (preferably not exceeding one year) should be incorporated for initiating GAAR proceedings.

Despite CBDT outlining circumstances for invoking GAAR, each proposed adjustment on account of GAAR should be approved by a separately constituted independent body, ideally made up of judiciary members. This would avoid the concern of GAAR being invoked by revenue authorities in a routine manner and use of this machinery in an exceptional situation.

GAAR should be modified to put the burden of placing adequate evidence of an impermissible tax avoidance engagement on revenue authorities in the first place prior to invoking GAAR.

GAAR must recognise that tax is a cost of doing business/ earning income and as such, it is legitimate for taxpayers to reduce their tax cost within the bounds of law.

In order to avoid re-invention of wheel in terms of litigation, DTC should explicitly clarify that only contrived and artificial transaction carried out solely for obtaining a tax benefit without any commercial purpose/ substance would be targeted and tax planning within four corners of law should still be permitted.

A framework also needs to be put in place whereby taxpayers can obtain advance rulings on whether a proposed transaction falls within the ambit of GAAR.

Last but not the least, the government should reconsider codification of GAAR in statute as part of DTC in a hurried manner without a careful study of its side effects, especially in terms of foreign direct investment into the country. A consultative committee comprising revenue officials, industry experts and tax consultants should be set up to evaluate and deliberate on whether such a legislature is required in law.

Need for GAAR should be assessed in the light of experiences since the DTC was announced. Alternatively, the introduction of specific special anti avoidance rules (SAAR), in preference to GAAR, should also be weighed. The whole intent behind such legislative move should be to check cases of blatant tax evasion rather than questioning every transaction.