Tax Authorities’ Empowerment to Annul Property Transfers: A Revisit

Introduction

Transfer of assets and businesses are part and parcel of the commercial world and have become an ordinary business process. In the contemporary paradigm, to ensure that there is no encumbrance on the property being transferred and that the transfer agreement actually transfers the right purported to be transferred under the agreement, extensive legal due diligence is the order of the day. However, a niche aspect which is often given short shrift in these due diligences is the statutory empowerment of the tax authorities to obtain a subsequent annulment of a lawfully executed transfer. This is a critical aspect which requires a careful examination of the applicable statutory provisions which exist in both direct and indirect fiscal legislations. This article seeks to traverse the statutory scheme under the tax laws to highlight the criticality of the issue and to alienate the empowerment of the tax authorities to seek annulment of business transactions and property transfers.

Scheme under the GST laws

The GST laws encapsulate a statutory declaration that certain transfer of property would be void if executed with the intention of defrauding the Government. The provision envisages and precludes all kinds of transfer executed by a person against whom an amount has become due under the GST laws. The provision, a part of the Central Goods and Services Tax Act, 2017 (CGST Act), states as under:

81. Transfer of property to be void in certain cases.—Where a person, after any amount has become due from him, creates a charge on or parts with the property belonging to him or in his possession by way of sale, mortgage, exchange, or any other mode of transfer whatsoever of any of his properties in favour of any other person with the intention of defrauding the Government revenue, such charge or transfer shall be void as against any claim in respect of any tax or any other sum payable by the said person:

Provided that, such charge or transfer shall not be void if it is made for adequate consideration, in good faith and without notice of the pendency of such proceedings under this Act or without notice of such tax or other sum payable by the said person, or with the previous permission of the proper officer.

It stipulates that transfer of property would be void in certain cases. This provision applies to a person who “after any amount has become due from him” makes the transfer. The expression “after” would ordinarily mean that it applies only after the crystallisation of the due amount. However, the GST law does not indicate when an amount “becomes due” from a person; it is once the charging provision applies or when an order confirming an amount due is passed. Ordinarily it should be the latter meaning because amount being due implies a clear determination of the due amount along with the consequences for non-payment. Section 78 of the CGST Act stipulates that “any amount payable by a taxable person in pursuance of an order passed under this Act shall be paid by such person within a period of three months from the date of service of such order failing which recovery proceedings shall be initiated”. One may be tempted to link this statutory stipulation with the prohibition upon transfers under Section 81. In other words, one may argue, that only after an order is passed confirming an amount due that the prohibition on transfer under Section 81 kicks in. However, there is an equally compelling view that the recovery mechanism under Section 78 does not curtail the broad ambit of Section 81. This is because (a) there is no reference in Section 81 to Section 78; (b) an amount can become recoverable even without an order in certain circumstances, as set out in Section 75(12) of the CGST Act; and, most critically, it is arguable; and (c) the purpose of the prohibition under Section 81 may be lost if an order is insisted every time because there may be situations where persons who are imminently aware of the order being passed may effectuate the transfer “with the intention of defrauding the Government revenue”. Thus, at this stage, there is no clarity on the exact moment when the prohibition under Section 81 arises. Nonetheless, the date on which the prohibition arises is critical given that, as the Supreme Court has declared in a related context, the prohibitive event must have been occasioned for the prohibition on the transfer to apply.¹

On the scope of the prohibition under Section 81 there appears to be no room for debate as regards its wide coverage. The prohibition extends to creation of charge, parting of possession, sale, mortgage, exchange, or any other mode of transfer. The provision also does not make a distinction between movable or immovable property. In fact, the provision does not even require that the property under consideration should be owned by the transferor, the fact that it covers both “property belonging to him or (property) in his possession” implies that even the possessor (besides the owner) is covered within the prohibition under Section 81.

The extent of prohibition under the provision, however, makes an interesting read. It states that the “charge or transfer shall be void as against any claim in respect of any tax or any other sum payable by the said person”. One may be pardoned for reading the provision literally to imply that the provision neither declares the charge/transfer void ab initio nor declares the charge/transfer void in rem. Instead, the provision suggests voidability only to the limited extent of the “claim” towards tax, etc. In other words, there may be scope to argue that the prohibition under Section 81 does not apply when the creation of the charge or transfer does not impinge upon the ability of the transferor to otherwise discharge the tax or other dues under the GST laws. Such a construction of the statutory provision would necessarily impose an additional obligation upon the tax authorities to demonstrate, as a necessary condition to the application of Section 81, that the charge/transfer has impaired the capacity of the transferor to pay the dues. At this stage there is no direct judicial authority for this proposition on construction of Section 81, yet such an interpretation appears logical given that the limited purpose of the prohibition under Section 81 seems to protect the ability of the Government to recover the dues under the GST laws and, therefore, so long as the charge/transfer does not come in the way of the Government from making such recovery the declaration of voidability under Section 81 may be unnecessary.

