#TaxmannPPT | General Anti Avoidance Rules (GAAR)

General Anti-Avoidance Rules (GAAR)

Presented By: E.N. Dwaraknath and Sriram Seshadri December 2022

Price Waterhouse & Co LLP

Introduction to GAAR 01

Introduction to GAAR (1/2)

Genesis of GAAR

Finance

01 02

Tax Planning

2

1GAAR is an anti avoidance law to curb evasion and avoid tax leaks. It codifies the principle of substance over form and empowers Revenue Authorities to deal and guard against arrangements that are designed for tax avoidance.

GAAR

OECD defines Tax Avoidance as “Tax avoidance refers to a term used to describe an arrangement of a taxpayer's affairs that is intended to reduce his liability and that although the arrangement could be strictly legal it is usually in contradiction with the intent of the law it purports to follow”.

OECD defines Tax Planning as “Tax planning refers to a term used to describe an Arrangement of a person's business and /or private affairs in order to minimize tax liability”

Tax Avoidance

“I propose to introduce a General Anti Avoidance Rule (GAAR) in order to counter aggressive tax avoidance schemes, while ensuring that it is used only in appropriate cases, by enabling a review by a GAAR panel”

Ministers’ Budget Speech in Parliament on 16 March 2012:

Introduction to GAAR (2/2)

up to GAAR

16 March 2012

GAAR was introduced in the Finance Bill 2012 (w.e.f. 01.04.2012)

28 June 2012

Draft GAAR guidelines were released by the Government of India

1 September 2012

The Committee’s report was published.

Finance Act, 2015

Implementation of the Finance Bill 2015 deferred GAAR for one year. It is implemented from 01.04.2017.

11 February 2022

CBDT constituted Approving Panel

GAAR was deferred till 01.04.2014 on enactment of the Finance Bill 2012 28 May 2012

An expert committee was constituted to review and rework GAAR guidelines 13 July 2012

GAAR was postponed for another two years and was to become applicable from 01.04.2016 14 January 2013

CBDT issued FAQs vide Circular No. 7 clarifying certain issues in implementation of GAAR 27 January 2017

Framework of GAAR 02

Framework of GAAR (2/6)

Section 96- Impermissible Avoidance Agreement

An arrangement is an impermissible avoidance agreement (IAA)

Primary Condition Additional Conditions

Main purpose is to obtain tax benefit

Tax benefit includes:

• Reduction or avoidance or deferral of tax

• Increase in a refund of tax

• Reduction or avoidance or deferral of tax as a result of a tax treaty

• Increase in a refund of tax as a result of a tax treaty

• Reduction in total income

• Increase in loss

Creates rights or obligations which are not ordinarily created between persons dealing at arm’s length OR Results, directly or indirectly, in the misuse or abuse of the provisions of the Income-taxAct OR

Lacks or is deemed to lack commercial substance under section 97, in whole or in part OR

Entered into or carried out, by means or in a manner not ordinarily employed for bonafide purposes

Section 96 (2) - An arrangement shall be presumed, unless it is proved to the contrary by the assessee, to have been entered into, or carried out, for the main purpose of obtaining a tax benefit, if the main purpose of a step in, or a part of, the arrangement is to obtain a tax benefit, notwithstanding the fact that the main purpose of the whole arrangement is not to obtain a tax benefit.

Framework of GAAR (3/6)

Section 97-Lack of commercial substance

Arrangement shall deemed to be lacking commercial substance, if any one of the below:

• Substance/ effect of the arrangement as a whole differs significantly from individual steps; or

• Round-trip financing, accommodating party, elements having effect of offsetting/ cancelling each other, transaction conducted through one/ more person to disguise the value, location, source, ownership, source or control; or

• Involves location of asset/ transaction or residence of any party which is without any substantial commercial purpose; or

• Does not have any significant effect on business risks/ cash flow to any party other than the tax benefit.

