This paper is authored by Abhinav Bishnoi, final-year law student at Institute of Law, Nirma University.
Abstract
The General
Anti-Avoidance Rule (GAAR) is an anti-tax avoidance law that came into effect
in India on 1st April 2017 to curb tax evasion, tax mitigation and tax
leaks. The provisions of the same are in Income Tax Act, 1961. After the
liberalization of the Indian economy, there has been an increase in the number
of sophisticated tax avoidance methods by the taxpayers and several spanning
tax jurisdictions even worsen the situation. It made it infeasible for the
judiciary alone to understand the unforeseen implication of transactions
carried out for tax purposes. The Vodafone case was one of the biggest sensations
of Indian taxation history and was also one of the reasons behind the formation
of GAAR. Tax avoidance or tax evasion seriously undermines the achievements of the
public finance objective of collecting revenue in an equitable, effective, and
efficient manner. But there always has been a debate around the globe that
whether the reduction in tax liability through a transaction or a series of
transactions is tax planning or tax evasion.
We will study the effect
GAAR within the country has on corporate tax avoidance behaviour. We will in
this paper also study the Vodafone case and the situation prior to the
implementation of GAAR. The author hypothesizes that after the GAAR rules came
into effect there has been economically increase in the aggregate tax
collection and a decrease in firm-level tax avoidance. The GAAR rules provide
the authorities with wide discretionary power that would have significant
implications, both positive and negative. The arbitrary use of GAAR by the
authorities will demotivate the investors and drive them away from investment
in the economy. Hence a proper balance is required to be made between
conflicting interests of tax planning and revenue collection. The research
methodology used here by the author is doctrinal in nature and the paper will
be beneficial for the academicians, students and people belonging to the law, tax,
and corporate field.
Introduction
The importance of the General
Anti-Avoidance Rule (GAAR) has emerged with disappointment due to low tax
collection by the Multinational Corporations (MNC) and thereby leading to less
revenue of the nations and this problem was highlighted during the global
pandemic in 2008-09. At that time, they need for revenue for public expenditure
was all-time high and the majority of the MNC were paying even less than 1% of
the global profit and this lead to the rise of several questions in Parliament.[1] GAAR basically enabled the
tax authorities to question these MNC about their intra-corporate structure
which is set up with an intention to minimise tax within the sphere of law or
practise tax avoidance. Australia was the first country to introduce GAAR in
1981 which allowed challenging the tax structures over there[2].
The GAAR are general set
rules and not any situation or country-specific, where is the government or tax
authorities of any country is of the view that there should be more tax
collection upon which the government has the right, but which is not be
received and the company is avoiding paying the tax then the country can
implement these rules on that company. GAAR also prevents any misuse of the
treaty signed by any country with other countries, which generally happens to
be a double taxation avoidance agreement. Likewise, there are provisions that
deal with specific situations or specific avoidance and is called SAAR
(Specific Anti-Avoidance Rules)[3].
GAAR and India
India had spent quite a
few years re-examining and formulating GAAR for India. It was reintroduced by
the government as the expert committee suggested the former one to be really
harsh over the companies. Section 95-102 of the Income Tax Act were amended by
the Finance Act, 2012 were the GAAR provisions and the main purpose was to
obtain the tax benefit as defined under section 102(10) of the act.
The income tax
authorities were given sweeping powers under the GAAR provisions and after its
advancement, India saw a slump in the stock market and also added pressure upon
the already down rupees as many foreign investment institutes were withdrawing
from India.[4]
Therefore, in order to mitigate this situation, the following amendments were
added such as[5]:
· The onus of proof was shifted upon
the tax authorities that why the GAAR provisions were applicable and thereby
reducing the abuse of power.
· The taxpayers also had the remedy to
approach the Authority of Advance Ruling [section 245(N)] in order to
determine that whether the GAAR provisions are applicable or not.
· GAAR Approving panel
is a panel of independent members in order to ensure transparency and
objectivity while applying its provisions. It shall be consisted of 2 non-tax
department people and one retired judge of High Court as chairman and its
decision shall be binding.
