INTRODUCTION
The Indian economy operated as a closed system, characterized by a reluctance to engage with foreign entities due to concerns over potential re-colonization. Nevertheless, in order to facilitate expansion, proactive measures needed to be taken. In the contemporary day, the dissolution of international boundaries is occurring at an accelerated pace, while commercial hubs are becoming increasingly interconnected. As a result, numerous international entities expressed interest in making investments in India. One crucial factor to be considered in the context of foreign investment is the tax obligation. Determining the profitability and feasibility of an enterprise in a foreign country is a crucial factor for investors, particularly in relation to the present taxation structure. The departure of Formula One World Championship Limited from India was primarily driven by tax considerations, as demonstrated in the case of Formula One World Championship Limited v. Commissioner of Income Tax (2017).[1]
The level of certainty offered by a tax system is a significant determinant that impacts the decision-making process regarding engaging in trade with a particular country. The imposition of certainty limits the level of discretion available to both taxpayers and Revenue Authorities. This assumption holds significant importance due to the frequent delay between the period in which a taxpayer, who is a non-resident, adopts specific tax positions and the evaluation of these positions by the Revenue Authorities. In the present context, the presence of certainty instills confidence in the process of decision making. From this perspective, certainty plays a significant role in the efficient functioning of a system, as it prevents the unnecessary allocation of resources towards addressing unneeded complications.[2] Certainty plays a crucial role in mitigating the challenges that businesses may face, guiding them towards pursuing a course of action that appears to provide the desired advantages in a convenient and appropriate manner. Uncertainty within a tax system can arise from the requirements outlined in the statute, as well as from conflicting and overlapping judicial interpretations at both lower-level authorities and appellate courts.[3] The presence of uncertainty often results in individuals who feel wronged seeking recourse, which can ultimately lead to a significant depletion of valuable resources.
Given this context, the Indian government aimed to address the growing requirements of foreign investors in order to enhance India’s appeal as an attractive investment location. In light of this, a significant transformation was implemented by the finance minister at that time during his budget address for the fiscal year 1992-93. The Advance Rulings mechanism refers to a process wherein taxpayers can seek clarification regarding their tax liabilities for anticipated transactions by obtaining an order. This mechanism allows taxpayers to address any uncertainties they may have regarding their tax obligations. By implementing this approach, the occurrence of legal disputes would be mitigated, thereby fostering improved interactions between taxpayers and the government. The inclusion of Chapter XIXB in the Income Tax Act, 1961 (hereinafter referred to as “ITA”) facilitated the accomplishment of this task.
THE CONCEPT
Historically, a divide has consistently existed between tax authorities and individuals or entities subject to taxation. This phenomenon occurs as a result of divergent interests. One seeks to minimize their tax burden, while the other individual aims to maximize their financial gains. Hence, the implementation of Advance Ruling serves as a governmental instrument aimed at preemptively resolving disputes prior to their occurrence. The objective of this solution is to enhance taxpayers’ understanding and ability to anticipate their tax obligations even before engaging in transactions. The purpose of this endeavor is to provide taxpayers with comprehensive details and consequences of the transaction in a timely manner, allowing them to make well-informed decisions.
The Indian Advance Ruling method is characterized by a distinct feature that is explicitly defined in Section 245N(a) as “pertaining to transactions that have been undertaken.”[4] The inclusion of transactions already conducted by the petitioner expands the ambit of Indian legislation.
Another notable aspect of this effort was its autonomy. The Authority of Advance Rulings (hereinafter referred to as “AAR”) was an institution established with the purpose of issuing legally binding decisions in order to prevent unintentional tax non-compliance. However, a key aspect of the institution was its commitment to impartiality, as it was overseen by a former justice of the Supreme Court. The composition of the group also included two individuals holding high-ranking positions in the Indian Revenue Services and Legal services.
