Tax terrorism: phobia or reality?

The government’s scorecard on tax policy so far has certainly been good, but not bold enough to exorcise the spectres of the past.

Amongst many poll promises of the NDA Government, the one on ending tax terrorism stood out. Such strong sentiment was hitherto never expressed by a political party against the perceived hostile environment created by the plethora of retrospective taxation measures of Budget 2012 and on-the-ground experience with tax audits. The new Government resolved to undo this perception both through improved tax administration and concrete policy measures.

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The Finance Minister’s maiden budget in July 2014 brought a slew of measures to reduce litigation and encourage alternative dispute resolution mechanisms. Cases in point were the announcement of roll back of advance pricing arrangements (APAs) to four past years in addition to five years ahead, thereby offering certainty of transfer pricing (TP) arrangements for nine years. The mechanism for seeking advance ruling from the Authority of Advance Rulings (AARs) was extended to high value domestic transactions. Similarly, on the vexed issue of taxation of indirect transfers, prospective clarifications were promptly issued in Budget 2014 to provide clarity on a go-forward basis.

These measures were followed by steps such as strengthening AAR benches, building increased capacity at the APA office, significant improvement in bilateral negotiations with US tax authority under Mutual Agreement Procedures, constitution of a high level committee to scrutinize fresh cases of indirect transfers arising from retrospective amendments of 2012 and finally, the Ashok Lahiri Committee to engage regularly with trade and industry on ongoing tax issues.

Even in Budget 2015, significant steps such as a phased reduction in the corporate tax rate to 25% in the next four years, rationalization of tax exemptions and a deferral of the proposed General Anti Avoidance Rules by two years clearly indicate the Government’s resolve to provide an enabling mechanism for doing business in India. This was also evident in the speed with which the Government issued the much-needed clarifications on the question of place of effective management for determining corporate residency as well as taxation of Real Estate Investment Trusts and offshore funds with fund managers based in India.

Given the developments, the moot question is whether the ghost of tax terrorism has been fairly and squarely buried. The key perceived reason for tax terrorism was the retrospective amendment unleashed in the 2012 Budget by the UPA Government. In this regard, the NDA Government resolved not to resort to retrospective taxation. To the FM’s credit, in the two budgets he presented, there has not been a single measure of retrospective taxation. Despite this impressive track record, the overall assessment of India’s tax policy still does not score high marks in the minds of investors and corporate entities alike.

This is the zone where perception and reality get inter-twined. The Government needs to carefully think through and communicate its stand on certain contentious tax issues consistently and well in advance. To begin with, there were considerable expectations that the Government should have undone the deleterious impact of retrospective amendments such as taxation of indirect transfers. Instead, the Government chose to let past cases come before the high-level committee to resolve disputes. Since taxation of indirect transfers has been amended only prospectively, it is unclear how the committee will take a view different from the law, since it existed before the Budget 2014 amendments. The Committee needs to come out with bold, imaginative measures to resolve disputes in respect of past transactions. Foreign and domestic investors alike will be watching the outcome of these deliberations very eagerly.

Similarly, while expansion of AAR to domestic transaction and constitution of additional benches is welcome, the significant backlog of pending applications has prevented the AAR to stick to the legislative guidance of a six-month timeframe to decide on applications. Enabling the AAR to expeditiously dispose all pending and new matters within the stipulated timeframe will go a long way in assuring investors of timely response.
Another area demanding expeditious administrative action is the APA program. APA’s success in attracting more than 500 applications has been coupled with unprecedented workload on the APA office, which sorely needs capacity augmentation to continue its admirable job. Besides, various technical position papers prepared by the APA office are pending final conclusion by the Income tax department without which the APA office is unable to close pending TP applications.

As regards Ashok Lahiri Committee for engagement with trade and industry, it must have a time bound program for implementing suggestions made by the industry, to the extent acceptable by the CBDT. Where required, CBDT should issue technical guidance upfront, to clarify their stand on contentious issues.
Finally, the dichotomy between perception and reality is best illustrated with the Government’s handling of the MAT controversy in respect of foreign portfolio investors (FPIs). At one level, the Government was extremely responsive in promptly providing clarity on non-applicability of MAT on capital gains of FPIs in Budget 2015. This position was even extended to other incomes such as interest from Indian securities. However, the amendments applied from 1 April 2015 on the ground that for past transactions a reference is pending before the Supreme Court in appeal against an AAR ruling on the same issue. After indirect transfers, this was the second instance where the Government chose to let the past take its own course rather than using its legislative authority to take care of these issues once and for all. However, the Government has recently constituted the A.P. Shah Committee to examine the issue in totality.

All in all, it is fair to state that the Government has done a salutary job of removing the phobia of tax terrorism for the future. Unfortunately, rather than burying the ghosts of the past, it has chosen the middle path of attempting to resolve past issues through administrative mechanism, the success of which still needs to be determined. Therefore, the Government’s scorecard on tax policy measures so far has certainly been good, but not bold enough to completely exorcise the ghosts of the past.

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