The Shome Committee
Report under the chairmanship of Dr Parthasarthy Shome conducted various
consultations with the various stakeholders and general public in order to
re-evaluate the rules of GAAR. It said that the purpose of GAAR is to obtain
tax benefit, then only the impermissible avoidance arrangement shall be
arranged and not whole arrangement as mentioned under section 96(2). The
Assessing officer must make a reference to the Commissioner of Income Tax
before invoking GAAR. Who then will listen to the tax payer side of argument
and if still he is satisfied to apply then the matter shall be referred to the
Approving Panel. Which will then make a further inquiry into the matter and
pronounce final award which can be challenged before the appellate tribunal. There
should be a difference between tax avoidance and tax mitigation and GAAR shall
only be invoked in cases of abuse of tax arrangements. They also recommend a
deferred time period of 3 years to make the taxpayers and tax authorities
better understand the law. In matters of SAAR, the GAAR provisions shall not be
invoked. Also, not in case when there is a benefit clause mentioned in any tax
treaty GAAR shall not be invoked. GAAR would not be applicable to the non-
resident companies investing in FII in India. And to remove the capital gains
tax on transfer of listed securities[6].
The expert committee
formulated made the following recommendation to prevent the misuse of GAAR:
· The threshold limit is to be set up to
provide relief to the small taxpayers.
· The time limit shall also be prescribed to
minimise the business hindrance
· Set up of an approval panel for further
supervision of the provisions
· The prescription shall be given by the tax
authorities in order to maintain consistency all together in the procedure for
invoking GAAR provisions. And also, the instances when the GAAR provisions will
not be used.
When GAAR came to India,
it received an unwelcoming response. But after the Shome committee
recommendations were adopted and amendments were made in the Finance Bill 2012,
the situation was stabilised amongst the taxpayers.
But there are certain
misses in these provisions, such as the time period is too long to help gain
any confidence, i.e., 6 months with the Authority of Advance Ruling to obtain
ruling. Also, the ‘grandfathering clause’ is troublesome as grandfathering of
the arrangements would confer protection perpetuity. It should rather make
arrangement where the resident and non-resident shall be grandfathered so that
in the exist of such provisions GAAR can be invoked.[7]
The corporate structure
of multinational companies
In the modern era of
globalisation and privatisation, the companies which operate in various
countries operate their management under a structure. There happens to a parent
company and many of its subsidiary companies in every country where they
operate. The parent company does not have to get itself registered in that
country and the subsidiary works as a part of the parent company[8]. Therefore, all the
profits gained by the subsidiary company will not be taxed where it operated
but where it is registered. This is what a double taxation avoidance agreement
does. The host country has not to be supposed to get any tax from the business
carried out by the non-resident company who is registered in the country and
paying tax there with which that country has a tax treaty. Such treaties lead
to the round-tripping of the money from tax heaven.[9]
Challenges faced
· Round tripping:
It basically means that all the money that leaves a country through various
means, makes its way back as a form of investment in the same country. This
mostly used to be the black money used for stocks manipulation. Income Tax
authorities have said such investment is nothing but the round-tripping of
money and could attract GAAR. Another example, a parent company in India will
buy the shares of its subsidiary company registered in Dubai (which is a tax
heaven as it has no tax policy for corporations which is under their
jurisdiction but does no business, such as no income tax). Now the subsidiary
company will be benefitted and will give this money back to the parent company
in the form of loan, over this loan the parent company will be benefitted by way
of tax deduction laws over loan in India.
· Transfer Pricing:
There have been many cases of transfer pricing in the very set up of such MNC,
which is nothing but a method of tax evasion. In this, the goods or the
services are sold within the same entity and also adjust the price accordingly.
The subsidiary company purchases the assets from the parent company to ensure
fair pricing of the assets transferred, normally at a higher price and likewise
pay more consideration also. The GAAR is the technique by which the tax
authorities keep a tab over the companies and prevent such operations.[10]
· Treaty shopping: The following phenomena is again widely used
by companies to avoid tax. In this, the tax treaty signed by 2 countries, the company
from any other country forms a shell company and get it registered there in
order to minimise the tax jurisdiction.[11]
Vodafone case study
This is a very
intersecting case in the Indian tax history as the question arose regarding the
tax liability accruing on the transaction when a non-resident company acquire
shares of the resident company through indirect means.
