AAR in new avatar: Old wine or efficient machinery for disposal of cases?

Experts say while the backlog of cases will most likely be reduced, the quality of rulings may not inspire taxpayers

The Authority for Advance Rulings (AAR) will be replaced by the Board for Advance Rulings starting next financial year.

The Board will consist of two members, each an officer not below the rank of chief commissioner. These were the Budget proposals, aimed at ensuring faster disposal of cases.

The budget proposals also talked about limiting the interface between the Board and the applicant in the course of

proceedings to the extent technologically feasible; optimising utilisation of the resources through economies of scale and functional specialisation and introducing a system with dynamic jurisdiction.

But the issue is whether the Board would make the advance rulings in direct taxes relevant for companies or will it just be old wine in a new bottle.

The government is convinced the Board would now become relevant. Experts also believe that at least pendency of cases would come down, though only time will tell about quality of orders. 

"Since there will be departmental officers in the Board, we are at least sure of getting the manpower," CBDT chairman P C Mody told Business Standard.

He said due to various reasons, AAR did not have the required manpower available to it, consequent to which a lot of applications were pending. Roughly about 700 AAR applications are pending.

So, the Board will ensure faster disposal, otherwise the very purpose for which it has been formed will be defeated, he  said.

Akhilesh Ranjan, former member, central board of direct taxes (CBDT) said while there was the problem of vacancies on the AAR benches, replacing the authority with a Board may not be the solution.

"The problem was that retired judges were not coming and joining. However, changing the terms of service to make it more attractive could have been considered," he said.

The other way could have been to open up the position to retired ITAT members or others, not necessarily judges, he said. Ranjan said the absence of an independent party in the Board will not inspire confidence in taxpayers.

"While chief commissioners may be senior officers who know the law, they are ultimately revenue officers. So the taxpayer is not going to feel that he's going to get an objective opinion," Ranjan said.

"Besides, under this proposal, appeals can be filed by either party, which will mean that most cases will land up in the High Court," added Ranjan, who headed the task force to overhaul the direct tax regime.

Amit Maheshwari, tax partner at AKM Global, a consultancy firm, said despite the Board having the same quasi-judicial status as that of AAR, the proposals would do little to assuage the concerns of the taxpayers in terms of obtaining tax certainty.

"The reason is that the members of the Board would be officers not below the rank of chief commissioner, which implies that the advance rulings would, going forward, be pronounced by income tax authorities. We have seen in the past that this has not resulted in a favourable outcome for taxpayers," he said.

Asutosh Dikshit, partner Deloitte India, who authored a report on AARs that was cited by the Supreme Court, said the proposal needs to be evaluated on different parameters. 

"If it is about liqudiation of pendency, it would definitley help. Currently the government is not able to appoint chairman and vice chairman. AAR is not functioning. On that parameter, the proposal will help. Benches will start funcitoning," Dikshit said. 

On quality of orders, he said one has to wait for the Board to function. 

"The difference is that when you have somebody from outside the income tax hierarchy, say retired judges, the signalling effect is definitely right. Traditional thinking is that if you have departmental officers, they would take the department's view. It could be more likely, but may not turn out to be true. One has to see that," he said. 

Earlier, the authority was different from the income tax department. All the members were either retired judges or even if they were from the revenue department, they were retired or had to resign from services, he said. 

Now, the Board has become an internal function of the department, Dikshit said. As of now, it seems that the members would be serving officers. One has to see if they resign from service after becoming Board members. 

The Supreme Court last year recommended to the Centre to make the advance ruling system in direct taxes more effective and comprehensive.

Few takers for AAR in its current form

AAR was set up in 1993 with the aim of providing clarity to multinational firms about the taxability of certain transactions in advance, so that they are sure about the country's tax policies. AAR's mandate was later expanded to even domestic residents for transactions above Rs 100 crore.

Over time, AAR has lost its sheen and companies avoided approaching it. Of late, the institution has become dysfunctional due to vacancies at the top.

