Rules 127 and 128 of the Draft Income-tax Rules, 2026 lay down the framework for determining the consequences of an impermissible avoidance arrangement under section 181 and carve out specific exceptions to the applicability of Chapter XI relating to the General Anti-Avoidance Rule (GAAR). Rule 127 provides that where only a part of an arrangement is declared impermissible, the tax consequences shall be confined to that specific part, ensuring proportionate application. Rule 128 excludes certain arrangements from GAAR, including cases where the aggregate tax benefit to all parties in a relevant tax year does not exceed ₹3 crore. It also exempts qualifying Foreign Institutional Investors (FIIs) that comply with specified conditions, and non-residents investing in FIIs through offshore derivative instruments. Further, income arising from transfer of investments made before 1 April 2017 is kept outside GAAR, though tax benefits obtained on or after that date remain covered irrespective of when the arrangement was entered into. The rule defines key terms such as “Foreign Institutional Investor,” “offshore derivative instrument,” and “tax benefit,” and clarifies computation methodology, thereby limiting GAAR’s scope while ensuring its application to significant post-2017 tax benefits.
Extract of Rule No. 127 and 128 of Draft Income-tax Rules, 2026
Rule 127
Determination of consequences of impermissible avoidance arrangement.
For the purposes of section 181, where a part of an arrangement is declared to be an impermissible avoidance arrangement, the consequences in relation to tax shall be determined with reference to such part only.
Rule 128
Chapter XI relating to General Anti Avoidance Rule not to apply in certain cases.
(1) The provisions of Chapter XI shall not apply to—
(a) an arrangement where the aggregate tax benefit in the relevant tax year, to all the parties to the arrangement does not exceed a sum of rupees three crore;
(b) a Foreign Institutional Investor, —
(i) who is an assessee under the Act;
(ii) who has not taken benefit of an agreement referred to in section 159 and (iii) who has invested in listed securities, or unlisted securities, with the prior permission of the competent authority, in accordance with the Securities and Exchange Board of India (Foreign Institutional Investors) Regulations, 1995 and such other regulations as may be applicable, in relation to such investments;
(c) a person, being a non-resident, in relation to investment made by him by way of offshore derivative instruments or otherwise, directly or indirectly, in a Foreign Institutional Investor;
(d) any income accruing or arising to, or deemed to accrue or arise to, or received or deemed to be received by, any person from transfer of investments made before the 1st day of April, 2017 by such person.
(2) Without prejudice to the provisions of sub-rule (1)(d), the provisions of Chapter XI shall apply to any arrangement, irrespective of the date on which it has been entered into, in respect of the tax benefit obtained from the arrangement on or after the 1st day of April, 2017.
(3) For the purposes of this rule, —
(i) “Foreign Institutional Investor” shall have the same meaning as assigned to it in the section 210(6)(a);
(ii) “offshore derivative instrument” shall have the same meaning as assigned to it in the Securities and Exchange Board of India (Foreign Institutional Investors) Regulations, 1995 issued under Securities and Exchange Board of India Act, 1992);
(iii) “Securities and Exchange Board of India” shall have the same meaning as assigned to it in section 2 (1)(a) of the Securities and Exchange Board of India Act, 1992;
(iv) “tax benefit” as defined in section 184(11) and computed in accordance with Chapter XI shall be with reference to—
(a) section 184(11)(a) to (e), the amount of tax; and
(b) section 184(11)(f), the tax that would have been chargeable had the increase in loss referred to therein been the total income.
