SUBJECT: TAXATION LAWS I (DIRECT

TAX)

Project topic:

TAX AVOIDANCE AND TAX EVASION

Submitted By

Kumail Fatima

3rd Year,6 Semester, B.A.LL.B(Hons.)

Submitted to

Mr. ikramuddin

Faculty of law
Jamia Millia Islamia

ACKNOWLEDGEMENT

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 1

I would like to express my sincere gratitude to Mr Ikramuddin sir for enlightening me through his vast
intellectual resources which played a pivotal role in the completion of this project. I owe a debt of gratitude
to all the contributors of this project for providing me their valuable time and insight in completing this
work.

Kumail Fatima

TABLE OF CONTENTS

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 2

 I. Acknowdgement..........................................................................................................2
II. Introduction..................................................................................................................4
III. Tax Avoidance v. Tax Evasion....................................................................................6
IV. The measures to curb tax evasion and tax avoidance.................................................12
V. Further reform suggested regarding the tax avoidance and tax evasion in
India............................................................................................................................15
VI. Tax avoidance by multinational companies...............................................................17
VII. Law commission and other official government report on tax avoidance and tax
evasion........................................................................................................................20
VIII. Conclusion..................................................................................................................21
IX. Bibliography...............................................................................................................23

INTRODUCTION
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 3
“In a society where people are living together as a group or community sharing some common interest have
come together and formed a system which has regulated their activities and protected the common interest of
the society.” Collecting the contribution from the member to run the regulatory system, which in turn spend
such money on the welfare activities of such society or for the overall public good is in practice in one or
the other from since time immemorial. In ancient days the subject used to pay tax to the monarch and
monarch in turn used to take the responsibility of the protection of life and property of his subject. This has
developed as a system of public finance and collection of contribution from the public for the common
public good is the base line of the tax system all over the world.

In the due course of time this has developed as a great system and gradually different kind of activities were
brought under the purview of this taxation. Today in almost all the countries collection of tax from its
citizens have become the main source of revenue. Significant growth has led to creation of several
developments to handle these aspects. as it involves lot of public money , there felt the need of regulation of
the system of collection and administration of the same which has resulted in several enactment and statutes
to monitors the system. Tax can be broadly classified into two types as directs taxes and indirect taxes. The
direct taxes are the taxes where the liability to pay the tax is directly on the affected person. For example
income tax, wealth tax etc. Indirect taxes are the taxes, where the liability for payment is not directly of the
affected person. For example exercise tax, customs tax, service tax etc. when we talk about tax or revenue
collection we generally come across terms namely tax evasion. The tax evasion is an act on the part of the
taxpayer to minimize the tax liability but breaking the law, i.e., by adapting illegal means. The concept of
tax avoidance is difficult to distinguish from other two. Because tax avoidance is not a clear concept. It has
the component of both tax planning and tax evasion. So, tax avoidance means planning ones activity in such
a way that it should tax burden by taking advantages of the loopholes in the act. It became problematic issue
to determine whether the transaction entered into by the taxpayer is a tax planning tax avoidance or tax
evasion. This is more so because these terms have not been defined by legislature in precise words and in
practice. These is a very thin different between these terms and it may not be possible to determine the
intention of the person who is transaction.

In the early days of the operation of tax system the rates of taxes were comparatively low and the temptation
to conceal income was therefore limited. However, increased in the rates of taxes on one side and strict
punishment for evading the tax on the other side had made the taxpayer to think about way out by which
they can minimize the tax liability but still shall not caught by law 1 this process has led to a new avoidance.
Dealing with issue of avoidance and evasion of taxes is a challenging one for judiciary because it involves
the interest of both the parties that is taxpayer and tax collector. The former has a right to arrange his activity
in such a way to attract less tax liability and the later has been given power to collect tax as from the

1
Anil kumar Jain,” Tax Avoidance and Tax Evasion: the Indian case” modern Asian Studies, Vol 21 , no.2(1987), at URL:
http://links.jstor.orglsici?sici=0026-749X%28198%2921%4A2%C233%ATAATBT%E2.O.CO%3B2-V
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 4
taxpayer provided both are performing their activity within law. Striking the balance between the two has
been a great task for judiciary through out of the world.

Countries like Australia, Canada, Germany, France, South Africa and china have GAAR provision; India
also needs to introduce such provisions to tackle tax avoidance practices. However for proper
implementation of GAAR, there is a need to study closely the experiences of other countries. In depth
discussions are required for distinguishing between the tax Evasion and on the one hand and abusive tax
avoidance practices on the other.

With regards to the double tax avoidance agreement DTAAs), the inclusive of appropriate limitation of
benefits (LoB) causes between India and other countries needs to be considered. However, if General Anti
Avoidance Rules (GAAR) has an overriding power over LoB clauses, then appropriate application of
GAAR in tax avoidance practices assumes a crucial role. The role and functioning of the dispute resolution
panel would also be vital in this regards.

