A) Meaning of the terms ‘Substantial’ and ‘Significant’ in Section 97(1) of the Act
Issue/Justification
The Finance Act, 2015 deferred implementation of General Anti Avoidance Rules (GAAR) by two years so as to introduce provisions of GAAR with effect from Financial Year (FY) 2017-18. The Finance Act, 2016 provides for the effective date as 1 April 2017.
Section 97(1) of the Act provides that an arrangement shall be deemed to be lacking commercial substance, if inter alia;-
- it involves the location of an asset or of a transaction or of the place of residence of any party which is without any substantial commercial purpose other than obtaining a tax benefit for a party; or
- it does not have a significant effect upon business risks, or net cash flows apart from the tax benefit.
The terms ‘substantial commercial purpose’ and ‘significant effect’ in the context of GAAR have not been defined in the Act.
Suggestion
- It needs to be clarified what shall constitute as “substantial commercial purpose’ and “significant effect’ for the purpose of section 97 of the Act.
- Substantial commercial purpose may be explained with reference to the terms used viz. location of an asset/transaction or place of residence of a party (for e.g. whether it would be specified value of assets located; value of a transaction as comparable to the total assets of the business or any other such related parameter).
- Similarly, what will constitute as ‘significant effect’ vis-a-vis business risks / net cash flows
needs to be clarified.
B) Clarification on the term ‘tax benefit’ as defined under section 102(10) of the Act
Issue/Justification
The term ‘tax benefit’ as defined under section 102(10) of the Act includes,—
“(a) a reduction or avoidance or deferral of tax or other amount payable under this Act; or
(b) an increase in a refund of tax or other amount under this Act; or
(c) a reduction or avoidance or deferral of tax or other amount that would be payable under this Act, as a result of a tax treaty; or
(d) an increase in a refund of tax or other amount under this Act as a result of a tax treaty; or
(e) a reduction in total income;
or
(f) an increase in loss,
in the relevant previous year or any other previous year;”(Emphasis supplied)
Clause (e) and (f) in the definition refer to “reduction of total income” and “increase in loss” as tax benefit. An ambiguity arises as to how tax benefit is conditioned at income / loss level. This may also defeat the objective of INR 3 crore tax benefit threshold as provided in Rule 10U of the Income-tax Rules, 1962 (the Rules).
Computation of tax benefit on deferral of tax (which is merely a timing difference) needs to be clarified. As observed by the Expert Committee recommendations6 , in cases of tax deferral, the only benefit to the taxpayer is not paying taxes in one year but paying it in a later year. Overall there may not be any tax benefit but the benefit is in terms of the present value of money.
Further, as observed by the Expert Committee7 , the term tax benefit has been defined to include tax or other amount payable under this Act or reduction in income or increase in loss. The other amount could cover interest.
Suggestion
Clause (e) and (f) should be appropriately worded to correspond with the ‘tax’ amount. In other words, the reference to income/loss should not be the base for defining the term ‘tax benefit’. In line with the Expert Committee recommendations, it is suggested that:
a) the tax benefit should be computed in the year of deferral and the present value of money should be ascertained based on the rate of interest charged under the Act for shortfall of tax payment under section 234B of the Act.
b) for the sake of clarity it may be specified that tax benefit for the purposes of the threshold shall include only income tax, dividend distribution tax and profit distribution tax, and shall not include other amounts like interest, etc.
C) Issue/Justification
India has signed the ‘Multilateral Instrument’ (MLI) in accordance with the Base Erosion Profit Shifting (BEPS) Action Plan 15 of the OECD, which, inter alia, deals with the denial of tax treaty benefits in certain cases of antiabuse arrangements/transactions entered into by the taxpayer. The MLI provides for insertion of antiabuse provisions (the PPT and the LOB provisions) in the tax treaties so as to deny tax treaty benefits in case of abusive arrangements/transactions being entered into by the taxpayer. The anti-abuse provisions inserted through the MLI would be effective once the same are ratified by both the signatories to the MLI. With India having signed the MLI, there could be a possibility that the same transaction/arrangement could be subjected to multiple anti-abuse provisions, one would be through the anti-abuse provisions inserted in the tax treaty network through the MLI and second by way of the same transaction being subjected to the GAAR provisions which also targets anti-abuse provisions.
Suggestion
It is suggested that GAAR provisions should not be made applicable to abusive transactions (in the case on MNE’s) which are subjected to anti-abuse provisions under the tax treaty pursuant to adoption of the MLI provisions. Once the anti-abuse provisions are inserted in the respective tax treaties through the MLI, the government could then assess the situation and examine if GAAR provisions should be made applicable in the case of the said non-resident taxpayers’. This would also pave the way for a conducive economic environment and persuade the global multinationals to establish their foot print in India with a clarity on the domestic tax laws prevalent in the country