In this case, there
happens a transaction between Vodafone International Holding (a Dutch company)
and Hutchison Telecommunication International Limited (based in Hong Kong) in
which Vodafone procures all the shares of CGP investment limited from Hutchison
in 2007. CGP had 67% control over Hutchison Essar Limited (an Indian company) through
different means. Now through this transaction Vodafone the control over CGP and
its subsidiaries. It also acquired cell communication in various circles of
India. Later Vodafone even bought a 67% stake in Hutchison Telecommunication
International Ltd as well as the Indian telecom company Hutch Essar Ltd. So,
the telecom company in India that Hutch use to control through CGP (a Cayman
Island company) has now been controlled by Vodafone.
The tax authorities were
not sure how to unbundle the value of the assets of the company arising from
shareholding. The Income Tax department issues show-cause notice to Vodafone
company on why the capital gain tax that was about Rs 7,990 crore for the
following transaction was not being paid as it had an impact on aberrant or
indirect transfer of assets in India. The tax authorities were saying that
Vodafone should deduct the tax at source before making the payment to
Hutchison.[12]
Vodafone filed a petition
before the Bombay High Court and the HC gave the judgement in favour of the
government and ordered the company to pay the tax. The matter went into appeal
before the Supreme Court of India.[13]
The main issue before the
Supreme Court was that the transfer of assets through this transaction between
two non-resident companies, outside India, is the transfer of underlying assets
in order to avoid tax and that whether section 195 of the IT Act would
have extra-territorial application. The SC in 2012 held that the contentions of
the Vodafone were correct, and they are not liable to pay tax as per the Income
Tax Act 1961. Court held that a company is a different legal entity than form
its shareholders and management. A holding company cannot be held liable for
its subsidiary’s action. The transaction of the company shall not be looked at in
isolation but as a whole. Also, to promote strategic foreign direct investment
in India, a holistic approach must be needed. The sale of shares is not a sale
of assets. The court adopted the look at approach. Tax planning is not illegal
or impermissible. Because in the year 1990’s Hong Kong-based Hutchison company
invested in India along with Essar limited. The transaction was with the intent
to invest in India and not to avoid tax. the transaction has no nexus with
India as two non-resident companies have executed the deal outside India and
consideration is also paid and received outside India[14].
The government then made
an amendment to the Financial Act and gave the tax authorities the power to tax
retrospectively. They inserted section 9(1)(1) of the Finance Act of India,
2012 which says that any arise in income by direct or indirect means over the
transfer of assets in India. Later Vodafone invoked clause 9 of the Bilateral
Investment Treaty (BIT) that was signed between India and the Netherland in
1995. This treaty was about investment protection and security for the
investors of both countries in order to promote investment. It also ensured
fair and equitable treatment to the companies so investing in the territory of
the other. Vodafone said that this treaty can be invoked as the VIH is a Dutch
company. And thereby the case went for arbitration before the Permanent Court
of Arbitration, Hague. The court passed the award in favour of Vodafone and
said that the new amendment in the tax law is in violation of the treaty
between India and the Netherlands. The Indian government challenged this award
before the High Court of Singapore. The court also passed the award in favour
of Vodafone and also directed the Indian government to reimburse a sum of 40
crores as compensation.[15]
Effect of the Vodafone
case
The Cairn’s Dispute is
also on the similar lines, where a company incorporated in the UK named, Cairn
UK Holding Limited had acquired Cairn India Holding Limited in 2006, which is
incorporated in Jersey. Cairn Jersey owned a subsidiary in India and
subsequently, Cairn acquired the business in India. The tax authorities
challenged it for not paying the capital gains tax and currently, the matter is
before the Delhi High Court. The doctrine of Stare Decisis which says
that to abide by the precedents is prevalent in common law countries.[16]
The government should not
make retrospective laws as said by many critics and also maintain the mutual
agreement signed with other countries in order to maintain clarity in the tax
laws and to gain foreign investment. There are also many uncertainties in the
present tax laws to deal with such matters effectively. A liberal tax policy
would attract more FDIs.[17]
Apprehension
The GAAR provide the tax
authorities with a wide power that can be used arbitrarily against the
companies upon whom the government has the suspicion of working unethically to
avoid tax. This hinders the business environment and there is the apprehension
of uncertainty in the new tax regime.[18] There are discretionary
powers in the hands of the tax authorities to invoke GAAR. Section 72 A of the
Act gives the power to carry forward and set off the losses of the company
getting acquired by the other company or getting amalgamated to company with
the conditions such as maintaining a prescribed level of production or
maintaining the major portion of the amalgamating company. Hence, there is the
wisdom of the legislation as per which under certain conditions the companies have
to function. Even the provisions of transfer pricing would apply[19]. In order to cure the
treaty shopping India is introducing LOB (Limitation of Benefit) which will
limit the benefit of DTAA (Double Tax Avoidance Agreement) to only legitimate
residents. It will deny the benefit to the non-qualified people or entities who
are not residents of the agreeing counties. There are basically 5 approaches in
this:
1. Objective test
2. Beneficial look
3. Channel test
4. Exclusion test
5. Subject to test
The arbitrary use of GAAR
will thrive away from the ease of doing business. The government shall try to
mitigate the uncertainties in order to boost the confidence of the investors.