Given the context, it is appropriate to assert that the notion of Advance Rulings has shown to be highly beneficial. Non-resident investors demonstrated proactive engagement by approaching the authorities with challenging inquiries pertaining to legal and factual matters, driven by their confidence in receiving an impartial and unbiased conclusion.[5]
In contrast, in the year 2020, the Supreme Court of India expressed the view that “a vibrant system of Advance Ruling can go a long way in reducing taxation litigation. This is not only true of these kinds of disputes but even disputes between the taxation department and private persons, who are more than willing to comply with the law of the land but find some ambiguity… We, thus, consider it appropriate to recommend to the Central Government to consider the efficacy of the advance tax ruling system and make it more comprehensive as a tool for settlement of disputes rather than battling it through different tiers, whether private or public sectors are involved. A council for Advance Tax Ruling based on the Swedish model and the New Zealand system may be a possible way forward.”[6]
This makes one wonder that what led the Supreme Court to say this when this system was truly remarkable in its initial years and was highly praised. Well, on a deeper look there are various reasons for it. The next part of the paper would delve deeper into those aspect hoping to provide some clarity.
PROBLEMS WITH THE SYSTEM
Non-Availability of Qualified Person
According to the ITA, a panel of the AAR is composed of a Chairman, who must be a retired Judge of the Supreme Court of India, or a Vice-Chairman, who must have served as a judge in a High Court.[7] Additionally, the panel includes one Revenue Member, who is a senior officer from the Indian Revenue Service, and a law member, who is a senior officer from the Indian Legal Service. According to the Advance Ruling (Procedure) Rules, 1996, it is stipulated that a hearing may be conducted by a Bench including a minimum of two members, with one of them serving as the Chairman. Moreover, in the event that no other member is present, the Bench will be comprised solely of the Chairman, who will assume the responsibilities of the AAR.
As previously mentioned, it is a need for the Chairman of the AAR to possess the status of a retired judge from the Supreme Court of India or High Court.6 The AAR has experienced significant upheaval in recent times due to prolonged delays in the appointment of a chairman by the government. Moreover, in instances where the Government has failed to select a Chairman, the AAR has experienced long periods of inactivity, lasting many months. It is important to acknowledge that according to the ITA, the AAR is obligated to render its decision within a period of six months from the time of receiving the application. Given the prevailing circumstances, it can be reasonably inferred that a decision on the application will likely not be rendered until a minimum of 18 to 24 months subsequent to its submission. According to a Deloitte Report cited by the Supreme Court, the disposal rate for FY 2006-07 was reported to be 80 percent.[8]
The disposal rate had a significant decline, reaching as low as 6 percent in FY 2010-11 and 7 percent in 2014-15. Unfortunately, there is a lack of publicly accessible data regarding the monthly disposals of the AAR. Nevertheless, when conducting an examination of the publicly available opinions issued by the AAR as obtained from the official AAR website, it is evident that over a span of 108 months (from fiscal year 2010-11 to fiscal year 2018-19), a total of 45 months transpired during which the AAR did not release any rulings for public dissemination. Despite the provision in the statute indicating that the AAR is required to issue its findings within a six-month timeframe, the current average duration for pronouncing a ruling has significantly extended to a period exceeding three to four years. In certain instances, the duration of pendency exceeds a period of six to eight years.[9] The current state of pending matters undermines the fundamental objective of an Advance Ruling system, as businesses are unlikely to delay significant transactions until they have tax certainty within such extended timeframes.
In light of the aforementioned circumstances, a writ petition in the form of a Public Interest Litigation was submitted to the High Court of Patna.[10] The court, in response, issued directives to the Government to undertake suitable actions in order to resolve the issue. Additionally, the court ordered that, in the interim, the Judicial Member at the Principal Bench would assume the role of Chairman, and the operations of the AAR would be reinstated.
