What Is GAAR or General Anti-Avoidance Regulations?

Internationally, tax avoidance has been recognized as an area of concern and several countries have expressed concern over tax evasion and avoidance. This is also evident from the fact that either nations are legislating the doctrine of General Anti-Avoidance Regulations in their tax code or strengthening their existing code. In India, the proposed Direct Tax Code 2010 (DTC 2010 or Code) seeks to address the issues relating to tax avoidance and evasion by bringing in General Anti-Avoidance Rules (GAAR) in addition to various transaction-specific Special Anti-Avoidance provisions. So far, the news has been mainly focused on the impact of GAAR on foreign institutional investors (FIIs) and other foreign entities investing through intermediate tax havens, who take advantage of tax treaties signed by India with those tax havens and avoid paying capital gains tax in India. In the last few days, the press has started taking note of the possible impact of these provisions on domestic taxpayers. GAAR is fairly broad in nature and could have serious repercussions on all forms of tax planning. So far, the view of courts has been that legitimate tax planning is permissible and only tax evasion is not. The law has been fairly well-settled as to what constituted legitimate tax planning and what did not. This position is now being turned topsy-turvy by the proposed GAAR. The impermissible avoidance agreement (IAA) Basically, GAAR enables tax authorities to declare any arrangement entered into by a taxpayer as an IAA. If it is so declared, then the tax authorities can disregard, combine or re-characterize any step of such arrangement or the entire arrangement, disregard any accommodating party involved in such arrangement, treat the transaction as if it had not been entered into or carried out, reallocate any income or expenditure, look through any arrangement by disregarding any corporate structure, re-characterize debt as equity or vice-versa and so on. In effect, for tax purposes, any transaction can be treated in a manner different from the manner in which it is carried out if it is regarded as an IAA. When can a transaction be regarded as an IAA? The only requirements are that one of the main purposes of the arrangement is to obtain a tax benefit and either it creates rights or obligations which are not ordinarily created between persons acting at arms length, or it lacks commercial substance, or it is entered into or carried out in a manner not ordinarily employed for bona fide purposes, or results directly or indirectly in the misuse or abuse of the tax provisions. This is so far reaching in nature that almost each and every transaction, which results in saving tax could be regarded as an IAA. Possibilities of litigation Consider some examples. If an employee pays rent to his parents to claim exemption for house rent allowance, tax officers can possibly seek to take the view that such a transaction is not bona fide and results in tax saving and is, therefore, an IAA. If a company takes a house or car on lease from the spouse of an employee, and gives it to the employee, to whose spouse it belongs, as a perquisite, this could be regarded as an IAA. If you take an interest-bearing loan from your spouse to acquire a residential house for your own occupation, tax officers could take the view that this is an IAA as you are claiming a deduction for the interest paid, while your spouse may be taxed on the interest at a lower rate, resulting in a saving of tax.

Transactions of acquiring shares before a bonus issue and selling off the original shares after the bonus issue, claiming a capital loss in the process, may also be hit by GAAR. There could be many more such examples, which one may not even be able to imagine, but which tax authorities may seek to attack. Unfortunately, in India, tax officers are not known for a balanced or judicious approach, but are generally fairly aggressive in targeting genuine transactions even of honest taxpayers, resulting in unnecessary litigation. With such wide-ranging powers given to the tax officers under GAAR, one shudders to think as to what the future holds for taxpayers. After GAAR, no taxpayer can ever be confident that he has filed his tax returns correctly, disclosed his income as properly required, without any fear of litigation from the tax department. Is there an effective safeguard for taxpayers? Is there no safeguard to prevent misuse of such wide-ranging powers by the tax officers? The only safeguard provided is that the tax officer has to put forth his proposal to the commissioner, who has to provide an opportunity of hearing to the taxpayer. If the commissioner is of the view that GAAR is to be invoked, he has to refer the matter to an approving panel, which is will also consist only of commissioners, and who will also provide an opportunity of hearing to the taxpayer. Given the fact that commissioners are the persons responsible for meeting the tax collection targets set by the Central Board of Direct Taxes (CBDT) and the pressures that they are put under for increasing tax collection, would any panel of commissioners or a commissioner ever take a favourable view to the taxpayer? The experience with the dispute resolution panel, which also consists only of commissioners, shows that this is really no safeguard. What is needed is a really independent body, consisting of a majority of persons drawn from outside the tax department. It is only then that there would be an effective safeguard. The way forward One hopes that guidelines would be issued by the CBDT, spelling out specific situations in which GAAR can be invoked, as well as setting a threshold limit for its applicability. For instance, if GAAR is made applicable only to cases where the tax involved is above Rs. 5 crore, then almost all individual taxpayers would be outside the purview of GAAR. The finance secretary has stated in some interviews that GAAR would not be applicable to domestic cases of provision of perquisites such as leased cars. One only hopes that such assurances are finally translated into part of the law or the guidelines. Ideally, the introduction of GAAR itself should be postponed. It is premature to introduce GAAR in India, unless tax officers are trained to have a balanced approach like their overseas counterparts. This will obviously take time and require substantial reorientation and training of tax officers, from top to bottom. Introducing world class practices while ignoring ground realities can create havoc for taxpayers, already suffering from slowing growth. Source: Internet