Legal hurdle in I-T action against 32,000 entities

Lack of evidence in establishing evasion charges, Sebi tells tax dept

The Securities and Exchange Board of India (Sebi) has told the income tax (I-T) department there's not enough evidence to establish a charge against 32,000 entities on tax evasion.

These companies had allegedly misused the stock exchange platform for booking long-term capital gains (LTCG), to evade taxes. The amount of evasion in question is supposed to be Rs 38,000 crore.

According to the markets regulator, the evidence and references provided by the tax authorities isn't sufficient to establish connections between the promoters of these companies, the beneficiaries and the 'last traded price' providers and 'exit' providers.

Referring some of these cases back to the I-T department, Sebi has said the investigation's progress till date "may not stand the test of legal scrutiny". It wants more proof.

Sebi has also pointed to a practical problem. "Enforcement proceedings against such a large number of entities will involve issuing a showcause notice, inspection of documents, personal hearing and passing of orders. This is when preliminary examination of cases revealed that collusion among the entities was weak/absent, since most of the transactions were settled in cash. Thus, further probe based on weak evidence will clog the system and could also result in a futile exercise," it has said.

Also, Sebi thinks, if the cases are mainly on tax evasion, this is not its purview. However, if the price of shares was manipulated, it could proceed under Section 11B of the Sebi Act, This allows it to impound or retain the sale proceeds of the company or entity in question. Sebi has put in place an internal framework for calculating ill-gotten profits while passing orders on impounding and disgorgement matters.

"Although many appeals are pending at the Securities Appellate Tribunal from the Sebi orders, the Tribunal has not delved into merits and details of these LTCG matters, as of now. Unless Sebi is able to demonstrate through evidence connecting so-called exit providers and operators to the stock manipulation, it might have a difficult time at the Tribunal. In the past, SAT has held a view that evasion of tax or tax management through stock exchange transactions does not come under the purview of Sebi, unless there is proven manipulation of scrip (prices)," says Sumit Agrawal, partner, Suvan Law Advisors.

An I-T department probe had observed that those desirous of generating fake LTCG receipts approach operators who directly or indirectly control listed companies, generally penny stocks. The operator then advises beneficiaries to invest in such listed firms for evading of tax. The listed firm accordingly allots shares on a preferential basis to beneficiaries at na ominal rate. These shares are under a lock-in period for a year. Subsequently, these operators manipulate the scrip price by adopting different methods like stock splits or issuance of bonus. They also rope in entities to provide the 'last traded price' for booking LTCG gains and also for buying shares at a higher price. The beneficiary gives cash to the operator through a multi-layer structure from the gains made by evading LTCG.

Based on this, the tax department has recorded the statements of stock brokers, operators and front entities, sharing these with Sebi. Most of these entities hail from Mumbai, Kolkata, Ahmadabad, Surat and Delhi.