The following factors would be RELEVANT BUT NOT SUFFICIENT, in determining the lack of substance:

• Period for which the arrangement exists;

• Payment of taxes directly or indirectly under the arrangement;

• Provision of exit route by the arrangement

Framework of GAAR (4/6)

Section 98-Consequences of IAA

Consequences of IAA – Denial of Tax Benefit or a benefit under tax treaty by way of

Disregard / combine / recharacterize whole / part of the arrangement

Disregard any accommodating party or treat any accommodating party and other party as one and same person

Treat IAA as if it had not been entered into

Re-assign place of residence / situs of assets or transaction

Re-allocate income, expenses, relief, etc.

Disregard corporate structure

Re- characterize Equity- Debt, Income, Expenses, relief, etc.

Rule 10UA – If the part of the arrangement is declared to be an IAA, the consequences in relation to tax shall be determined with reference to that part

Framework of GAAR (5/6)

Rule 10U-Key exclusions

GAAR shall not apply to-

• Arrangement where the tax benefit in a relevant assessment year on aggregate basis (all parties) does not exceed INR 3 crores;

• A Foreign Institutional Investor

- Who is an assessee under the Income-taxAct, 1961

- Who has not taken benefit of DTAA

- Who has invested in listed securities, or unlisted securities, with permission of competent authority, in accordance with SEBI and such other regulation.

• A person being a non-resident, in relation to investment made by him by way of offshore derivative instrument or otherwise, directly or indirectly, in a Foreign Institutional Investor

• Income from transfer of investments made beforeApril 1, 2017.

Framework of GAAR (6/6)

Issue a notice seeking objections against applying Chapter XA

• Satisfaction of PCIT/ CIT – If satisfied that GAAR is not applicable, based on reference by the AO or based on the objections of the Assessee, PCIT/CIT shall issue order in writing to AO, accordingly. If satisfied that GAAR to be invoked- refer the matter to Approving Panel (AP).

• Formation of opinion – AP could ask PCIT/CIT/ Other tax authority to furnish report, cause inquiry, call for and examine records or require Assessee to furnish necessary documents/ evidence

• Opportunity to Assessee/ AO – be given before giving directions which is prejudicial to Assessee/ Revenue as the case maybe

• Directions of the AP – Directions binding on Assessee and PCIT/CIT and is non-appealable.

• Completion of proceedings - to be in accordance with the directions of the PCIT/CIT or AP, as the case maybe. Directions of the AP resulting in tax consequence, to be given effect only after prior approval from CIT. If an arrangement is declared as impermissible for other previous years, AO to complete proceedings of such previous years, without making a reference. Order appealable before Tribunal.

• Constitution of AP – Three members (i) Chairperson-Active/Retired HC judge, (ii) IRS not below PCIT/ CCIT and (iii) academic/ scholar. To be constituted for a period of one to three years. AP to have powers of AAR. CBDT constituted AP on 11.02.2022.

Clarifications by CBDT

Clarifications issued by CBDT (1/2)

• GAAR and SAAR provisions would co-exist

• If a case of avoidance is sufficiently addressed by LOB in the tax treaty, GAAR shall not be invoked

• GAAR will not interplay with the right of the taxpayer to select or choose method of implementing a transaction

• GAAR shall not be invoked merely on the ground that the entity is located in a tax efficient jurisdiction. If the jurisdiction of FPI is finalized based on non-tax commercial considerations and the main purpose of the arrangement is not to obtain tax benefit, GAAR will not apply.

• Grandfathering for investments made prior to April 1, 2017.

• GAAR would not be applicable on ruling by AAR. Would GAAR apply on ruling by BAR?

• Where the Court has explicitly and adequately considered the tax implication while sanctioning an arrangement, GAAR will not apply

• Admissibility of claim under treaty or domestic law for same transaction in different years is not a matter to be decided through GAAR provisions

Clarifications issued by CBDT (2/2)

• In the event of a particular consequence being applied in the hands of one of the participants as a result of GAAR, corresponding adjustment in the hands of another participant will not be made.