In any case, perhaps a safety valve, the proviso to Section 81 identifies the circumstances in which the prohibition would not apply. Pragmatically, it is ideal for the parties concerned to obtain waiver of the prohibition under the provision through a certification by the jurisdictional tax officer. In such a scenario the dispute as to application of the provision itself would stand obviated. In fact, most legal practitioners would insist on such a certification to rule out even a contest to the voidability of the transaction on account of Section 81. However, even in the absence of the permission being granted by the tax officer, the person concerned is not without remedy. Instead, the statutorily granted defences of “adequate consideration”, “good faith”, “without notice” may be pressed upon to contest a declaration of annulment of the transfer under this provision. None of these expressions are statutorily defined in GST laws, yet each of them has received extensive judicial enunciation so much so that their meaning and scope is virtually settled.

Scheme under the income tax laws

It is interesting to note that the prohibition on transfer under the GST laws is not a new experiment in the fiscal landscape, instead a similar provision has been a part of the income tax law form long. Section 281 of the Income Tax Act, 1961 (IT Act) is substantively similar and states as under:

281. Certain transfers to be void.—

(1) Where, during the pendency of any proceeding under this Act or after the completion thereof, but before the service of notice under Rule 2 of the Second Schedule, any assessee creates a charge on, or parts with the possession (by way of sale, mortgage, gift, exchange or any other mode of transfer whatsoever) of, any of his assets in favour of any other person, such charge or transfer shall be void as against any claim in respect of any tax or any other sum payable by the assessee as a result of the completion of the said proceeding or otherwise:

Provided that such charge or transfer shall not be void if it is made—

(i) for adequate consideration and without notice of the pendency of such proceeding or, as the case may be, without notice of such tax or other sum payable by the assessee; or

(ii) with the previous permission of the Assessing Officer.

(2) This section applies to cases where the amount of tax or other sum payable or likely to be payable exceeds five thousand rupees and the assets charged or transferred exceed ten thousand rupees in value.

Explanation.—In this section, “assets” means land, building, machinery, plant, shares, securities and fixed deposits in banks, to the extent to which any of the assets aforesaid does not form part of the stock-in-trade of the business of the assessee.

From a comparison of the provisions in the two laws, it is clear that the latter has a much larger basis to trigger the prohibition. The prohibition applies even “during the pendency of any proceeding” under the IT Act vis-à-vis “after any amount has become due” under the GST laws. The scopes of the two laws, however, appear to be aligned insofar as even under the IT Act the prohibition is qua creation of charge, parting with possession, sale, mortgage, gift, exchange or other mode of transfer.

Given that the provision under the IT Act has been in vogue for a considerable period, there are certain decisions enunciating the legal position flowing thereunder. The most critical aspect is that the application of Section 281 is not automatic², there has to be a judicial proceeding adjudicating the claims before any kind of order can be passed under Section 281.³ Furthermore, the tax authorities are duty-bound to examine the claims of the transferee/possessor to establish that the transfer was without notice of such tax dues.⁴

Even though there is no indication in the language of Section 281 whether or not it applies automatically, the decisions have concluded that the invocation of Section 281 requires appropriate proceedings. Similarly, Section 81 of the CGST Act is silent as to whether it applies automatically. Given the parity of the two provisions, therefore, it appears expedient to read the judicial exposition within the realm of Section 81 of the CGST Act as well to imply that even this provision does not apply automatically.

Another interesting aspect of the incumbent Section 281 of the IT Act is that it does not make a reference to the requirement of “defraud the interests of revenue” test. However, this test existed in the provision prior to its amendment by the Taxation Laws (Amendment) Act, 1975, w.e.f. 1-10-1975. The language of the provision before and after its amendment was judicially considered to declare that in view of the “defraud the interests of revenue” test, the tax authorities carried the burden of proof to establish mens rea of the transferor concerned, but in view of the amendment there is no such obligation upon the tax authorities.⁵ As evident, the “defraud the interests of revenue” test, which was omitted from the scheme of the IT Act, specifically finds mention in Section 81 of the CGST Act. Accordingly, it would appear that under the GST laws it is the obligation of the tax authorities to demonstrate that the transferor concerned intended to defraud the Government.

Conclusion

An analysis of the statutory provisions reveals the underlying intent of the lawmakers to scuttle those liable to discharge dues from engaging in avoidance maneuvers by transferring or encumbering their properties. The empowerment of the tax authorities and the scope of the prohibition under the fiscal laws is wide, though not without exception and the rights of the affected persons appear to have been preserved by engrafting statutory exceptions to the prohibition. A comparative analysis of the provisions under the IT Act and GST laws, however, reveals differences in fine print of the statutory provisions whereby different considerations emerge as regards the manner in which the power is to be exercised by the tax authorities. Nonetheless, in order to avoid protracted litigation on account of the application of these provisions, pragmatically it is expedient for the parties concerned to obtain the prior permission of the authorities concerned, which shall perpetually obviate the clouds of uncertainty over the validity of the transfer.