In the Era of globalisation and liberalisation, competition among multinational corporations has increased
tremendously as result; there may be a natural tendency for such companies to try to reduce their tax costs
by any affordable means. The challenge lies in framing appropriate legal provision to tackle such practices
in an unambiguous manner. The General Anti Avoidance Rules (GAAR) is crucial in this regards and a
policy option for India is to learn from other countries experiences (those which have adopted and are
practicing GAAR)2

Proposes introduce General Anti-Avoidance Rule (GAAR), which would erase the thin line between tax
avoidance and tax evasion. India is not isolated in enacting GAAR in its taxing legislation. It is an
established trend among countries to legislate on GAAR to deny tax benefits for any arrangement structured
with the sole objective of tax avoidance. In India, the law is settled that tax avoidance is legal and evasion is
not. A taxpayer may create a device to arrange his commercial affairs to minimise his tax liability and its
acceptance is based on operation of law3.A company may choose to avoid taxes by establishing their
company or subsidiaries in an offshore jurisdiction. Tax avoidance reduces government revenue and brings
the tax system into disrepute, so governments need to prevent tax avoidance or keep it within limits. In the
judiciary, different judges have taken different attitudes. As a generalisation, for example, judges in the
United Kingdom before the 1970s regarded tax avoidance with neutrality; but nowadays they may regard
aggressive tax avoidance with increasing hostility.4

2
http://www.cbgaindia.org/files/recent_publications/Tax%20Dodging.pdf last visited on August 25,2018
3
http://articles.economictimes.indiatimes.com/2009-08-19/news/27662841_1_tax-evasion-tax-liability-general-anti-avoidance-
rule last visited on august 15 ,2018
4
http://en.wikipedia.org/wiki/Tax_avoidance last visited on August 18,2018
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 5
Tax Avoidance v. Tax Evasion:
Tax avoidance and tax evasion are two expressions, which find no definition either in the Indian Companies
Act 1956 or the Income Tax Act 1961.

Tax avoidance is generally the legal exploitation of the tax regime to one's own advantage, to attempt to
reduce the amount of tax that is payable by means that are within the law whilst making a full disclosure of
the material information to the tax authorities. Examples of tax avoidance involve using tax deductions,
changing one's business structure through incorporation or establishing an offshore company in a tax haven.

By contrast tax evasion is the general term for efforts by individuals, firms, trusts and other entities to evade
the payment of taxes by illegal means. Tax evasion usually entails taxpayers deliberately misrepresenting or
concealing the true state of their affairs to the tax authorities to reduce their tax liability, and includes, in
particular, dishonest tax reporting (such as under declaring income, profits or gains; or overstating
deductions).

Tax avoidance may be considered as either the amoral dodging of one's duties to society, part of a strategy
of not supporting violent government activities or just the right of every citizen to find all the legal ways to
avoid paying too much tax. Tax evasion, on the other hand, is a crime in almost all countries and subjects
the guilty party to fines or even imprisonment. Tax resistance is the refusal to pay the tax for conscientious
reasons (because they do not want to support the government or some of its activities), sometimes breaking
the law to do so. Some donate their unpaid taxes to charity, while others take creative "deductions" such as
not paying a percentage of tax equal to the defence budget. In either case, they typically do not take the
position that the tax laws are themselves illegal or do not apply to them (as tax protesters do) and they are
more concerned with not paying for what they oppose than they are motivated by the desire to keep more of
their money (as tax evaders typically are). Some have suggested the term tax aversion for people who adopt
the techniques of tax avoidance in the service of tax resistance, thereby doing tax resistance legally.

Judicial doctrines, relying on a purposive construction of tax legislation, are being evolved to prevent tax
avoidance involving circular, self-cancelling transactions or where steps with no commercial purpose other
than the avoidance of tax are inserted into a transaction. Controversially, in the 2004 Budget, it was
announced that 'promoters' and users of certain tax avoidance schemes would be required to disclose details
of the schemes to the Inland Revenue.5

Tax avoidance is the legitimate minimizing of taxes, using methods approved by the IRS. Businesses avoid
taxes by taking all legitimate deductions and by sheltering income from taxes by setting up employee
retirement plans and other means, all legal and under the Internal Revenue Code or state tax codes. Tax

5
http://albinet.com/articles/offshore-company/taxes last visited on July 25,2018
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 6
evasion, on the other hand, is the illegal practice of not paying taxes, by not reporting income, reporting
expenses not legally allowed, or by not paying taxes owed. Tax evasion is most commonly thought of in
relation to income taxes, but tax evasion can be practiced by businesses on state sales taxes and on
employment taxes. In fact, tax evasion can be practiced on all the taxes a business owes.6

‘Tax avoidance’ and ‘tax evasion’ are terms so frequently referred to in economic and business relationships
today that they constitute part of our conversational language and people in general use these terms even
without knowing their exact meaning and difference. Whereas tax avoidance implies a situation in which the
taxpayer reduces his tax liability by taking advantage of the loop-holes and ambiguities in the legal
provisions, in the case of tax evasion, facts are deliberately misinterpreted and the tax liability is
understated. Thus, while tax avoidance is perfectly legal and is, at times, referred to as ‘tax planning’, tax
evasion is illegal and, therefore, carries with it the risk of penalties and prosecutions under the tax laws. As
such, the black economy comprises the sum total of all the various methods of tax evasion but does not
include tax avoidance. Accordingly, whereas the consequences of the two phenomena are different for the
taxpayers, both reduce the revenue of the Exchequer and consequently need to be checked to the greatest
extent possible.7

If a serviceman earns Rs.10.0 Lakhs per year, he has very limited scope to avoid tax payment. He can at best
save some money in tax saving schemes and reduce tax liability by at most 20 to 30 thousand rupees. He
will have to pay Income tax to the tune of rupees one to two lakhs as income tax per year. They cannot avoid
tax payment but they can if they like, earn bribe up to any extent to compensate they lose in tax payment.
But a manufacturing company earning profit of more than one corer per year can avoid tax payment
completely by using various tools of tax avoidance suggested by tax officials, tax consultants and Chartered
Accountants.

