Introduction
It was under the shadow of a war that India introduced two major fiscal legislations; the Income Tax Act, 1961 and the Customs Act, 1962, paving way for tax policy of independent India. Both legislations have witnessed umpteen amendments to accommodate the shifting priorities of the incumbent Governments and are now well past their sell-by date. In respect of customs, no fundamental alteration is required as the law is mostly aligned to the international framework[1] which ensures that it stays abreast with the changing times. However, the framework of the income tax law – notwithstanding the tide of significant policy changes and amendments to reverse the judicial pronouncements – continues to wheel the Indian economy like a patchy retreated tyre.
Earnest attempts to bring about holistic changes have not yielded fruit despite the Direct Taxes Code of 2009,[2] the Direct Taxes Code Bill, 2010,[3] followed with a 2013 Bill,[4] all of which lapsed. Thereafter, another fresh attempt in recent past by an Expert Committee in 2019[5] seems to have met the same fate. This is so despite the fact that substantial changes have been made in the income tax policy and law. To enumerate certain landmark changes, the 2016 black money legislation[6]; 15% corporate tax rate for new manufacturing entities announced in 2019;[7] India’s digital services tax i.e. the 2020 Equalisation Levy;[8] Taxpayers’ Charter;[9] scheme for faceless assessments, appeals, penalties;[10] the new scheme for reopening of assessments unveiled in 2021;[11] etc. are some of the path-defining measures. However, their fullest potential cannot be realised given the limitations inherited under the old framework. It is not a surprise, therefore, that the Supreme Court recently implored the Parliament, particularly the draftsmen, to frame simpler tax laws which do not scuttle the taxpayers’ ability to carry out their affairs.
Recent decision of Supreme Court
September 9 decision of the Supreme Court in South Indian Bank[12] is a quintessential illustration on why the founding premise of the tax law needs to be revisited. The decision has been rendered in the context of Section 14-A of the Income Tax Act which disallows claim for expenses which are incurred for earning tax free income.[13] This single provision, which was inserted in 2001, has seen more than its fair share of litigation. Notwithstanding the correctness of the underlying premise,[14] stretched interpretation of the law and an indiscriminate and patchy implementation has resulted into multiple and tiresome controversies. In its two decades of existence, it has engaged the Supreme Court more than 25 times and cluttered the dockets of the tax tribunals and High Courts.
This part of law illustrates that an over-empowered tax administration results into ad hoc stances. It is routinely invoked by tax officers who insist that a proportional disallowance to the ratio of average investments to average assets is mandatory.[15] The application of this provision and the accompanying subordinate legislation[16] warrants a closer look at the minutest of facts of a business enterprise during the assessment stage, which have to be subsequently revaluated at multiple appellate levels in the tax litigation system. In most cases, the disallowance is pressed upon to require businesses to justify whether the expenditure is not just directly related to exempt income but also to rule out its indirect linkage.[17]
The practice of ad hoc disallowance may appear to be trivial but it indicates a discomforting scenario. It not only obliges business to incur more compliance costs, but also disproportionately influences business choices, making them perennially sceptical of Tax Department’s outlook, and perpetuates a penny wise pound foolish quandary.
The Supreme Court decision, echoing Adam Smith’s canon of certainty in tax law, seeks to impress upon the Government that “it is the responsibility of the regime to design a tax system for which a subject can budget and plan”. The Supreme Court has unhesitatingly implored upon the Government to ensure a fair balance of taxpayers’ entitlements such that “unnecessary litigation can be avoided without compromising on generation of revenue”. The observations of the Court, therefore, could not have come at a more appropriate instance. The Government must, however, go beyond. It must reinstitute the tax system such that it scuttles the tax officials’ urge to assume the role of the corporate managers and review their decisions from a tax expediency perspective. In other words, the Department should not be permitted to put itself in the shoes of the taxpayer to assess how a prudent businessman should operate.[18]
Aspirational cravings
The ambitious outlines of the Government, to make India a 5 trillion dollar economy[19] and an economic powerhouse, cannot be achieved with an outdated tax system. The recent withdrawal of 2012 retrospective amendment[20] reveals that the Government is not shy of undertaking bold course correction measures. Having undone all legacy issues, it is time for reforming the administration and functioning of officials. All bets now rest on the faceless assessment scheme, which has had a rough start, given the clutch of writs issued by some High Courts on denial of natural justice and quashing of notices for fallacious reopening of past cases by application of old archaic provisions despite simplification brought into the statute.[21] One cannot over-emphasise the urgency for a new tax system which synergises (and not digests) the aspirations and energies of this reinventing nation, a tax system which facilitates business activity and does not scare away business or drive out investments with humongous compliances and energy sapping inspector-like approach of tax officers.