Conclusion
The complexity and
diversification in the current international tax arrangement it is the need of
the hour to have unified set of goals to prevent tax evasions. A collaborative
approach is what would be better than an isolated one. The tax regime should be
fair, neutral and transparent in nature and it should thrive to facilitate
trade, business and investment.[20]
The Indian tax laws has
witnessed frequent amendments which would be foster bringing lack of clarity
and which lead to lot of litigations. Even going for retrospective tax law will
even lowered down the public confidence in terms of investing in India. India
should foster to maintain the consistency in the tax laws and provide proper
clarity in them. Also, there should be fair and transparent tax mechanism and a
proper redressal mechanism against the authorities for the arbitrary use of
GAAR provisions, which shall be redressing the problem within a stipulated
time. [21]
Every, mature economy has
introduced GAAR provisions in their country and their tax revenue is
flourishing even brighter. Hence it is well proven that GAAR provisions by
themselves are not draconian or unclear and invoking these provisions will
leave our tax laws richer on theory and principle. If the Shome committee
report makes the GAAR even more acceptable, then the recommendations must be
conceptualized. If the laws are more liberal and taxpayer friendly it will be
much better in the long run as it provide more safeguard to them and taxpayers
will have confidence in the law and will not run away from it.
[1] Kujinga, Benjamin T. “Factors That
Limit the Efficacy of General Anti-Avoidance Rules in Income Tax Legislation:
Lessons from South Africa, Australia, and Canada.” The Comparative and
International Law Journal of Southern Africa, vol. 47, no. 3, Institute of
Foreign and Comparative Law, 2014, pp. 429–59,
http://www.jstor.org/stable/43894817.
[2] Mallya, Vivek. “On India’s
Capacity in GAAR.” Economic and Political Weekly, vol. 47, no. 46,
Economic and Political Weekly, 2012, pp. 4–5, http://www.jstor.org/stable/41720363.
[3] Mukhopadhyay, Sukumar. “Lightening
the Burden of GAAR.” Economic and Political Weekly, vol. 47, no. 45,
Economic and Political Weekly, 2012, pp. 17–19,
http://www.jstor.org/stable/41720345.
[4] KRISHNASWAMY, R., and K.
KANAGASABAPATHY. “Sustainability Issues in India’s Balance of Payments.” Economic
and Political Weekly, vol. 48, no. 18, Economic and Political Weekly, 2013,
pp. 127–29, http://www.jstor.org/stable/23527318.
[5] Talreja, Anil. “Changing Tax
Reforms in India – What Next?” National Law School of India Review, vol.
24, no. 2, Student Advocate Committee, 2013, pp. 75–88,
http://www.jstor.org/stable/44283763.
[6] Kumar, Y. Shiva Santosh. “India’s
Taxation Regime: Perspectives on the Proposed Changes.” National Law School
of India Review, vol. 23, no. 2, Student Advocate Committee, 2012, pp.
28–43, http://www.jstor.org/stable/44278804.
