Direct Taxes Code Presentation

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Direct Taxes Code

HISTORY OF INCOME TAX IN INDIA:

Income Tax Act, 1922.Income Tax Act, 1961.Direct Taxes Code, 2010.

To the credit of the Govt., they have at least released a draft and discussion paper and invited suggestions. This is a positive move by the Govt.

Structure of the Code:The Code has been divided into 9 parts:

Part A Income TaxPart B Dividend Distribution TaxPart C Tax on Distributed IncomePart D Branch Profits TaxPart E Wealth TaxPart F Prevention of Abuse of the Code (Transfer

Pricing and GAAR)

Part G Tax Management (Administration etc)Part H General (PAN, TAN, Agreements with foreign

countries, notices etc)

Part I Interpretation and Miscellaneous

The Direct Taxes Code, 2010:

The DTC has 319 Section and 22 Schedules.

Definitions are contained in Section 314, which has 297 definitions.

The Direct Taxes Code, 2010:Guide to the Schedules of the Code:1 Rates of Income Tax2 Rates of other taxes.

3 Rates for Deduction of tax at source

4 Rates for deduction of tax at source in the case of non-resident deductee

5 Procedure for Recovery of Tax.6 Income not included in total income (=Section 10)

7 Person, entity or Funds not liable to income tax.8 Computation of Profits of the Insurance business.9 Computation of Income from special sources.

10 Computation of profits of business of operating a qualifying ship.

11 Profits of business of mineral oil or natural gas12 Computation of profits of the business of developing of an

SEZ, manufacture or production of article or things or providing of any service by a unit established in an SEZ.

13 Computation of profits of specified business.14 Determination of income on a presumptive basis.15 Depreciation.16 Contributions or donations eligible for 175% deduction.17 Determination of cost of acquisition in certain cases.18 Minerals and group of associated minerals.

19 Approved provident, gratuity, superannuation funds.

20 Computation of income attributable to a controlled foreign company.

21 Orders appealable before Commissioner (Appeals)

22 Deferred Revenue Expenditure Allowance (NEW CONCEPT)


The DTC has 319 Clauses and 22 Schedules.

Definitions are contained in Clause 314, which has 297 definitions.


First Draft of the DTC was released in August 2009, along with a Discussion Paper for public comments.

Revised Discussion Paper was released in June 2010.

Based on comments received, a Bill named “Direct Taxes Code, 2010” has been introduced in the Parliament.

When enacted, The Code will replace the Income Tax Act, 1961 and the Wealth Tax Act, 1957

The Code is proposed to come into force on 1-4-2012.

It extends to the whole of India.

Objects and Reasons:

The 1961 Act has undergone numerous revisions, not less than 34 times by amendment Acts besides amendments carried out using Finance Acts.

Due to this, the basic structure of the Act has become over-burdened and the language, complex.

Concerns were raised by administrators, CAs and tax payers.

The Govt. therefore had decided to revise, consolidate and simplify the language and structure of direct tax laws.

Further rationalization of tax rates (which have been steadily decreasing over 25 years) may not be feasible without corresponding increase in tax base.

Objects and Reasons (Contd):

Strategy for broadening tax base comprises of three elements:

1. Minimize Exemptions- This will result in higher tax-GDP ratio, enhance GDP growth since tax exemptions distort allocative efficiency. This will also improve equity, reduce compliance costs, lower administrative burdens and discourage corruption.

2. Remove ambiguity in law which facilitates avoidance. It is necessary to undertake periodic exercise of rewriting The Code in light of new trends.

3. Checking of erosion of the tax base through tax evasion.

The DTC is designed to reflect this strategy.

Interpretation of The Code:

DTC is NOT an attempt to ‘improve’ the Income Tax Act. Some assumptions which have held the ground for many years have been discarded.

In drafting the Code, the CBDT has, to the extent possible, started on a clean drafting slate.

It is advisable to read the Code without any preconceived notions and, as far as possible, without comparing with the provisions of the Act.

Let us examine the claims of the Discussion Paper with an example.