The Finance Act of 2017, in reaction to the aforementioned judgment, introduced amendments to the eligibility criteria for the selection of the chairman. These amendments expanded the pool of potential candidates to include retired Chief Justices of High Courts as well as Judges of High Courts with a minimum of 7 years of legal practice experience. However, this modification also proved ineffective, as subsequent amendments to relax the eligibility conditions were not given due consideration.
The establishment of tax certainty plays a crucial role in attracting foreign investment to India. The AAR serves as a platform that provides taxpayers with the necessary assurance regarding their tax obligations. The abundance of cases inside the AAR serves as a clear indication of the level of certainty sought by taxpayers before to engaging in investments within India. Nevertheless, this type of operation ultimately leads to a decline in public trust in the judiciary and is perceived as a derision of the legal system.
Independence
The Finance Act of 2021 resulted in the abolition of the AAR and the establishment of a new entity known as the Board of Advance Ruling (referred to as “BAR” hereafter). The BAR is composed of two main Commissioners of Income Tax. The constitutional provisions of the BAR and the modifications implemented by the Finance Act, 2021 are in conflict with certain fundamental conceptual prerequisites for an effective advance ruling framework. One of the primary goals of advance ruling systems is to provide taxpayers with the opportunity to seek a legally binding ruling in advance from either the tax department or an external independent entity when contemplating engagement in a significant and intricate transaction. The diminished prestige of the newly established institution is unlikely to instill confidence among investors and taxpayers regarding its autonomy, especially concerning intricate and high-value global transactions.
Moreover, the provision allowing taxpayers and the tax department to appeal against findings of the BAR to the High Courts may result in prolonged litigation rather than rapid resolution. In addition, the implementation of this proposal would provide a novel category of appeals to be heard by High Courts, which often experience a lengthy adjudication process of three years or more for standard tax appeals. It is imperative to reevaluate these laws in response to the insights provided by the Supreme Court in the case of National Co-operative Development Corporation.[11]
The rationale provided in the memorandum accompanying the Finance Bill, 2021 for this modification was that the existing provision, which limited the eligibility for appointment as Chairman to retired judges of the Supreme Court and retired Chief Justices of High Courts, has led to a situation where these positions remain unfilled due to the unavailability of qualified individuals. Consequently, a significant backlog of pending matters has accumulated. The memorandum does not provide any explanation as to why the rules pertaining to qualifying criteria for the appointment of Chairmen, or their retirement age, were not suitably adjusted to solve this matter.
According to the constitution of the BAR, it is evident that the inclusion of a representation from the judiciary is not mandated. The two individuals comprising the new body will hold the position of Chief Commissioners of Income Tax, whereas the previous Authority consisted of individuals who held the rank of Members of CBDT. The inclusion of BAR under the Income Tax department remains uncertain, but it seems to resemble an administrative body that carries out quasi-judicial responsibilities. The inclusion of appeal mechanisms for both the applicant and the Commissioner of Income Tax undermines the conclusive nature of the findings made by the BAR. Hence, it is evident that the authority and status of the newly designated entity responsible for issuing advance rulings have been diminished, resulting in a perceived reduction in its autonomy.
Appeal Mechanism
In order to clarify, section 245S of the Act made an AAR order binding for both the Applicant and the Revenue Authorities about the transaction for which the opinion was asked. Due to the enforceable nature of a ruling, the legislation did not allow legislative appeals. No legal remedy was required by statute, yet the High Courts saw a lot of litigation.
In the case of Columbia Sportswear Company v. DIT[12], the Supreme Court had to decide whether the AAR’s decision can be directly challenged before it under Article 136 or first challenged in the High Court under Article 226. The AAR is a “tribunal” with judicial authority under Articles 136 and 226 of the Constitution, the court said. The Court might entertain a challenge to the AAR verdict under Article 136 or Article 226 of the Constitution despite its binding nature. The High Court should be consulted before challenging the verdict. Unless the Court finds that the Special Leave Petition (SLP) raises major issues of broad relevance or that a similar matter is under consideration, it is not advised to urge an aggrieved party to directly appeal to the Supreme Court.