[7] Talreja, Anil. “Changing Tax
Reforms in India – What Next?” National Law School of India Review, vol.
24, no. 2, Student Advocate Committee, 2013, pp. 75–88,
http://www.jstor.org/stable/44283763.
[8] Steenkamp, Lee-Ann, et al.
“Tapping into a Quarter-Century’s Judicial Experience with the Canadian General
Anti-Avoidance Rule (GAAR): Some Insights for South Africa.” The Comparative
and International Law Journal of Southern Africa, vol. 49, no. 3, Institute
of Foreign and Comparative Law, 2016, pp. 477–505,
https://www.jstor.org/stable/26367612.
[9] Arshu John & Linesh Lalwani, General
Anti-Avoidance Rules (GAAR): An Indian and International Perspective, 26 NLIU
Law Review 16-18, (2019)
[10] Jain, Sunil. “The Direct Taxes
Code, 2010 — Ushering in Controlled Foreign Corporation Rules in India.” National
Law School of India Review, vol. 23, no. 2, Student Advocate Committee,
2012, pp. 22–27, http://www.jstor.org/stable/44278803.
[11] MUKHOPADHYAY, SUKUMAR. “General
Anti-Avoidance Rule in Income Tax Law.” Economic and Political Weekly,
vol. 47, no. 22, Economic and Political Weekly, 2012, pp. 24–28,
http://www.jstor.org/stable/23214999.
[12] Andharia, Prateek. “Section 9 of
the Income Tax Act, 1961: Defaced and Defiled?” National Law School of India
Review, vol. 25, no. 1, Student Advocate Committee, 2013, pp. 119–37,
http://www.jstor.org/stable/44283624.
[13] Swaminathan, K., and Gouri Puri.
“A Realist’s Account of the Bombay High Court’s Decision in the Vodafone Case.”
National Law School of India Review, vol. 23, no. 1, Student Advocate
Committee, 2011, pp. 99–107, http://www.jstor.org/stable/44283742.
[14] Parthasarathi Shome, Addressing
Tax Avoidance: Cross country experience and an Indian case study, LSE Law,
Society and Economy Working Ppaer 6/2019
[15] SMIT, HAN, and THRAS MORAITIS.
“PLAYING AT SERIAL ACQUISITIONS: THE CASE OF VODAFONE.” Playing at
Acquisitions: Behavioral Option Games, STU-Student edition, Princeton
University Press, 2015, pp. 43–72, http://www.jstor.org/stable/j.ctt9qh0nc.8.
[16] Shroff, Vandana, et al. “India.” The
International Lawyer, vol. 45, no. 1, American Bar Association, 2011, pp.
521–35, http://www.jstor.org/stable/23644029.
[17] Mallya, Vivek. “On India’s
Capacity in GAAR.” Economic and Political Weekly, vol. 47, no. 46,
Economic and Political Weekly, 2012, pp. 4–5,
http://www.jstor.org/stable/41720363.
[18] RAO, M. GOVINDA, and R. KAVITA
RAO. “Taxes and Death Are Inevitable, but GAAR Is Avoidable.” Economic and
Political Weekly, vol. 47, no. 43, Economic and Political Weekly, 2012, pp.
10–13, http://www.jstor.org/stable/41720290.
[19] Rajesh Begur & Priyesh Sharma,
India: GAAR: A threat to commercial tax structuring, Mondaq (10 November
2021, 10 AM),
https://www.mondaq.com/india/tax-authorities/560496/gaar-a-threat-to-commercial-tax-structuring
[20] Ostwal, T. P., and Vikram
Vijayaraghavan. “Anti-Avoidance Measures.” National Law School of India
Review, vol. 22, no. 2, Student Advocate Committee, 2010, pp. 59–103,
http://www.jstor.org/stable/44283791.
[21] Sambamurthi, Vijay. “RECENT
DEVELOPMENTS IN INDIAN LAW: IMPACT ON PRIVATE EQUITY TRANSACTIONS.” National
Law School of India Review, vol. 28, no. 1, Student Advocate Committee,
2016, pp. 44–60, http://www.jstor.org/stable/44283664.
0 Comments