Interpretation of The Code:Proviso Sec. 17(2) (Definition of Perquisite) says that “nothing in this clause shall apply to- (v) any sum paid by the employer in respect of any expenditure actually incurred by the employee on his medical treatment or treatment of any member of his family, so, however that such sum does not exceed 15,000 rupees in the previous year”

Definition of Perquisite under the Code Clause 314(191):Perquisite does not include-(v) Any sum paid by an employer in respect of any expenditure incurred by an employee on medical treatment of himself or his family members to the extent that it does not exceed Rs. 50,000 in a financial year.

A comparison of the above provision regarding medical reimbursements being excluded from perquisites do not reflect a ‘clean drafting slate’

Simplification of Law:

One cosmetic effort made by the Code to do away with the ‘Jungle and maze of words’ is to separate the concepts of ‘Previous Year’ and ‘assessment year’ with the unified concept of ‘Financial year’

Another example is that formulae have been used instead of using phrases like “shall bear the same proportion as such and such bears to such and such”, as well as tabular and schedule based presentation.

Law remains as complex as before, with the added effect of not being able to completely rely on principles expounded under the Income Tax Act by Courts and other authorities.

It is expected that litigations will continue unabated under the Code.

Tax rates:

For Individuals, HUF:

For resident individual who is above 65 years of age during the financial year, the basic exemption is Rs. 250,000

No distinction made between male and female assessees.

Taxable Income Income tax

Total Income does not exceed Rs. 200,000 Nil.

Total income between Rs. 200,000- Rs. 500,000 will be taxed at

10%

Total Income between Rs. 500,000 and Rs. 10,00,000 will be taxed at

20%

Income above Rs. 10,00,000 will be taxed at 30%

Tax Rates:

Companies will be taxed on the whole of total income at 30%

Tax on book profits- MAT- 20%

Dividend Distribution tax by domestic company- 15%

Income distributed by Mutual Fund to unit holders of equity oriented fund- 5%

Income distributed by life insurer to policy holders of approved equity oriented life insurance scheme – 5%

Wealth Tax at 1% of the amount by which net wealth exceeds Rs. 1 crore.

Tax Rates:

Branch Profits tax on Foreign Companies- at 15% of branch profits. (Newly introduced)

Foreign company shall be liable to branch profits tax in respect of branch profits of a financial year. This is in addition to income tax payable by the foreign company.

Payable irrespective of whether branch profits are remitted to head office abroad.

Branch profits shall be the income attributable, directly or indirectly, to the P.E. or an immovable property situated in India included in the total income of the foreign company for the financial year, as reduced by the amount of income tax payable on such attributable income.

Permanent Establishment:

P.E. means a fixed place of business through which the busienss of a non-resident assessee is wholly or partly carried on. It includes a place of management, a branch, office, factory, workshop, sales outlet, warehouse in relation to person providing storage facilities for others, farm, mine, building site, furnishing of services, installation or structure. (Larger definition that what is in the Act)

P.E includes a person other than independent agent who acts on behalf of the N.R assessee if he1. Concludes contracts, unless activities are limited to purchase

of goods.2. Maintains stock of goods in India and delivers them.3. Secures orders in India mainly or wholly for the N.R. and other

N.R Controlled by the that N.R.

Permanent Establishment:

PE also includes the person acting in India on behalf of an assessee engaged in insurance business through whom the assessee collects premiums in India and insures risks situated therein.

PE also includes a substantial equipment in India which is being used by, for or under any contract with the assessee.

Basic Concepts:No more ‘previous year’ and ‘assessment year’. Only one term ‘Financial year’ to be used.

Income will be taxed as per the provisions of the Code as they stand on 1st April of that financial year. Under the Act, income is taxed based on provisions as they stand on the 1st day of assessment year.

Under the DTC, tax rates are specified in the Schedules, therefore no annual Finance Bill. Rates will be changed by amending Schedules to the Code through Amendment Bill.

‘Assessee’ now also includes any person who files return regardless of whether he was required to, any person who is required to furnish information under the Code, and any person to whom amount is to be refunded under the Code.