Thus, in this case, AAR judgments might be reviewed, but there was no formal procedure to resolve them. It was crucial to AAR’s objectives. To avoid reducing the AAR to a court and prevent it from just being a litigation vehicle, this measure was taken. The drafters did not intend to include the appellate aspect.
As part of the advance ruling scheme modifications, the Legislature explicitly withdrew the BAR’s mandatory ruling. Section 245S(3) of the Act and the Memorandum to Finance Bill, 2021, paragraph 2 on page 43 advise that the Central Government create one or more Boards for Advance Rulings. These boards will issue advance rulings under the Chapter from the notice date. Each Board must have two officers, at least one Chief Commissioner. The applicant and Department are not bound by the Board’s decisions. If unhappy, either party can appeal the Board’s finding or order to the High Court.
Since decisions might be challenged in writ jurisdiction, the Legislature wisely allowed statutory appeals before High Courts under the new system. Once a ruling is appealable, it no longer has binding power, as before the rule changes. The amended scheme seems to mean that the verdict, which is under review before the High Court, would not determine tax liability, as intended. Tax liability should be finalized when the relevant High Court reviews the ruling. The updated proposal seems logical and rational from this perspective.
One could argue that if the BAR’s decision (according to the relevant authority) is not legally binding on the parties, then the High Court’s judgment, which reviews the order’s accuracy in an appeal, is not legally binding either.
In Daryao v. State of U.P., [13] the Supreme Court stated that a court’s judgment is legally binding on the parties until it is overturned or altered through appeal, revision, or other legal means. One could argue that the BAR, in its current form after September 1, 2021, and in relation to the Act (or the AAR before that date), is not a court nor does its pronouncement have binding authority, as the Legislature intended. In Columbia Sportswear Company (supra), the Supreme Court reviewed whether the AAR before September 1, 2021 was a “tribunal”. The required nature of the Advance Ruling in section 245S of the Act influenced the Court. The Supreme Court used a line from H.M. Seervai’s “Constitutional Law of India” to rule that the AAR had judicial authority.An authority is judicial when it makes a legally binding and agreed decision after substantial inquiry and debate. This act or judgment might impose duties or affect rights.
Since the BAR’s verdicts are non-binding, it may not act as a court until September 2021. Thus, if a ruling is reversed and changed by the relevant High Court during an appeal, merging the ruling with the High Court’s decision, the High Court’s decision would not be binding. Because the initial ruling, which was merged, was not binding. The lack of legislative provisions that bind High Court appeals judgments is the main reason, unlike the Authority for AAR rulings, which were not appealable to the High Court before September 1, 2021.[14]
High Courts clearly have judicial and administrative oversight over all subordinate courts and tribunals in their jurisdiction. This authority comes from the Constitution. During an appeal, the High Court follows the Act that allows the right to appeal. It’s clear that appeals to the High Court, the proper court, are judicial actions. Thus, any appeal ruling would bind the parties. The lack of an explicit statutory provision establishing a binding effect under section 245W of the Act raises the prospect of examination.
Interest Liability
In cases where the applicant has engaged in a transaction and seeks an advance ruling, the legislation stipulates that the tax authorities are prohibited from levying taxes until the AAR has issued its decision. Presently, there is a notable delay in the issuance of AAR verdicts, surpassing the stipulated six-month timeframe as previously indicated. Invariably, by the time the AAR issues the ruling, all applicants must have filed a return of income for the relevant financial year relating to the transaction. The applicant’s potential tax liability on the revenue derived from the relevant transaction may have been eliminated based on its position presented to the AAR. The tax authorities have chosen to suspend all actions related to the income return until the ruling from the AAR is released.
In the event that the AAR verdict, when delivered after a span of several years, is unfavourable, the applicant bears responsibility for both the tax and interest incurred on the income associated with the transaction. In each of these instances, the obligation of interest is substantial as it is imposed for the full duration between the transaction date and the AAR ruling date, which is inherently inequitable.
