General Anti-Avoidance Rule (GAAR)

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TOPIC: General Studies 2

• Government policies and interventions for development in various sectors and issues arising out of their design and implementation.

What is GAAR?

General Anti-Avoidance Rule is a set of rules or framework which helps the revenue authorities decide about whether a particular transaction has commercial substance or not. If not, then it is not a genuine transaction and then the tax liability associated with it is decided.

It is a set of rules that helps tax authorities decide whether a commercial entity has entered into an arrangement with another entity or its subsidiary to avoid paying taxes to the government. This is done by taking advantages of loopholes existing in present tax structure.

It is framed by the Department of Revenue under the Ministry of Finance.

It is different from tax evasion which is caused because of illegal activities/mis-representation/suppression/fraud and tax mitigation is because people utilise fiscal incentive to take advantages of tax efficient zones. For eg. here the person will be setting up unit in SEZ or taking advantages of tax holidays or other available tax plans.

GAAR will address the cases which are technically not illegal but not ethical as they avoid the payment of taxes. Thereby the transaction has not been promoted by a person to be commercially viable but only for purpose of taking tax advantages.

Suppose the government gives incentive of tax holiday in an SEZ unit where the person sets up a factory over there with defunct machineries and don’t produce anything from there but from somewhere else, and then show it as the produce of the place of SEZ unit and takes a tax holiday. This is a case of tax avoidance.

Similar transactions take place whereby certain companies actually place themselves in low tax jurisdiction and by evoking double taxation treatise, they pay low lower taxes. For ex. Mauritius and Singapore where many FIIs are based. Because of low taxes, the business get competitive advantages. In such places, there is no commercial place but just a registered office which doesn’t do any particular work. All work is done in the country of transaction, here India. As they are not taking advantages of Singapore or Malaysia, the tax rules don’t apply. In this case, it is necessary to pay taxes to the country from where one is operating the businesses.

Background

There have been studies done by different organisations like PwC which have identified how different countries have implemented GAAR since 1960s. In India, it was originally proposed in Direct Tax Code of 2009 but was postponed in 2012 and 2013. It was considered controversial because it had provisions to seek taxes from past overseas deals involving local assets retrospectively.

In Vodafone case it was found that there were two foreign entities which brought about a transaction but the underlined assets in transaction were based in India. Hence the particular taxes were from retrospective basis implemented and tax liability was calculated on Vodafone. Since it was believed that it was a foreign company and the taxes were in retrospective manner, there was lot of hue and cry made about it. Many foreign investors did not take it in a positive manner at that point of time and hence people started raising questions about if GAAR is really beneficial or not in promoting investments in a country. It was found that the objective of any tax laws or provisions is to promote or incentivise real investments or economic substance investments.

When it comes to real investments that make a difference in the county, the GAAR conditions work in their favour. Government is taking other steps that will address transparency, corruption and getting fiscal inclusion.

Advantages

• GAAR would enhance the tax revenues of government by seeking or finding out non-genuine transactions and avoiding taxes. It helps in improving the tax revenues of government which will add in lessening the fiscal deficits of government.
• The latest governments have been very focussed on fiscal deficits. Previous government had laid down a fiscal consolidation plan and this government is implementing it and they have been able to bring down fiscal deficit from 3.9% t0 3.5%. The tax revenues in both direct and indirect taxes have shown buoyancy.
• In the overall manner, the Income Disclosure Scheme, demonetisation, there is a continuous aim in increasing tax revenue. This revenue is directed towards welfare schemes for the less advantaged people.
• GAAR will bring out competitive advantages to several businesses who have been doing genuine transactions. This creates a better economic and business environment for people to recognise that the state exists to bring about genuine investments and transactions having pro-commercial viabilities.
• In ease of doing business rank, it will add to the advantage of India being recognised as a more serious country in accepting what is free and fair trade practices rather than only giving free tax advantages to people.
• The government is serious about its taxation policies and sees that people pay their taxes in time. It is not bringing new rules but enforcing the existing rules. GAAR is an existence of Chapter 10-A of Income Tax act 1961. Its implementation would make a lot of difference.

Challenge and way forward

Since GAAR gave more powers to revenue authorities, people have been concerned about wider and arbitrary interpretations that the revenue authorities may have regarding GAAR provisions. So many committees have been trying to address the difficulties that the tax payers may face in case GAAR provisions are implemented.

Hence, the GAAR provisions are demanded to be brought out in such a manner that they don’t allow arbitrary interpretations that lead to harassment of tax payers.

There have been considerations about minimum threshold where GAAR provisions can be implemented, financial institutional investors or foreign institutional investors are making investments etc.

It is basically trying to understand that genuineness of transaction remains intact for commercial viability and to cover only those transactions which do tax avoidance.

Connecting the dots:

• What is GAAR and how is it expected to affect India’s economic balance? Explain
• How are DTAA and GAAR connected? Identify the importance of tax avoidance regulation in the light of same.