Penalties for Income Tax Evasion in India

Tax evasion has always been a criminal offence in India. There are a number of provisions relating
to prosecution under Chapter XXII of the Income-tax Act, 1961. Failure to file timely return of
income, false statement and verification, wilful attempt to evade tax, fabrication of accounts and
documents and failure to deposit tax deducted or collected at source attract minimum rigorous
imprisonment of three/ six months. Removal, concealment, transfer or delivery of property to

6
http://biztaxlaw.about.com/od/businesstaxes/f/taxavoidevade.htm last visited on July 29,2018

7
Supra note 1.

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 7

 thwart tax recovery or failure to afford necessary facilities for the officers during search operations
are some more offences liable for rigid sentences. Abetment of false return, where it is proved,
would land not only the accused in trouble but those who help him, including those rendering
professional assistance, providing for a rigorous imprisonment for a minimum period of three/ six
months and a fine. Where the offence is rendered by a firm or company partners and the officers,
including directors of the company, may be responsible, unless they are able to prove that the
offence was committed without their knowledge in spite of due diligence on their part. For the
offence of the Hindu Undivided Family (HUF), the karta himself, besides all members, is deemed
to be guilty, unless such members are able to prove that the offence was committed without their
consent or connivance.

Enforcement of law is also made easier for prosecution by statutory presumptions of culpable
mental state placing the responsibility of proving innocence on the accused. Probation of Offenders
Act, 1958, is not applicable for economic offences under the income-tax law, except for persons
below 18 years of age.

The law in India treats tax offences not only as a criminal offence but also has strengthened the
same by statutory presumptions and minimum rigorous imprisonment subject to a maximum period
of seven years. There are number of prosecutions launched year after year.

Income tax evasion is an crime and can attract severe penalties in India.  With advancement in technology,
the compliance with respect to income tax payment is being tracked more accurately by the Income Tax
Department. Further, penalties for non-compliance has also been increased to widen the tax base and
increase tax revenue. Hence, income tax compliance must be taken seriously by all individuals and
entrepreneurs. In this article, we will throw light on the different penalties tax payer will have to pay under
the income-tax act.

Failure to Pay Tax as per Self-Assessment

As per section 140 A (1) if the tax payer fails to pay either wholly or partly self-assessment tax or interest
then the tax payer will be treated as a default person. If the assesse is declared as a default person then as per
section 221(1) a penalty amount will be imposed by the assessing officer. The criterion for penalty is that it
cannot exceed the arrear amount. Therefore the penalty imposed on not making payment of self-assessment
tax is solely at the discretion of the assessing officer. If the tax payer is able to provide justified reasons for
the delay in paying the tax then the assessing officer can even exempt the assesse from paying penalty.

Failure to Pay Tax as per Demand Notice

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 8

If a demand notice is sent to the tax payer asking for payment of tax then the tax payer has to pay that
amount in 30 days to the department and the person mentioned in the notice. Failure to make the payment
will incur further penal  provisions as well as the taxpayer will be treated as a default assesses for defaulting
in the payment of tax.

Concealing Income to Evade Tax

There have been several cases wherein the taxpayer has tried to conceal the original earnings or income. The
penalty for concealment of income will be 100% to 300% of the tax evaded as per section 271(C).

If income tax authorities feel the necessity to raid a premise to discover the undisclosed income of the tax
payer in such case the penalty levied will be under section 271 AAB. The penalty varies under different
scenarios:

o If the tax payer admits the undisclosed income then only 10% of the previous year’s
undisclosed amount along with interest will be required to be paid. OF course all the
undisclosed income will invariably have to be declared.

o If the tax payer does not disclose the undisclosed amount but does so in the return of income
furnished in the previous year- in such case the penalty would be 20% of the undisclosed
amount along with interest.

o If the amount is undisclosed for the previous year then minimum 30% and maximum 90%
penalty can be levied.

Penalty for Not Filing Income Tax Return

If the return of income is not furnished as required under section 139, sub section (1) then the assessing
officer can penalize the tax payer with a penalty of Rs 5000/-.

Penalty for NOT Getting Accounts Audited

If the taxpayer fails to get the account audited or furnish a report of audit required under section 44AB then
the penalty incurred will be one half percent of total sales, turnover of the gross receipts or Rs 1,50,000.

If the tax payer fails to present a report from an accountant as required under section 92E then the penalty
incurred will be Rs 1,00,000 or more. It is imperative that the tax payer documents every domestic or

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 9

international transaction and gets a report from a chartered accountant in India on or before the requested
date to avoid the penalty.

