General Anti Avoidance Rules (‘GAAR’)
Clause 40 of Finance Bill, 2012
GAAR introduced for the first time in the Income-tax Act to address aggressive tax planning and codify the doctrine of “substance over form”.
Conditions for invoking GAAR -
The main premise of invoking GAAR is that any transaction or step in a transaction which has one of its main purposes, the obtaining of a tax benefit, should be disregarded, or dealt with in such a manner so as to protect the right of the revenue to taxes
• Where the following two conditions are fulfilled, an arrangement may be declared an “impermissible avoidance arrangement”:
o The taxpayer enters into an arrangement and the main is to obtain a tax benefit; and
o The arrangement fulfils any one of the following criteria:
1. creates rights or obligations which are not ordinarily created between persons dealing at arm’s length;
2. results, directly or indirectly, in the misuse or abuse of the provisions of the Income-tax Act;
3. lacks commercial substance;
4. is entered into, or carried out, by means, or in manner which are not ordinarily employed for bona fide purposes.
• The GAAR provisions may be applied to any step in or part of the arrangement
Onus on taxpayer
• An arrangement which results in any tax benefit shall be presumed to have been entered into, or carried out, for the main purpose of obtaining a tax benefit, unless the taxpayer proves that obtaining such benefit was not the main purpose of the arrangement.
Treaty override
• Presently, the Income-tax Act or treaty, whichever is more beneficial to the taxpayer applies.
• Now, an exception is carved out to this provision, whereby GAAR would apply, even if the provisions under the Income-tax Act are not beneficial to the taxpayer.
Key provisions relating to GAAR
1. “Tax benefit” is defined widely to mean:
• a reduction or avoidance or deferral of tax or other amount payable under the Income-tax Act, including as a result of a tax treaty; or
• an increase in a refund of tax or other amount under the Income-tax Act or as a result of a tax treaty; or
• a reduction in total income including increase in loss.
2. An arrangement is deemed to lack commercial substance if:
• the substance or effect of the arrangement, as a whole, is inconsistent with, or differs significantly from, the form of its individual steps or part; or
• it includes or involves round trip financing, an accommodating party or elements that have the effect of offsetting or cancelling each other or a transaction which is conducted through one or more persons and disguises the value, location, source, ownership or control of fund which is the subject matter of such transaction; or
• it involves the location of an asset or of a transaction or of the place of residence of any party which would not have been so located for any substantial commercial purpose other than obtaining a tax benefit for a part
3. While determining whether or not an arrangement lacks commercial substance, the period or time for which the arrangement (including operations therein) exist, payment of taxes and provisions of exit are not to be considered.
4. The terms round trip financing and accommodating party have been widely defined
5. GAAR can be used in addition to or in conjunction with any other anti avoidance provisions for the determination of tax liability as provided in the Income-tax Act.
Tax consequences on invoking GAAR
• Once an arrangement is declared to be an impermissible avoidance arrangement, then the consequences in relation to tax, of the arrangement, including denial of tax benefit or a benefit under a tax treaty, is determined, keeping in view the circumstances of the case. These consequences could include the following:
1. Disregard or combine any step or part or whole of the arrangement;
2. treat the arrangement as if it had not been entered into or carried out;
3. disregard any accommodating party or treat the accommodating party and any other party as one and the same person;
4. deem connected persons as one and the same person for the purpose of determining tax treatment of any amount;
5. reallocate amongst the parties to the arrangement, any accrual, or receipt (capital or revenue), expenditure, deduction, relief or rebate;
6. treat the place of residence of any party to the arrangement or the situs of an asset or of a transaction at a place other than the place of residence, location of the asset or location of the transaction as provided under the arrangement;
7. look through any arrangement by disregarding any corporate structure.
Procedure for invoking GAAR
• On satisfaction of the conditions for invoking GAAR, the assessing officer can make a reference to the Commissioner. The Commissioner needs to refer the matter to an Approving Panel (comprises a minimum of three members of the rank of Commissioner and above and to be set up by the CBDT) if he is not agreeable with taxpayer. Where however, the taxpayer does not object or reply, the Commissioner shall make determination about GAAR applicability.
• The Approving Panel shall either declare an arrangement to be impermissible or declare it not to be so after examining material and getting further inquiry to be made. The assessing officer will determine consequences of such a positive declaration only after approval by Commissioner. The taxpayer can thereafter appeal to the Tribunal.
• In addition to the above, it is provided that the CBDT shall prescribe a scheme for regulating the condition and manner of application of the GAAR mechanism.
Applicability of GAAR to transactions entered into prior to April 1, 2012
Since GAAR is a substantive provision, these anti avoidance rules should not apply to transactions entered into prior to the DTC coming into effect.
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