• Tax benefit would be in the context of Indian jurisdiction and would be assessment specific.

• If an arrangement is held as permissible in one year, facts and circumstances remaining the same, GAAR will not be invoked in subsequent year.

• Levy of penalty depends on facts and circumstances of the case and is not automatic. Blanket exemption not applicable.

Interplay between GAAR & MLI under BEPS

Interplay between GAAR & MLI under BEPS

Article 7 of MLI

Notwithstanding any provisions of a Covered Tax Agreement, a benefit under the Covered Tax Agreement shall not be granted in respect of an item of income or capital if it is reasonable to conclude, having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes of any arrangement or transaction that resulted directly or indirectly in that benefit, unless it is established that granting that benefit in these circumstances would be in accordance with the object and purpose of the relevant provisions of the Covered Tax Agreement.

Particulars

Applicability

GAAR PPT

Main or even one of the principal purpose is to obtain tax benefit. Not in accordance with treaty object or purpose.

Jurisprudence 05

International Jurisprudence (1/2)

Interest paid to group entities

• UK GAAR provisions were applied on BlackRock to disregard the interest payment made to group company for the loan provided to the taxpayer for acquisition of another entity, on the ground that such a transaction would not have occurred between two independent parties.

• Japanese GAAR provisions were applied in the case of Japan vs Universal Music Corp to disregard the Interest payment on same lines as in the UK ruling, but the action of the Tax Authorities were overturned in appeal stating that the transaction was for bonafide business purposes.

Royalty payment

• French GAAR rules were

higher

paid after transfer of IP from US to Swiss PE of a Luxembourg Company on the ground that there was no commercial justification for a substantially higher royalty being paid and that the transaction was motivated by tax considerations

Treaty Benefit

• Canadian GAAR was applied in the case of Alta Energy where Capital gain exemption based on treaty provisions were sought to be denied, but this was overturned in appeal as the revenue failed to prove an abusive tax avoidance. The ruling affirms the twostep process (i) identifying the object, spirit, and purpose of the provisions giving rise to the tax benefit and (ii) determining whether the transactions resulted in an abuse of these provisions.

applied on McDonald’s for denying

royalties

International Jurisprudence (2/2)

Sale and lease back

• Polish GAAR provisions were applied to disregard license fee paid on a sale and lease back of trademark in the case of Poland vs X-TM on the basis that the taxpayer undertook the transaction, not aimed at achieving the revenue, but to generate artificial tax-deductible costs.

Beneficial Ownership

• Danish GAAR provisions were applied to hold that receipt of Dividend is not the beneficial owner of such Dividends in the case of Denmark vs Heavy Transport Holding Denmark ApS. Based on the finding of the tax authorities, an assessment was issued regarding payment of withholding tax on the dividends. On appeal, the Court held in favor of the tax authorities and held that the parent company in Luxembourg was a socalled “flow-through” company which was not the beneficial owner.

• Danish GAAR provisions were applied in the case of Takeda A/S and NTC Parent to disregard the beneficial owner of interest received as such interest was a “flow-through” arrangement. Since the companies were interposed between the Danish companies and the holding company/capital funds which had granted the loans, and that the corporate structure had been established as part of a single, preorganised arrangement without any commercial justification but with the main aim of obtaining tax exemption for the interest.

Key takeaways

Key Takeaways

GAAR applies the lens of Commercial Expediency. Mere satisfaction of provisions under the Act / Treaty may not be sufficient

Test the transaction in the alternate possible structure; if the same does not lead to tax avoidance, then GAAR cannot be invoked

Onus is on the revenue to show that there is an abusive tax avoidance arrangement

Tax authorities can invoke the provisions of GAAR even if SAAR / LOB conditions are satisfied. In other words, GAAR needs to be tested on a standalone basis.

Sufficient documentary evidence should be maintained for each transaction and step in.

Thank you

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