If any documents are not furnished or attached under section 92(D) 3 then a penalty of 2% of the value of
the transaction (international or domestic) will be imposed.

Failure to Comply with Income Tax Notice

If the tax payer fails to comply with the notice issued under section 142(1) or 143(2) then the assessing
officer can issue a notice to the tax payer asking (a) to file the return of income (b) ask the tax payer to
furnish in writing all the details of assets and liabilities.

Failure to Comply with TDS Regulations

Every person who deducts tax at source or collects tax at source is also required to collect the tax deduction
account number or the tax collection account number (TAN). The failure to obtain this tax deduction or
collection number calls for a penalty of Rs 10,000. Failure to obtain the numbers could also mean quoting
incorrect tax deduction or collection number.

If tax is not collected at source then the penalty levied would be the amount equal to the tax that was not
deducted or paid. If the tax payer fails to file TDS/TCS returns before the due date then the taxpayer is liable
to pay taxes for each day till the date the payment is made. Late filing fees for delay in TDS/TCS returns can
be avoided by filing TDS/TCS returns before the prescribed due date. The penalty imposed for not filing
TDS/TCS returns before the due dates can start from Rs 10,000 and go up to Rs 1, 00,000. Late filing fees
and interest will have to be paid to the credit of the government.

Failure to Pay Dividend Distribution Tax

As per section 115-O, if a company fails to pay dividend distribution tax on the dividends it has shared then
the penalty incurred would be the amount equal to the tax that was not deducted or paid.

Failure to Retain Information & Documents as per Income Tax Act

Failure to retain appropriate information, documentation and more pertaining to international or domestic
transaction will attract 2% penalty which is a sum equal to the value of each international or domestic
transaction. The transaction details have to be entered by the tax payer. Each transaction copy has to be

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 10

maintained for an eight year period. When demanded by the Income tax authorities the documents should be
presented to the officer within 30 day period. Failure to do so will attract penalty.

Failure to Furnish Accurate Information

If a tax payer does not furnish accurate information or finds out about inaccuracy of the furnished details
after submission but does not get it corrected within ten days of submission or knows about the inaccuracy
during submission but does not inform the income tax authority then the penalty could be a payment of Rs
50,000/-. Penalty revisions are being done to make rules stringent for inaccurate detail submissions and will
soon be notified.

There are also relaxations on penalties for genuine and deserving cases. The commissioner of income tax
has the power to completely forego or reduce the penalty if all the facts are clearly presented.

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 11

THE MEASURES TO CURB THE TAX EVASION:

There are three kinds of measures to curb the tax evasion in India which are as fallows-

 Legislative Anti- Avoidance Measures

 Judicial Anti- Avoidance Measure

 Administrative Anti- Avoidance Measures

In India, the proposed Direct Tax Code, 2010 (DTC, 2010) seeks to address miscellaneous issues, concerned
tax evasion and tax avoidance; by bringing in General Anti-Avoidance Rules (GAAR), in addition to various
transaction-specific Special Anti-Avoidance provision. The concept of GAAR is not new to India since
India already has a Judicial Anti-Avoidance Rule, similar to some other jurisdictions 8.The concept of Anti-
avoidance rule can better be understood by classifying the method(s) of its implementation into three
categories namely: (i) measured based upon principles of law interpreted by the judiciary; (ii) General Anti-
Avoidance Rule and lastly (iii) Specific Anti-Avoidance Rule. Discussing each classification herein under:

1. Measure based upon principles of law interpreted by the Judiciary

Over the years the Hon’ble Supreme Court has tried to save the interests of Tax Authorities and the Assesses
by interpreting the law according to the principles laid down by various National as well as Foreign
judgments. This includes range of philosophies and debates regarding ‘substance’ over ‘form’ and 9‘abuse of
law’

8
Vodafone international v. UOI, (2012) 1 UJ 128. [hereinafter Vodafone]

9
Commissioner of Income-Tax v. A. Raman & Company, AIR 1968 SC 49 [hereinafter A. Raman]; McDowell and Co. Ltd. v.
Commercial Tax Officer, (1985) 47 CTR (SC) 126 [hereinafter McDowell]; Union of India & Anr. v. Azadi Bachao Andolan
and Anr, [2003] 263 ITR 706 (SC) [hereinafter Azadi Bachao]

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 12

 2. General Anti-Avoidance Rule

GAAR, as its name suggests, is a set of general anti-avoidance rules which usually take the form of a
legislative instrument; better to consider it as a ‘catch-all’ for tax avoidance.The main triggering incident of
attracting GAAR lies in the fact that the tax avoidance schemes are becoming increasingly complex,
therefore, it is getting tougher for the Tax authorities to determine the path for tax avoidance. To put in
simple words GAAR is basically an attempt to strike down avoidance of taxes that was not understood a
probable method of tax evasion at the time of drafting any taxation statute. The difficulty with having such
a broad scheme has been heavily debated in various countries as and when they grappled with the thought
of introducing GAAR.