Had the verdict been issued within the stipulated six-month timeframe, the applicant would have had the opportunity to promptly settle the tax obligation.
CONCLUSION
Regarded as a potentially ground-breaking initiative by the Indian government, the system of Advance Ruling, however, had many administrative deficiencies that led to its failure. It is disheartening to observe the discontinuation of a genuinely exceptional system due to the government’s inability to identify a capable individual to lead the governing body. It is understandable that the government desired the participation of the judiciary in this domain. However, it would have been more logical for the government to soften the stringent eligibility standards, rather than pursuing the course of action it ultimately took. Given the substantial population size of about 1.3 billion individuals, it is reasonable to assume the presence of individuals possessing expert qualifications and experience who might have effectively assumed the aforementioned crucial role, thereby mitigating potential allegations of departmental prejudice. The decision to eliminate the entire system and establish a Board of Advance Rulings, led by members of the Department, was deemed prudent by the Ministry of Finance. This contradicts the fundamental purpose of implementing such a method.
Additionally, V S Sirpurkar, the previous chairman of the AAR, expressed concern. The AAR lodged numerous complaints with the relevant authorities in order to request essential infrastructure such as seating, offices, computer equipment, and personnel. However, no measures were implemented in relation to this matter. This situation prompts inquiries regarding the proficiency of the Ministry of Finance (MoF) in effectively enabling the operations of a legislative entity designed to support its functions.
Based on the available facts, it may be inferred that the establishment of the BAR would not align with the foundational ideas upon which the AAR was established. The effectiveness of the same appears questionable. The future implications of advance rulings on direct taxes for India and the potential impact on non-residents are still to be determined.
***
[1] Formula One World Championship Ltd. v. Commissioner of Income Tax (SC Civil Appeal No. 3849 of 2017)
[2] S. Nivedha, ‘Board of Advance Ruling under Finance Act, 2021: A Mediocre Replacement for Authority for Advance Ruling’ (2022) 28 Supremo Amicus [458]
[3] Akhil Deo, ‘A Critical Appraisal of Selected AAR Rulings’ (2015) 5 NLIU L Rev 1
[4]Ashish Sodhani, ‘Authority for Advance Rulings: Still Not Advanced Enough’ (2017) Nishith Desai Associates https://www.nishithdesai.com/Content/document/pdf/Articles/Authority_for_Advance_Rulings_Still_Not_Advanced-Enough.pdf accessed on 8th October 2023.
[5] Harshal Shah and Bijal Ajinkya, ‘The Rising Popularity of Advance Rulings in India’ (2009) Tax Notes International (Vol 5, Number 3, pp. 219) < http://www.nishithdesai.com/fileadmin/user_upload/pdfs/The_Rising_Popularity_of_Advance_Rulings_in_India.pdf> accessed on 10th October 2023.
[6] The National Co-Operative Development Corporation Vs. The Commissioner of Income Tax, Delhi-V [Civil Appeal Nos. 5105-5107 of 2009]
[7] Section 245O of the ITA
[8] Deloitte, ‘Advance rulings in India: Delivering greater tax certainty, Deloitte Tax Policy Paper 5’ (2019) <https://www2.deloitte.com/content/dam/Deloitte/in/Documents/tax/in-tax-advance-rulings-india-tax-policy-paper-noexp.pdf> 8th October 2023.
[9] ibid.
[10] CWJ Case No. 17261 of 2016
[11] ibid (n 5).
[12] Columbia Sportswear Company vs Director Of Income Tax, Bangalore [SLP C) No. 31543 of 2011]
[13] Daryao And Others vs The State Of Uttar Pradesh And Others 1961 AIR 1457
[14] Deepak Chopra, ‘BAR: The Unfulfilled Promise of AAR?’ (2023) AZB & Partners <https://www.azbpartners.com/bank/bar-the-unfulfilled-promise-of-aar/>
Author Bio
