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Financial Intelligence Unit to sign MoU with agencies to check blackmoney
June, 04th 2013

Over the past five months, finance minister P Chidambaram has stepped into the role of an aggressive door-to-door salesman. Beginning January, the FM, with select officials from his ministry and the Reserve Bank of India (RBI) in tow, has toured Canada, the US, the UK, France, Germany, Japan, Singapore, Hong Kong and Qatar. The single-point agenda of the whirlwind tour: to hard-sell the India story.

Chidambaram pulled out all stops to woo investors by articulating how India fast-tracked its economic reforms, tamed inflation and opened up $1 trillion of investment opportunities in the infrastructure sector. Along the way, among the many questions posed to him was one slightly uncomfortable one: what about the predictability of India's tax laws? After all, the Income Tax department, which is an arm of Chidambaram's finance ministry, has been on overdrive issuing demand notices worth billions of dollars to multinationals such as Nokia, LG, Shell, Microsoft and Vodafone; many are being, or have been, contested in higher courts.

The FM's drive to attract foreign investment comes at a time when the government is grappling with ways to settle a Rs 11,200-crore tax dispute with Vodafone. After the Supreme Court ruled in favour of the British telecom giant, the government succeeded in passing a retrospective amendment to the I-T Act, which allows for taxing of indirect transfers (of underlying assets in India through transfer of shares located outside of India) from the inception of the Act (April 1, 1962).

To his credit, the finance minister succeeded in curbing negative investor sentiment by keeping the controversial General Anti Avoidance Rules (GAAR) framework in dormant mode, at least for two more years. GAAR, aimed at companies routing their money through tax havens, may now come into effect only from April 1, 2016, giving the government enough headroom to allay fears of foreign investors.

R Prasad, chairman of Central Board of Direct Taxes (CBDT) in 2007-08 when Chidambaram was the FM, concedes that the current tax regime has resorted to an "overdrive" mainly to milk revenues from MNCs. "Earlier [before the onset of the financial crisis], India was growing at 9%. Foreign money was chasing us, and hence investors were least bothered about tax. But now the economic environment has changed. So, when there is a tax overdrive, it is bound to create fears among investors," says Prasad.

Taxmen's Woes

The problems for taxmen are arising out of a high tax target in a depressed economy when conventional methods of profit-based taxation are not working out well. The finance ministry has set this year's direct tax target at Rs 6,68,109 crore, which is more than double of what the I-T department collected in 2007-08, when Prasad was at the helm.

Also, the pressure on taxmen to meet the target is quite high as the fiscal deficit numbers presented in the Budget are based on some amount of speculation that India will grow at 6% this fiscal year, which in turn will help taxmen mop up 18% more revenue than in the last fiscal year. Tax sleuths will also be under pressure in an election year to bring home more of the bacon as the government's social budget is bound to bloat.

Amitabh Singh, a tax expert formerly with Ernst & Young, explains why the I-T department has been hyperactive in issuing notices to MNCs. "When the classical methods of profit-based taxation are not showing the desired buoyancy in a slow economy, one great way to increase the tax base is to import it from across the borders. In other words, bring incomes that are arising really or notionally outside India inside Indian borders and tax them. Transfer pricing is one such weapon which the tax department is using to full effect," he says.

Two senior income-tax officials whom ET Magazine spoke with concede that transfer pricing disputes will finally be settled in courts as almost all MNCs have contested the department's tax demands. "We are not ruling out some amount of dispute in transfer pricing as it's a new area. There is plenty of scope for interpretations. But there is little logic in taxing only domestic companies and sparing MNCs that have made huge profits in India," says a senior official working in the Directorate General of Income-Tax (International Taxation), a division that has been at loggerhead with foreign companies.

Same Ministry, Different Approach

As disputes on taxing MNCs continue, Chidambaram has to deal with two teams in his own ministry that seem to be working at cross-purposes. The one team aiding the minister while packaging the India story for foreign audiences is led by chief economic adviser Raghuram Rajan and department of economic affairs secretary Arvind Mayaram, both of whom accompanied the FM on some of his foreign tours.

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