GAAR: A Necessity

There are multifarious issues regarding GAAR. Several countries have codified GAAR in their tax
statutes so as to check tax evasion by the assesses. GAAR has been a part of the tax code of Canada since
1988, Australia since 1981, South Africa from 2006 and China from 2008 10. The merits of introducing
GAAR with regard to Indian perspective are as follows:

Checking abuse of Double Taxation Avoidance Agreement and in turn protecting the revenue
interest of India

India entered into Tax treaties with over 70 countries to ensure that the income taxed in one country is not
taxed again in the other.11 Mauritius and Singapore are the most preferred jurisdiction for structuring
investments into India in view of liberal business environment offered by Mauritius and the benefits
available to the assesses under the India-Mauritius Tax Treaty.12

Role of GAAR

GAAR will provide in those instances a statutory right to the tax authorities to question any transaction
which is not made in ‘good-faith’. Tax treaties are usually governed by the Vienna Convention 13. The
provisions of the Vienna Convention clearly emphasise that a treaty should be interpreted and must be

10
Raghuvir Srinivasan, Sweating over GAAR, The Hindu, available athttp://www.thehindu.com/business/article3339961.ece.
last visited on August10,2018

11
S.S.Khan, The Crux of Mauritius Tax Treaty, available athttp://www.moneymantra.co.in/detailsPage.php?
id=2130&title=Banking&wrt=SS%20Khan last visited on August 8, 2018

12
India: Holding Company Planning for Holding Investment, International Tax Review, available
athttp://www.internationaltaxreview.com/Article/3068212/India-Holding-company-planning-for-Indian-investments.html last
visited on August 5,2018

13
Vienna Convention on the Law of Treaties was signed in Vienna on 23 May 1969 and entered into force on 27 January 1980.

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 13

 performed by parties to it in ‘good faith’ 14.Even the underlying principle of treaty shopping can come
under the purview of absence of good-faith.15 The main problem with treaty shopping is that it breaches
the reciprocity of a Tax treaty entered into between two sovereign nations and instead it extends the
Treaty benefits meant for residents of Treaty partner countries to those of a third parties which is not
signatory to the Treaty and may not reciprocate corresponding benefits. Hence the importance of GAAR
to protect the revenue interest of a nation is unquestionable.

Creating certainty in Indian tax regime

Canadian tax laws contain GAAR provisions since 1988 is intended to prevent abusive tax avoidance
transactions or arrangements but at the same time is not intended to interfere with legitimate commercial
and family transactions.

Consequently, the new rule establishes a reasonable balance between the protection of the tax base and
the need for certainty for taxpayers in planning their affairs....” Hence the GAAR, under the Finance Act,
2012 aimed to create a certainty in taxation laws aftermath the decision of the Vodafone case. But it also
needs further re-consideration before practical implementation.

THE VARIOUS ONSHORE AND OFFSHORE METHOD OF TAX EVASION-

Onshore is in no way synonymous with transparency; and by contrast some supposedly offshore places are
considering opening up. There are numerous ways to evade/ avoid tax and it is difficult to throw light on all
such practices nevertheless some conventional practices of tax evasion / avoidance can be classified as
fallows:

 Money laundering

 Hawala

 Tax Havens

 Transfer pricing

 Trade mispricing

14
See general, Preamble of Vienna Convention, Article 18, Article 26, Article 27, Article 31, Article 46 Vienna Convention on
the Law of Treaties, U.N. Doc. A/CONF.39/27, Art. 31(1), (1969).

15
See general, Reuven S. Avi-Yonah & Christiana Hji Panayi, Rethinking Treaty-Shopping Lessons For The European Union,
Michigan Law University, available
athttp://www.law.umich.edu/centersandprograms/lawandeconomics/abstracts/2010/Documents/10-002aviyonah.pdf last visited on
August 8,2018
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 14
These process are used to evade /avoid both direct as well as indirect taxes. Whereas money laundering
hawala and trade mispricing are more prone to evasion tax heaven and transfer pricing are typically used as
tax avoidance practices nevertheless the processes are often interrelated and difficult to distinguish in
practices.

FURTHER REFORM SUGGESTED REGARDING TAX EVASION AND TAX AVOIDANCE IN

INDIA-

In a globalising environment, tax reforms can serve a multitude of needs. They can help enhance revenue
productivity, reduce economic distortions, and help create a stable and predictable market environment.
Given the growing mobility of capital and skilled labour which raises new tax issues continual reforms also
serve, simply, to keep the country up-to-date with changing conditions. Furthermore, tax reforms can help
address equity concerns. However, unlike in the past, equity in tax policy should not involve reducing the
incomes of the rich, but raising those of the poor. Hence, there needs to be a paradigm shift, away from a
socialistic focus on vertical equity (i.e. the unequal treatment of unequal’s) and towards horizontal equity (or
the equal tax treatment of equals). Until very recently, this preoccupation with vertical equity in the Indian
tax system created enormous incentives for tax avoidance. While this is starting to change, many reforms
remain unfinished. In response to its changing developmental strategy, India’s tax system, too, has been
undergoing profound changes. Within the framework of a closed and heavily planned economy, the tax
system was based on multiple objectives.