Basic Concepts:

For Individuals and HUF, the concept of Resident but not ordinarily resident is proposed to be abolished. However, even though the category will be abolished, ‘not ordinary residents’ will still enjoy exemption in respect of their foreign sourced income.

‘Income deemed to accrue or arise in India’ u/s 9 of the Act as regards salary, dividend, interest, royalty and technical fees are retained in Clause 5 of the Code. In addition, the code also includes:1. Insurance premium shall be deemed to accrue or arise in India

if it is accrued from or payable by any resident or non-resident in respect of insurance covering any risk in India.

2. See Next Slide.

Basic Concepts:Income accruing or arising will now include:Income from transfer, outside India, of any share or interest in a Foreign Company if at any time in 12 months preceding the transfer, the fair market value of the assets in India, owned directly or indirectly, by the company, represent atleast 50% of the Fair Market Value of all assets owned by the company. (This is a ‘look through’ provision to be introduced so that shares of a foreign company is artificially unbundled to find out the assets that it represents)

This may have been specifically introduced to counter the Hutch/Vodafone case, where a Foreign Company(A) transferred shares in a foreign company(B) to another foreign company(C). In case of this case, foreign company (B)’s assets almost entire comprise of assets in India held indirectly for which the assessee denied liability to tax.

Other points of comparison (Not exhaustive):

Point Act Code

Residence of companies

U/s 6(3), a company is treated as a resident, if it is an Indian company, or if its control and management is situated 'wholly' in India.

Under cl. 4(3) of the Bill, a company is treated as resident if it is an Indian company, or if its place of 'effective management' at any time of the year is in India. The test for determining residence has been altered and made broader. 'Place of effective management' is defined under cl. 314(192) to mean either the place where the Board/executive directors of a company make their decisions or, in a case where the board of directors routinely approve the commercial and strategic decisions made by the executive directors or officers of the company, the place where such executive directors or officers of the company perform their functions.


Point Act Code'Indian company'

U/s 2(26), an Indian company is one which is formed and registered under the Companies Act, 1956 or established by or under a Central or State Act. A Proviso requires the registered/principal office to be in India.

Under cl. 314(132), an Indian company is a body corporate which is registered or established or constituted by or under the Companies Act, 1956 or another State or Central Act. The requirement of the proviso is separately included. The change in language seems clarificatory.


Point Act CodeResidence of other legal persons

U/s 6(4), other legal persons are treated as residents in India in any previous year in every case, except where the control and management of his affairs is situated wholly outside India.

Under cl. 4(4), every other legal person is to be treated as a resident in any financial year, if the place of control and management of its affairs, at any time in the year, is situated wholly, or partly, in India. The language seems to have changed, but the test seems same – if any part of management is carried out in India, the person is a resident.


Point Act CodeScope of total income

Residents are taxed on worldwide income; non-residents on a source-based model

Essentially the same model, but 'source' has been widened as we will see a few slides later.

In addition, cl. 3(3) provides that any income which accrues to a resident or is received by a resident outside India during the year shall be included in the total income of the resident, whether or not such income has been charged to tax outside India.


Point Act CodeDeemed accrual in India

Section 9(1)(i): Through or from any business connection, property, or asset/source in India, or through the transfer of a capital asset situate in India. Where operations are not carried on entirely in India, only that income which is reasonably attributed to operations in India is deemed to accrue in India.

Cl. 5(1): The same four categories apply – it is clarified that income arising 'through or from' all the 4 would be covered (as opposed to the present Section, where 'through or from' qualifies the other 3 categories but the provision only read 'through' the transfer of a capital asset. Business connection has been defined in cl. 314(40) to include a permanent establishment. Definition of PE has been discussed a few slides earlier.


