Will a reassurance suffice a retrospective dilemma?
The Ministry of Finance of India in the latest press release “India-US Relations on Strong Footing: FM India Reaffirms ITS Position Regarding Retrospective Amendments in Certain Tax Provisions”1 (‘Press Release’) tried to give solace to the international fraternity over the recently debate that erupted by the Finance Bill 2012.
In the Press Release, the Union Finance Minister Pranab Mukherjee (the ‘FM’) noted that the relations between India and the United States have evolved in recent years into a global strategic partnership, based on shared values and increasing convergence of interests on regional and global issues but the US Treasury Secretary Timothy Geither backlashed on the retrospective amendments brought about by the Finance Bill 2012. On an earlier occasion British Chancellor of Exchequer George Osborne shared the same sentiments about the unprecedented period of retroactive tax collection, a broad and unclear general anti-avoidance rule and taxation of offshore indirect transfers. The quiver prevailing in the international community is high on the retrospective amendments that it will open the Pandora’s Box of tax claims and liabilities in India.
The FM asserted that the proposed tax changes are “not substantive” but clarificatory in nature and only reiterates the intent of the legislation. If that is true, kudos to the then Government to have had the vision to contemplate indirect transfers by non-residents through intermediary jurisdictions as early as 1961, at a time when India had not liberalized and foreign investments into the country were only a dream.
Such is the clarification given by the FM in reiterating that it was the ‘real’ intention of the then Government to tax such indirect transfers when the section was codified in 1961 but the irony being India started to have tax treaties with tax neutral jurisdictions only from 1980s. All is fair in love, war and tax!!
On the reopening of the earlier cases, the FM stated that no tax cases can be opened beyond six years and the tax cases which have been assessed and finalized up to April 1, 2012 cannot be opened by the tax authorities. The FM was of the view that in order to avoid double non-taxation on the gains arising out of assets located in India amendment in the capital gains tax has been brought about. Interesting on the issue of categorization of software sales as royalties the FM clarified that the tax authorities in both the countries disagree on the characterization of the same.
As per the Income Tax Act, 1961 (‘the Act’), any person whose income is liable to tax in India is required to file return of income (‘ROI’). Once the ROI is filed, the revenue authorities on a selective basis will process certain ROI. On processing, the authorities may issue intimation (‘intimation’) to the taxpayers making certain mere arithmetical changes like additions or deletions to the claims made by the taxpayers in their ROIs. If however, the authorities feel that certain income has not been disclosed in the ROI or excessive deduction or loss has been claimed by the taxpayer they may select those ROIs for further assessment namely, the scrutiny assessment.
For the purpose of scrutiny assessment, a notice would be issued by the tax authority requiring the taxpayer to produce certain documents and/ or written submissions. Based on the documents and submissions made, the tax authority will complete the scrutiny assessment by making certain additions to the income or disallowances of the deductions, etc. claimed by the taxpayer in his ROI by way of a reasoned order (‘assessment order’).
Reopening of cases comes into play when the tax authority after certain period of time has reasons to believe that certain income has escaped assessment for which either only intimation was issued or an assessment order itself has been passed. However, there are time limits and conditions to be satisfied for reopening. If the time limits lapse, then the tax authorities are barred from reopening. It is judicial precedents that reopening is not a windfall option for the tax authorities to go behind the lost money.
The time limit and conditions to be satisfied for reopening intimations and assessment orders are as follows:
In the above backdrop, though the retroactive amendment dates back to April 1, 1962, reopening cannot go beyond six years under any circumstances. For the indirect transfers where only intimation has been issued, reopening could go up to six years as condition 1 above is usually satisfied. In the cases where assessments were scrutiny assessments, the additional condition has to be fulfilled to go beyond four years but within six years. Interestingly, when a provision is retroactively amended which creates a new tax burden on the taxpayer which could not have been contemplated at the time of the transaction, it could well be argued that there is no failure or omission on the part of the taxpayer to disclose all material facts.
The period of limitation begins from the end of the relevant assessment year (‘AY’) i.e. from April 1 to March 31 in which the intimation or assessment order was issued or passed to the date the tax authorities intend to reopen. As of now, reopening could be made only for cases post AY 2006-07 i.e. April 1, 2006 to March 31, 2007 as the time limit to reopen prior to it i.e. AY 2005-06 and beyond has already lapsed on March 31, 2012.
Therefore, the assurance by the FM that no cases would be reopened beyond six years is not a leeway but rather a restriction imposed under law.
Whom do the reopening provisions really protect?
The above time limit protects non-residents who actually earn income which arises or accrues or deemed to arise or accrues in India under section 9 of the Act. The time limit, unfortunately, does not protect the persons who are liable to withhold taxes while making such payments to nonresidents i.e. there is no time limit to freshly assess or to reopen assessments on a person who fails to withhold taxes which was exactly the issue in the Vodafone case. In short, even if the nonresident recipient could not be taxed for income earned beyond six years, the same tax can be saddled upon the payer of such income to have failed to withhold appropriate taxes. Sadly, the proceedings on the income recipient and the income payer are co-extensive i.e. both can be jointly and severally be pursued.
The question still remains, does the official clarification gives a reassurance that the retrospective amendment will not hamper the confidence of the international fraternity in the Indian tax system and not cause uncertainty.
Retroactivity of laws, how courts look at them?
To give perspective, a statute is considered to be retrospective when it takes away or impairs any vested right acquired under the existing laws or creates a new obligation, or imposes a new duty, or attaches a new disability in respect of a transactions or considerations already past2. The legislature within its powers can legislate a law which is retrospective in nature and taxing statutes are no exception to this rule. The validity of a retrospective provision has to be tested on proper and cogent grounds and checked on the touchstone whether these provisions defeat the reasonable expectations of those affected by these provisions. With regard to statute which is merely explanatory, declaratory, and curative or clarificatory nature, the position of law is clear that these are regarded as retrospective amendments which have been judicially upheld.3 In past, a number of clarificatory amendments have been brought about in the Act vide the Finance Acts with the purpose of nullifying the decisions of the courts. It is interesting to note that the retrospective amendment which brings a change in the substantive law by inserting a “new levy” may be rendered are clearly unconstitutional.4
The Supreme Court has set out that retroactive amendments by way of inserting validation clauses with only substantive amendments and without clarifications would be defeated by the constitutionality test. To pass the test, the Government has to clarify and remove the infirmities in the existing provisions which led to the invalidation of the provision by the court. This is precisely why the Indian Government has introduced a new Explanation to section 9(1) of the Act that indirect transfers are also covered by the said section. Since section 9 was introduced in 1961 itself, the Government played safe that it intended right from day one that such indirect transfers are also covered by it. The cue to the Government is from the Vodafone judgment which clearly pointed out that had there been a clear provision, the judgment would have been different.
Can it be said that in the garb of the principle enunciated by the Supreme Court with regard to the application of clarificatory amendments retrospectively, the legislature has a made a successful attempt to change section 9 of the Act5 and term it as “clarificatory” and nullified the Vodafone judgment?
This is not the end! The house is still open; it is testing times for the international fraternity and also for the Supreme Court of India to see what turn the laws will take, having glaring questions on the constitutional validity of these amendments.