The Government of India must attempt a GST-like[22] rewriting of entire direct tax landscape which should be based on deep stakeholder consultations such that the progressive advancement of tax system is not replete with thorny issues. The basis premise of the law must be simple; business should focus on doing business without managing tax consequences and Tax Department should collect tax without sitting in judgment over how business should do business. The correct tax lawmaking process, which is usually centred around budget day, is too secretive and gives overwhelming powers to the tax bureaucracy and requires businesses to immediate react to the changes because, many of which are overnight. India can do well to take inspiration from advanced countries wherein lawmaking is a continuous process of stakeholder discussion and duly factors economic metrices and impact analysis before deploying the tax measure. Such system avoids a trial and error approach and obviates the need for frequent course correction measures which become inevitable when the measure has not been thought through. In short, the tax law must reduce avenues for friction.
† Tarun Jain, Advocate, Supreme Court of India; LLM (Taxation), London School of Economics.
[1]The Indian Customs policy and law is aligned to India’s participation and multilateral agreements inter alia under the aegis of (a) World Trade Organisation; (b) World Customs Organisation; and (c) Harmonised Commodity Description and Coding System (or Harmonised System).
[2] This was draft for public consultation. Available HERE.
[3] Introduced in the Lok Sabha on 28-8-2010. Available HERE.
[5] The Task Force on Direct Tax Code submitted its Report to FM Nirmala Sitharaman on 19-8-2019. For details, see HERE.
[6]The Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act, 2015.
[7] For details, see, corporate tax rates slashed to 22% for domestic companies and 15% for new domestic manufacturing companies and other fiscal reliefs, (PIB 20-9-2019), available HERE.
[8]Vide Chapter VI (Part VI) of the Finance Act, 2020 (amending provisions of Finance Act, 2016).
[9]Unveiled in year 2020. For details, see HERE.
[11]In terms of Ss. 40-45 of Finance Act, 2021 (amending Ss. 147-151 of Income Tax Act, 1961).
[12]South Indian Bank Ltd. v. CIT, 2021 SCC OnLine SC 692.
[13]“14-A. Expenditure incurred in relation to income not includible in total income.— (1) For the purposes of computing the total income under this Chapter, no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income under this Act.”
[14]In a detailed decision in Maxopp Investment Ltd. v. CIT, (2018) 15 SCC 523, the Supreme Court upheld the underlying premise of S. 14-A.
[15]For illustration, see CIT v. Jagson International Ltd., 2018 SCC OnLine Del 12874 opining that the mandatory conditionalities under the Income Tax Rules need to be satisfied before S. 14-A disallowance can be triggered and rejecting the stand of the tax authorities of automatically applying the provision.
[16]I.e. R. 8-D, Income Tax Rules, 1962.
[17]For illustration, see CIT v. Sociedade De Fomento Industrial (P) Ltd., 2020 SCC OnLine Bom 1896 : (2020) 429 ITR 207.
[18]For illustration, see recent decision of the Supreme Court in Shiv Raj Gupta v. CIT, 2020 SCC OnLine SC 589 where the “doctrine of commercial expediency” has been affirmed. In this case the Supreme Court inter alia observed that “a catena of judgments has held that commercial expediency has to be adjudged from the point of view of the assessee and that the Income Tax Department cannot enter into the thicket of reasonableness of amounts paid by the assessee”.
[19] For details, see Vision of a USD 5 Trillion Indian Economy, (PIB 11-10-2018), available HERE.
[20]Vide Taxation Laws (Amendment) Act, 2021 (Act 34 of 2021), assented by the President on 13-8-2021.
[21]For illustration, see Pooja Singla Builders and Engineers (P) Ltd. v. National Faceless Assessment Centre, 2021 SCC OnLine Del 4294, holding that even if principles of natural justice have been complied with, still the proceedings cannot be sustained if an order was passed without issuing a show-cause notice which is a mandatory statutory condition.
[22]See generally, Tarun Jain, One Year of “Goods and Services Tax” in India, available at https://www.scconline.com/blog/post/2018/09/11/one-year-of-goods-and-services-tax-in-india/ .