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Income Tax sleuths can use GAAR to question pay packages that help in reducing tax
April, 23rd 2012

Tax avoidance rules proposed in the budget, whose impact on foreign investors has caused an uproar, can potentially also be used to target individual taxpayers.

Tax authorities could use the rules, known as the General Anti-Avoidance Rules, or GAAR, to question the manner in which salaries have been structured if they come to the conclusion that the intent is to reduce tax outgo, industry experts said.

The anti-avoidance rules, part of Budget 2012, can be invoked to deny tax benefit if officials feel the sole purpose of an arrangement is to save tax. They apply to every resident who is a taxpayer in India, including individuals, Indian companies or foreign investors, said tax experts.

Income-tax officers can thus disallow conveyance claims, car lease arrangements or book allowances by dubbing them arrangements to avoid tax, and even levy interest & penalty.

"There is no carve out so GAAR will apply to anyone whether individual, partnership or a firm. If any structure or arrangement is viewed as synthetic or motivated for tax purpose, GAAR can be invoked," said Shefali Goradia, partner, BMR Advisors.

Many Indian companies design compensation packages to include cash reimbursements for various expenditure. Many salaries include reimbursement for conveyance, payments for books, and arrangements in which cars are leased by the company and used by the employee.

Experts said the tax department could come to the conclusion that the sole purpose of these structures is to reduce tax liability of employees and there is no economic benefit from these arrangements.

Car leases, which are widely used, are particularly at risk as the vehicle is effectively owned by the employee though it remains on the company's books. The employee gets to save on some tax as the loan is deducted from his salary.

The only silver lining is that this will apply from the fiscal year beginning April 1, 2012, and past claims will not be opened.

"Introduction of GAAR provisions could also have an unintended impact on individuals enjoying tax breaks under perquisite rules," said Pranay Bhatia, associate partner, Economic Law Practice.

An income-tax official said these rules were aimed at deterring avoidance by companies so salaried taxpayers had nothing to fear. But tax experts said the I-T department needs to frame rules carefully as these could result in harassment.

"GAAR, if allowed to be applied indiscriminately, may impact revenue department's trust-building objective. Therefore, it requires not only careful and precise guidelines but also a good framework for identifying high-risk cases among individuals," said Garg.

HR experts said companies will be forced to tweak compensation packages. "Tax windows have been progressively narrowing...companies' approach would be to move to simple compensation structures that don't get them on the wrong side of the law," said E Balaji, MD & CEO, Ma Foi Randstad India.

Tax officials could also go after companies that facilitate such arrangements rather than picking on individuals who benefit from such arrangements. "GAAR would be relevant in these cases as well, though companies are now moving to flat compensation structures," said Rahul Garg, leader (direct tax), PwC India.

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