The issue of the General Anti Avoidance Rule (GAAR) has dominated the news recently and there are fears that GAAR will discourage foreign investment in India. However, tax avoidance can hinder public finance objectives and it is in this context GAAR was introduced in this year’s Budget. Last week, the Finance Minister pushed back the implementation of GAAR by a year. What is GAAR? GAAR was first introduced in the Direct Taxes Code Bill 2010. The original proposal gave the Commissioner of Income Tax the authority to declare any arrangement or transaction by a taxpayer as ‘impermissible’ if he believed the main purpose of the arrangement was to obtain a tax benefit. The 2012-13 Finance Bill (Bill), that was passed by Parliament yesterday, defines ‘impermissible avoidance arrangements’ as an arrangement that satisfies one of four tests. Under these tests, an agreement would be an ‘impermissible avoidance arrangement’ if it (i) creates rights and obligations not normally created between parties dealing at arm’s length, (ii) results in misuse or abuse of provisions of tax laws, (iii) is carried out in a way not normally employed for bona fide purpose or (iv) lacks commercial substance. As per the Bill, arrangements which lack commercial substance could involve round trip financing, an accommodating party and elements that have the effect of offsetting or cancelling each other. A transaction that disguises the value, location, source, ownership or control of funds would also be deemed to lack commercial substance. The Bill as introduced also presumed that obtaining a tax benefit was the main purpose of an arrangement unless the taxpayer could prove otherwise. Why? GAAR was introduced to address tax avoidance and ensure that those in different tax brackets are taxed the correct amount. In many instances of tax avoidance, arrangements may take place with the sole intention of gaining a tax advantage while complying with the law. This is when the doctrine of ‘substance over form’ may apply. ‘Substance over form’ is where real intention of parties and the purpose of an arrangement is taken into account rather than just the nomenclature of the arrangement. Many countries, like Canada and South Africa, have codified the doctrine of ‘substance over form’ through a GAAR – type ruling. Issues with GAAR A common criticism of GAAR is that it provides discretion and authority to the tax administration which can be misused. The Standing Committee responded to GAAR in their report on the Direct Taxes Code Bill in March, 2012. They suggested that the provisions should ensure that taxpayers entering genuinely valid arrangements are not harassed. They recommended that the onus should be on tax authorities, not the taxpayer, to prove tax avoidance. In addition, the committee suggested an independent body to act as the approving panel to ensure impartiality. They also recommended that the assessing officer be designated in the code to reduce harassment and unwarranted litigation. GAAR Amendments On May 8, 2012 the Finance Minister amended the GAAR provisions following the Standing Committee’s recommendations. The main change was to delay the implementation of GAAR by a year to “provide more time to both taxpayers and the tax administration to address all related issues”. GAAR will now apply on income earned in 2013-14 and thereafter. In addition, the Finance Minister removed the burden upon the taxpayer to prove that the main purpose of an alleged impermissible arrangement was not to obtain tax benefit. These amendments were approved with the passing of the Bill. In his speech, the Finance Minister stated that a Committee had also been formed under the Chairmanship of the Director General of Income Tax. The Committee will suggest rules, guidelines and safeguards for implementation of GAAR. The Committee is expected to submit its recommendations by May 31, 2012 after holding discussions with various stakeholders in the debate.
Last week, the Planning Commission filed an affidavit in the Supreme Court updating the official poverty line to Rs 965 per month in urban areas and Rs 781 in rural areas. This works out to Rs 32 and and Rs 26 per day, respectively. The perceived inadequacy of these figures has led to widespread discussion and criticism in the media. In light of the controversy, it may be worth looking at where the numbers come from in the first place. Two Measures of the BPL Population The official poverty line is determined by the Planning Commission, on the basis of data provided by the National Sample Survey Organisation (NSSO). NSSO data is based on a survey of consumer expenditure which takes place every five years. The most recent Planning Commission poverty estimates are for the year 2004-05. In addition to Planning Commission efforts to determine the poverty line, the Ministry of Rural Development has conducted a BPL Census in 1992, 1997, 2002, and 2011 to identify poor households. The BPL Census is used to target families for assistance through various schemes of the central government. The 2011 BPL Census is being conducted along with a caste census, and is dubbed the Socio-Economic & Caste Census (SECC) 2011. Details on the methodology of SECC 2011 are available in this short Ministry of Rural Development circular. Planning Commission Methodology Rural and urban poverty lines were first defined in 1973-74 in terms of Per Capita Total Expenditure (PCTE). Consumption is measured in terms of a collection of goods and services known as reference Poverty Line Baskets (PLB). These PLB were determined separately for urban and rural areas and based on a per-day calorie intake of 2400 (rural) and 2100 (urban), each containing items such as food, clothing, fuel, rent, conveyance and entertainment, among others. The official poverty line is the national average expenditure per person incurred to obtain the goods in the PLB. Since 1973-74, prices for goods in the PLB have been periodically adjusted over time and across states to deduce the official poverty line. Uniform Reference Period (URP) vs Mixed Reference Period (MRP) Until 1993-94, consumption information collected by the NSSO was based on the Uniform Reference Period (URP), which measured consumption across a 30-day recall period. That is, survey respondents were asked about their consumption in the previous 30 days. From 1999-2000 onwards, the NSSO switched to a method known as the Mixed Reference Period (MRP). The MRP measures consumption of five low-frequency items (clothing, footwear, durables, education and institutional health expenditure) over the previous year, and all other items over the previous 30 days. That is to say, for the five items, survey respondents are asked about consumption in the previous one year. For the remaining items, they are asked about consumption in the previous 30 days. Tendulkar Committee Report In 2009, the Tendulkar Committee Report suggested several changes to the way poverty is measured. First, it recommended a shift away from basing the PLB in caloric intake and towards target nutritional outcomes instead. Second, it recommended that a uniform PLB be used for both rural and urban areas. In addition, it recommended a change in the way prices are adjusted, and called for an explicit provision in the PLB to account for private expenditure in health and education. For these reasons, the Tendulkar estimate of poverty for the years 1993-94 and 2004-05 is higher than the official estimate, regardless of whether one looks at URP or MRP figures. For example, while the official 1993-94 All-India poverty figure is 36% (URP), applying the Tendulkar methodology yields a rate of 45.3%. Similarly, the official 2004-05 poverty rate is 21.8% (MRP) or 27.5% (URP), while applying the the Tendulkar methodology brings the number to 37.2%. A Planning Commission table of poverty rates by state comparing the two methodologies by is available here.
