ET in the classroom: Why GAAR caused panic

Finance Minister Pranab Mukherjee’s clarification on General Anti-Avoidance Rules (GAAR) fired up the markets on Monday, when global indices were deep in the red. A look at why GAAR has caused panic among investors:

What are general anti-avoidance rules?

These rules, originally proposed in the Direct Taxes Code, are targeted at arrangements or transactions made specifically to avoid taxes. The government had decided to advance the introduction of GAAR and implement it from the current financial year itself. More than 30 countries have introduced GAAR provisions in their respective tax codes to check evasion.

What are the implications?

GAAR allows tax authorities to call a business arrangement or a transaction ‘impermissible avoidance arrangement’ if they feel it has been primarily entered into to avoid taxes.

Once an arrangement is ruled ‘impermissible’ then the tax authorities can deny tax benefits. Most aggressive tax avoidance arrangements would be under the risk of being termed impermissible. The rule can apply on domestic as well as overseas transactions.

What were the key concerns?

GAAR is a very broadbased provision and can easily be applied to most tax-saving arrangements. Many experts feel that the provision would give unbridled powers to tax officers, allowing them to question any taxsaving deal.

Foreign institutional investors are worried that their investments routed through Mauritius could be denied tax benefits enjoyed by them under the Indo-Mauritius tax treaty. The proposal had spooked stock market as FII inflows dropped on concerns, and the rupee hit a low of Rs 53.47 to the dollar.

What has the govt done now?

It has postponed GAAR to the next financial year. This will give a breather to tax payers and also allow the government time to frame clear rules after consultations with stakeholders.

He has also clarified that the onus to prove that an arrangement is ‘impermissible’ will lie with the tax department. The GAAR panel, the final body that will decide on the applicability of the law, will include an independent member.