While this system may have been sustainable within a closed economy in today’s globalising world, it is
more critical than ever to put in place an efficient tax system. A competitive tax environment means that a
country’s tax policy must be calibrated on three levels: architecture, engineering, and management.
Paradoxically, an open economy presents bigger challenges in setting tax rates - since there are fewer
‘degrees of freedom’ available to policymakers. In such an environment, not only do tax rates impact foreign
investment, but they can also shift the incidence of taxation in unexpected ways. (For instance, studies find
that, in a small open economy, a tax on capital can effectively become a tax on labour.) Hence, being a large
and complex economy, India needs to learn from worldwide best practices, but apply them judiciously to
meet its specific needs. In an increasingly-open economy such as India’s, there is a need to focus on the
efficiency aspect of the tax system more than ever before. This means minimising three different costs: the
cost of collecting taxes; the compliance costs to taxpayers; and the distortion costs to the economy at large.
(One such distortion, in India’s case, is an excessive reliance on tax revenues from the (largely State-con-
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 15
trolled) petroleum sector - which has a cascading impact on other areas of the economy.) Given that
distortions tend to increase with higher marginal tax rates, a simpler system with lower tax rates is desirable.

Finally, three additional points must be kept in mind while tracking the progress of tax reforms in India.
First, legal reforms are just as important as tax reforms in driving changes in this area. Second, as the
experience of VAT demonstrates, it is critical to have coordinated reforms, across States, especially in the
area of indirect taxation. Third, it will require great political will to ensure that the existing, discretionary
policy and administrative framework is not further perpetuated. Having seen the influence of the tax mix and
tax policy on capital formation, it is necessary to ensure that these policies promote growth with equity. The
various recommendations of the Chelliah Committee, which were implemented in India during the 1990s,
were targeted at removing loopholes in the direct tax system and providing horizontal equity. However,
there are still difficulties with the present income tax system and the current tax policies do not adequately
address issues relating to vertical equity There is a dilemma as to whether to consider personal income or
expenditure on personal consumption as the base of direct taxation. Taking expenditure as the tax base poses
a lesser problem since it taxes what people take out of the economic production system rather than what they
put into it. Moreover, a progressive expenditure tax falls more heavily on the rich who are using capital
resources to finance their consumption expenditure and, at the same time, it provides greater opportunity
than progressive income tax to finance the development of private enterprises out of private savings. As the
economy moves from the take off stage to the stage of high mass consumption, it is better to levy tax on
personal consumption expenditure, since it promotes vertical equity. 16

16
http://www.chinahomeindia.com/upload/201112/20111201084222719.pdf last visited on November 30,2013
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 16
TAX AVOIDANCE BY MULTINATIONAL COMPANIES-

It is now a well-accepted fact that the multinational companies have developed an unprecedented know-how
for minimizing their worldwide tax pressure, multinational companies doing huge business in a country and
virtually not paying any corporation tax has provoked some concern in the respective governments that
something needs to be done. In this era of liberalized cross border trade and free capital flows, MNCs find
themselves in considerable freedom to choose where they pay tax on profits. There are corporations such as
Google whose commercial value is derived from a piece of intellectual property such as a search engine
algorithm or a drug patent and they are thus able to register their profits in tax havens. his is how it works –
A MNC registers its intellectual property in a subsidiary company based in a tax haven like Bermuda or
Mauritius. This subsidiary then charges another subsidiary operating in a big country like UK or India a
massive fee for the right to use their intellectual property. Any trading surplus in these countries is thus
offset by the cost of the fee while profits keep accumulating in tax haven the group company. National
Governments are trying to stop this egregious ‘profit shifting’ on their own but is proving to be a herculean
task in the light of very complex global tax loopholes.

A natural solution is to have an international agreement by all countries to tax the profits of multinational
firms collectively and divide the revenues based on the amount of business done by these companies in
various territories. American states have long operated a system known as “apportionment”. It may sound
difficult but in the long run and in the wake of very widespread tax avoidance by MNCs, this sort of
arrangement is perhaps the only viable solution. 17 In the era of globalization and liberalization,
competition among multinational corporations has increased tremendously. As a result, there may be
a natural tendency for such companies to try to reduce their 'tax costs' by any affordable means. The
challenge lies in framing appropriate legal provisions to tackle such practices in an unambiguous
manner. The General Anti Avoidance Rule (GAAR) is crucial in this regard, and a policy option for India
is to learn from other countries' experiences (those which have adopted and are practicing GAAR).
India today said the stand taken by the G20 nations that profits of multinational companies should be taxed
where economic activities deriving the profits are performed and where value is created is an "important
landmark" and it validates the country's position.

17
http://arvindkumar-ias.blogspot.in/2013/08/tax-avoidance-by-multinational.html last visited on July 20,2018
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 17
Multinational companies operating in India will have to pay more tax on royalty they earn from
their Indian subsidiary, as the government has announced an increase in the tax on royalty and fee
payments made by Indian subsidiaries to foreign parent from 10 to 25 per cent. One of the main
ways tax evasion occurs is through ‘transfer pricing’. This is when goods and services are sold between
subsidiaries of the same parent company. These goods and services also include things like intellectual
property rights, management services, branding and insurance. The sales take place within the same
multinational company.