The Supreme Court in its observation in the National Cooperative Development Corporation vs Income-Tax Department case cited a Deloitte report to say that a rising number of applications are pending before AAR due to its low disposal rate and, contrary to the statutory requirement for a ruling to be given within six months, the average time taken is said to be nearly four years. In view of the time taken, the very purpose of AAR is defeated, due to which the mechanism is being used infrequently as is evident from the ever-increasing load of tax-related litigation, said the Court.

According to the Deloitte report on advance rulings in India cited above, the disposal rate declined from 30 per cent in 1994-95 to seven per cent in 2017-18. The disposal rate is taken as the cases done with, as percentage of the sum total of cases pending at the beginning of the year and those filed during the year.

Maheshwari said the average annual disposal has been about 60 cases in the five-year period from 2013-14 to 2017-18. There are no publicly available statistics of monthly disposals by AAR. However, an analysis of published rulings of the AAR shows that in a 108-month period (FY11-FY19), the AAR did not publish any rulings for 45 months. In some cases, the pendency is more than six to eight years, defeating the very purpose of having an AAR, as no business will wait for that long to get tax certainty before making a major transaction, said Maheshwari.

AAR has three branches -- the principal branch in Delhi, the National Capital Region (NCR) branch in Delhi and one in Mumbai. Under the statute, the AAR consists of a chairman and such number of members (vice-chairman, revenue members, and law members) as the government may notify. The posts of chairman and vice-chairman have to exist for AAR to function. However, both posts have been lying vacant since 2019, leaving the body non-functional, said Dikshit. He said if the chairman is there, he can appoint a vice-chairman from among the members. However, the chairman has to be there to make the institution functional, he said.

Maheshwari said the government has always delayed appointment of the Chairman, which is the key reason for the backlog.

In the case cited above, the Supreme Court observed that there is obviously a lack of presiding officers to deal with the volume of cases. Interestingly, the primary reason for this is the large number of vacancies and delayed appointments of members to the AAR, it said.

Dikshit said AARs can admit a case if a particular transaction is not for tax avoidance. Cases on which rulings are sought are usually highly complicated. If revenue makes a prima facie case that a certain transaction is for tax avoidance, AAR has to first give a ruling on that issue. The department of revenue makes this case in most proceedings. This delays the rulings. AAR may later rule that a particular transaction is not for tax avoidance and has merit for advance rulings, but the whole process delays the ruling.

Maheshwari said one of the recent examples is in the case of Tiger Global, wherein AAR denied the treaty benefit under India-Mauritius pact, despite that fact that it has a grandfathering clause for investments made prior to April 1, 2017. New York-based private equity investor Tiger Global sought exemption from tax on capital gains arising from the 2018 sale of its Flipkart stake to Walmart. The investor argued that since its investment firms that made the Flipkart investment were based in Mauritius and were set up before 2017, it should get treaty exemption. AAR had rejected the petition and ruled that it suspected the tax treaty was being abused to avoid tax. The case is now on in the Delhi high court where the assessment against Tiger Global has been stayed.

Where the applicant has undertaken a transaction and seeks an advance ruling, the law provides that the tax authorities will not impose tax until the AAR has pronounced its ruling. Currently, AAR rulings are being issued much beyond the mandated six-month period as mentioned above. Invariably, by the time the AAR issues the ruling, all applicants must have filed a return of income for the relevant financial year related to the transaction. The applicant may have paid no tax on the income arising from the relevant transaction based on its stand before the AAR. Any proceedings regarding this return of income is kept in abeyance by the tax authorities until the AAR ruling is issued.

If the AAR ruling, when issued a few years later, is adverse, the applicant is liable for both tax and interest on the income in relation to the transaction. In all such cases, the interest liability is significant because it is levied for the entire period from the date of the transaction and the date of the AAR ruling which is grossly not fair, said Maheshwari.

If the ruling had been pronounced within the mandated six-month period, the applicant could have paid the tax immediately, he said.