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Monday, January 14, 2013

A Burst of Applause 2013 High for Market as GAAR Deferred to 2016

Govt pulls out all stops to perk up sentiment. After a string of reforms, it now postpones GAAR. With inflation also cooling, this year has started with positive vibes


    The government has deferred the implementation of controversial tax-avoidance rules until 2016, to the relief of markets and industry, which had been crying hoarse about their corrosive effect on investor sentiment towards India at a time business confidence is already low. 
Announcing the decision to defer the so-called General Anti-Avoidance Rules, or GAAR, by two years a week before he leaves on a tour of Asia and Europe to woo foreign investors, Finance Minister P Chidambaram said the government had "accepted the major recommendations with some modifications" of a high-level committee headed by noted tax expert Parthasarathi Shome. 
These rules had become a lightning rod for criticism 
after being unveiled in last March's budget, and the uproar they triggered had forced the government to delay their implementation by a year. 
Industry cheered Monday's decision 
to delay GAAR's implementation by two more years, and in the stock markets, the benchmark BSE Sensex jumped by 243 points to close at a two-year high. 
"The decision to defer GAAR would stimulate business confidence of investors, which had taken a beating with the introduction of the tax proposal. In the next two years, it is hoped that the global and domestic economic conditions would improve and the imposition of GAAR would not have too much of a negative impact on investments, both domestic and foreign," said industrialist Adi Godrej, who is also the president of industry group CII. 
Planning Commission Deputy Chairman Montek Singh Ahluwalia also called the GAAR deferral a step in the right direction. 
Government Forced to Find a Middle Ground on GAAR 
The GAAR rules sought to clamp down on tax avoidance by denying tax benefits to any arrangement entered into with the sole objective of avoiding taxes. Although these were targeted mainly at investments routed into India through tax havens and countries such as Mauritius, investors feared these rules would leave too much discretionary powers in the hands of tax officials and lead to harassment. 
Prime Minister Manmohan Singh, who temporarily took charge of the finance ministry following the resignation of Pranab Mukherjee to contest presidential elections, set up the panel of experts under Shome to review GAAR. This committee, in its report to the finance ministry, had suggested a three-year deferral of the rules to give more time for effective implementation, but this was resisted by the Central Board of Direct Taxes, forcing the government to find a middle ground. 
The GAAR rules, when they come into force, will not apply to foreign institutional investors who do not take any benefit under a tax pact, leaving open the possibility that it could apply to investors using Mauritius as their base. The rules, if invoked, will override any international tax treaty. 
India, which has been negotiating changes to a bilateral tax treaty with Mauritius for some time now, is keen to plug loopholes it believes are being exploited by non-genuine investors. New Delhi is expected to push for inclusion of specific anti-avoidance rules (SAAR) of the kind that exist in its agreement with Singapore in its treaty negotiations with Mauritius so that tax benefits are available only to genuine investors. 
The Shome committee had also recommended that the GAAR provisions not be applied to examine the genuineness of the residency of an entity set up in Mauritius. But Monday's announcement was silent on this issue. The panel had also recommended the abolition of short-term capital gains tax on sale of shares, but the government did not say if it had been accepted or rejected. 
"FIIs (foreign funds) have been given time till 2016 to be compliant with GAAR requirements. Post implementation of GAAR, substance would be key to determine the tax outcome," said Rahul Garg, executive director at PricewaterhouseCoopers. The GAAR rules will also not apply to non-resident Indians investing in the country through foreign funds, which will help clear any uncertainty over the taxation of 
participatory notes and investors in private equity funds. 
Investments made prior to August 30, 2010, when the new Direct Taxes Code (DTC) was introduced in Parliament, will also be exempt from the GAAR provisions. This will imply that investors who have investment arrangements after this date will have to tweak them to avoid falling into the ambit of GAAR. Some experts say linking the socalled 'grandfathering' date, industry jargon for exempting something from a new regulation, to the DTC was not appropriate. "Grandfathering date provisions need to be relooked since the Finance Act, 2012, legislated GAAR to be made applicable only from April 1, 2013," said Mukesh Butani, chairman of BMR Advisors. 
The minimum income threshold below which GAAR would not apply has been set at . 3 crore, ensuring that small taxpayers would not be affected. To allay concerns that these rules could be misused by tax officials, Chidambaram said assessees will get an opportunity to prove the legitimacy of the arrangements employed and tax officers will be required to issue a show cause notice containing reasons before invoking GAAR. Time limits will be prescribed for action by various authorities under GAAR and taxpayers will also have the option to approach the authority of advance rulings on whether an arrangement is impermissible avoidance arrangement or not. The onus will also be on auditors to report any tax avoidance arrangement. Chidambaram said the panel for invoking GAAR would consist of a chairperson who is or has been a judge of a high court, a chief commissioner-rank income-tax officer and an academic or a scholar having knowledge of direct taxes, business accounts and international trade practices. 
The government will next have to amend the law in the forthcoming budget to give the deferment a legislative form.



Parthasarathi Shome

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