As long as the subsidiaries of the company charge each other a fair market price – known as an ‘arms
length’ price – such transactions are perfectly legitimate. Tax is paid where it should be, in the place where
the business is actually taking place. However, by artificially altering the price, the company can increase its
costs in a location with high taxes and transfer revenue to a location with low taxes (often a tax haven). This
is known as ‘transfer mispricing’, and in many countries (including Australia) it is illegal.18

The methods of tax avoidance by MNCs in developed countries are well documented, although there is a
lack of reliable and consistent data, whereas those for developing countries are less well understood. The
method revolves around shifting income from higher-tax to lower- or no-tax countries.

Profit shifting strategy

This is achieved by limiting operational activities (and related income) in the higher tax state, by
moving them to a subsidiary located in a lower-tax state.
Transfer pricing-

This is the setting of prices for transactions between companies that are part of the same MNC. In the
past this mainly concerned physical goods but now involves the rights to use intangible goods, and use
of services such as headquarters' support. Over half of international transactions are inter-company
transactions, and are therefore not at "arms-length" prices, i.e. as if purchased from an unrelated third
party. Where the price is inflated, "abusive transfer pricing" is said to occur. This is one way to move
profits where a subsidiary in a medium or higher-tax jurisdiction buys products from another group
company in a lower-tax country. It is often not obvious how arms-length prices should be determined.
The UK tax authority has around 65 experts in transfer pricing,

Corporate debt-equity

Inter-company loans given from entities in lower-tax states to subsidiary companies in higher-tax
countries pass interest income to the lower-tax state, reducing the taxable profit in the higher-tax
country. This profit is further reduced the higher the interest rate or level of debt. Luxembourg has
beneficial tax treatment of interest income.
18
http://taxjustice.org.au/take-action/tax-dodging-within-multinational-companies/ last visited on November 30, 2013
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 18
Payments for intangibles

The pricing should reflect the value of the technology, i.e. how important the technology is in the
creation of the profits An MNC can have a company owning its IPR in a country where no taxes are
payable on licence fees, and then charge its affiliates around the world for their use.

Shell holding companies

These are found mostly in jurisdictions with an extensive tax-treaty network and offering low tax rates
on dividends and capital gains e.g. Belgium, Ireland, the Netherlands and Switzerland. The holding
company may be a shell company (no real trading, production or distribution activities) or may have
centralised financing, licensing and other management activities. Shell holding companies are used in
multiple ways for tax planning activities.
Hybrid entities-

These revolve around obtaining a deduction of the same cost, such as loan interest, from two different
countries based on the company’s affiliates’ structures Ireland, for example, has companies that are
legally based in Ireland and another country – typically a tax haven, such as Bermuda.
The many previous attempts to structure business taxes "fairly and uniformly" have not brought a
solution.

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 19

LAW COMISSION AND GOVERNMENT REPORT REGARDING THE TAX EVASION AND
TAX AVOIDANCE IN INDIA-

The Indian tax authorities, meanwhile, chose not to make any tax demands on the basis of the retrospective
taxation provisions. After Mukherjee resigned in July 2012, the prime minister constituted another
committee to rework the GAAR guidelines. This committee recently recommended in its draft report that (i)
the implementation of the GAAR provisions be deferred until April 1, 2016, (ii) GAAR treaty override
provisions not apply in respect of a tax treaty that includes anti-avoidance provisions in the form of a
limitation of benefits provision (e.g., the Singapore-India treaty), (iii) GAAR provisions not be invoked to
examine whether an entity is a genuine resident of Mauritius when such entity has been issued a tax
residency certificate by the Mauritius Revenue Authority ("MRA") and (iv) capital gains on listed securities
be abolished.

The committee's recommendation that a tax residency certificate issued in Mauritius should be conclusive
proof of residence in Mauritius echoes the law on this point as laid down by the Supreme Court of India in
the Azadi Bachao Andolan case [263 ITR 706 (SC)]. The Authority for Advance Rulings (a governmental
body that provides binding advance rulings on tax questions brought before it) recently relied on the Azadi
Bachao Andolan case to confirm that a fund incorporated in Mauritius, being the holder of a valid tax
residency certificate issued by the MRA, would be eligible for treaty benefits under the India-Mauritius
DTAA. The Authority rejected the Indian tax authorities' arguments that the fund was controlled and
managed in India since the majority of the fund's board of directors were from India and that routing
investments through Mauritius constituted a scheme to evade capital gains tax [Dynamic India Fund, AAR
No. 1016 of 2012, decision dated July 18, 2012].

The new finance minister, P. Chidambaram, also directed this committee to review the retrospective tax
provisions, promising that such provisions would not be "rashly" implemented by tax authorities. The
committee recently issued a draft report on this subject, recommending, inter alia, that (i) the retrospective
tax provisions be applied prospectively, (ii) a transaction involving the sale of shares of an overseas
company that derive their value, directly or indirectly, from Indian assets be taxable in India only where
such assets constitute more than 50% of the global assets of the Indian company and (iii) transfers of
minority shareholdings (defined as less than 26%) and interests in registered foreign institutional investors

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 20

("FIIs") not be taxed. The committee also noted that retrospective application of tax law should occur only
in "exceptional" cases and after due consultation with those affected.19

CONCLUSION

Given the growing magnitudes of public revenue loss because of tax dodging, governments of
different countries are reviewing some of their tax laws, for instance transfer pricing laws, to minimise
tax avoidance practices. The distinction between tax evasion, tax avoidance and tax planning
remains contentious and needs serious scrutiny. both tax evasion and tax avoidance) is a serious
global issue. While taevasion is relatively straightforward to understand, the nature of tax
avoidance is now increasingly complete requires greater examination. There is a need for raising
awareness around tax issues, promoting a culture of tax compliance, increasing tax transparency
among multinational companies, and increasing international cooperation between governments
on tax matters. Also, capacity enhancement of tax administration systems of different countries
is required to check diverse and complex tax dodging practices. Coordination between countries with
regard to tax laws is essential; as variations in tax laws in different jurisdictions might enhance
ambiguities, providing scope for further tax dodging. Global accountability and cooperation of countries
with respect to policies like Tax Information Exchange Agreements (TIEAs) and end of banking secrecy
has become crucial in this regard as well as exchange of essential information regarding national
interests. Modification of tax laws of 'tax haven' countries is an important issue. There are a number of
'tax havens', which may be used to avoid paying taxes by a number of companies, which emerges as
an external factor beyond the scope of Income Tax Authorities. Unless global pressure is created on
'tax haven' countries to amend their tax laws to impose certain taxes on offshore transactions and
broaden tax bases on such transactions, it is difficult to tackle tax avoidance practices. There is a need
for clear legal guidelines distinguishing tax evasion, tax avoidance and tax planning, and those
indicating what type of strategies under what circumstances would be taxable or subject to penalty.
On the other hand, there is also a concern that tax laws should not harass honest taxpayers. In the era of
globalization and liberalization, competition among multinational corporations has increased
tremendously. As a result, there may be a natural tendency for such companies to try to reduce their
'tax costs' by any affordable means. The challenge lies in framing appropriate legal provisions to
tackle such practices in an unambiguous manner. The General Anti Avoidance Rule (GAAR) is crucial in
this regard, and a policy option for India is to learn from other countries' experiences (those which
have adopted and are practicing GAAR). Countries like Australia, Canada, Germany, France, South Africa
19
http://www.mondaq.com/india/x/202402/Export+controls+Trade+Investment+Sanctions/Recent+Developments+In+India+Ai
m+To+Encourage+Foreign+Investment last isited on November 26,2013
TAX AVOIDANCE AND TAX EVASION IN INDIAPage 21
and China have GAAR provisions; India also needs to introduce such provisions to tackle tax avoidance
practices. However, for proper implementation of GAAR, there is a need to study closely the
experiences of other countries. In-depth discussions are required for distinguishing between
'acceptable' tax avoidance/tax planning practices on the one hand and abusive tax avoidance practices
on the other. With regard to the Double Tax Avoidance Agreements (DTAAs), the inclusion of
appropriate Limitation of Benefit (LoB) clauses between India and other countries needs to be
considered. However, if General Anti Avoidance Rule (GAAR) has an overriding power over LoB
clauses, then appropriate application of GAAR in tax avoidance practices assumes a crucial role.
The role and functioning of the Dispute Resolution Panel (DRP) would also be vital in this regard.

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 22

BIBLIOGRAPHY:
PRIMARY SOURCES-

Statue-

1) The Income Tax Act, 1961.

SECONDRY SOURCES-

Books-

1 jain.Anil Kumar (1987). Tax Avoidance and Tax Evasion: The Indian Case” Modern Asian Studies, 21,
pp 233-255. Doi: 10.1017/S0026749X00013792

2. Acharya, Shankar and Associates, Aspects of the Black Economy in India, National Institute of Public
Finance and Policy, New Delhi, 1985.

3. Gandhi, V.P., Some Aspects of India’s Tax Structure- An Economic Analysis, Vora & Co. Publishers,
Bombay, 1970.

WEBSITES-

1. http://www.cbgaindia.org/files/recent_publications/Tax%20Dodging.pdf
2.http://articles.economictimes.indiatimes.com/2009-08-19/news/27662841_1_tax-evasion-tax-liability-
general-anti-avoidance-rule
3.http://en.wikipedia.org/wiki/Tax_avoidance
4.http://albinet.com/articles/offshore-company/taxes

5.http://biztaxlaw.about.com/od/businesstaxes/f/taxavoidevade.htm

6.http://epaper.timesofindia.com/Repository/ml.asp?Ref=RVRELzIwMDgvMDgvMjUjQXIwMDMwMA
==&Mode=HTML&Locale=english-skin-custom.
7.http://www.hm treasury.gov.uk/press_130_11.htm.

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 23

8.http://www.europarl.europa.eu/RegData/bibliotheque/briefing/2013/130574/LDM_BRI(2013)130574_RE
V1_EN.pdf
9.http://www.mondaq.com/india/x/202402/Export+controls+Trade+Investment+Sanctions/Recent+Develop
ments+In+India+Aim+To+Encourage+Foreign+Investment

TAX AVOIDANCE AND TAX EVASION IN INDIAPage 24