Deemed accrual of income from interest, royalties and fees for technical services:

Under the Act:Section 9(1)(v), (vi) and (vii): The income is deemed to accrue in India if it is: (a) payable by the Government;

(b) payable by a resident except where it is payable in respect of any debt/right/property/information/ services utilised for the purposes of a business or profession carried on by such person outside India or for the purposes of making or earning any income from any source outside India

(c) payable by a non-resident where the royalty is payable in respect of any right, property or information used or services utilised for the purposes of a business or profession carried on by such person in India or for the purposes of making or earning any income from any source in India

Other points of comparison (Not exhaustive):Under the Code:Cl. 5(2): The interest income is deemed to accrue or arise in India if it is:

(a) According to cl. 5(2)(d)/(f)/(h), accrued from or payable by the Government or any resident;

(b) According to cl. 5(2)(e)/(g)/(i), accrued from or payable by a non-resident if it is in respect of / for the purposes of a business carried on in India or for the purpose of earning any income in India.

The royalty provision has been broadened. Any royalty payable by a resident is now covered, even if that royalty was entirely in respect of a business carried out outside India. To my mind, this looks as if nexus requirements have been removed in respect of taxing a non-resident


Deemed Accrual of Income Under the Code (Contd from previous slide):

There is an exception under cl.5(4), where the income is not to be treated as accruing "in India under sub-section (1)" if it is in respect of a business carried on by a resident outside India or for the purpose of earning any income outside India. Curiously, the provisions on interest, royalty and FTS are under cl. 5(2), while the exception is only in respect of income under cl. 5(1). This is either a drafting error (and the notes on clauses indicate that this is the case), or a case of giving with one hand and taking away with the other. Interestingly, clause 5(2) is specifically stated to be without prejudice to cl. 5(1).

Additionally, it is provided under cl. 5(5), that income under clause 5(2)(c) to (k) shall be deemed to accrue or arise in India whether or not the payment is made in India, the services are rendered in India, the non-resident has a place of business/business connection in India, and irrespective of the actual place of accrual. This is probably to ensure that the 'render+utilize' debate does not arise again.

Other points of comparison (Not exhaustive):Point Act CodeDefinition of 'fees from technical services'

Explanation II to Section 9(1)(vii) specifies that FTS means consideration for the rendering of any managerial, technical or consultancy services (including the provision of services of technical or other personnel) but does not include consideration for any construction, assembly, mining or like project undertaken by the recipient or consideration which would be income of the recipient chargeable under the head "Salaries".]

Cl. 314(97) defines FTS to mean any consideration:i. for the rendering of any managerial, technical or consultancy servicesii. for provision of services of technical or other personnel.

The exclusion is available. The difference is that point (ii) is included separately, as opposed to the current act where it is included within managerial, technical or consultancy services. Now, on its plain reading, the clause is quite broad – FTS includes consideration… for the provision of services… of other personnel. The word 'other' in the second sub-clause should, it seems, be read in conjunction with 'technical' as opposed to all other personnel.

Other points of comparison (Not exhaustive):Point Act CodeDefinition of Royalty

U/s 9(1)(6), Explanation 2, royalty was defined to mean consideration for, inter alia, the transfer of all or any rights (including the granting of a licence) in respect of a patent, invention, model, design, secret formula or process or trade mark or similar property.

Royalty is defined to mean consideration for, inter alia, transfer of all or any rights (including the granting of a licence) in respect of a patent, invention, model, design, trade mark, secret formula, process, or similar property. The change in the language is relevant – for example, there is debate in current law (see the Tribunal decisions such as New Skies and PanAmSat) as to whether the word 'secret' qualifies only 'formula' or both 'formula ' and 'process'. The Bill, by inserting the comma in place of the 'or' clarifies that the word 'secret' does not qualify process. This clarifies the existing provision – interestingly a Special bench of the Tribunal had come to the same conclusion in any case on the existing wording. The other clauses seem to be similar to the existing definition, except for the change noticed above.

Other points of comparison (Not exhaustive):Point Act CodeTreaty and Act interplay

Under Section 90(2), a tax treaty will override and the act will apply only to the extent it is more beneficial.

Same principle, except that Cl. 291(8) is worded in a way which is not clear as to treatment of treaties entered into under the present Act.

Can the Revenue tomorrow argue that the treaty was actually not entered under this clause, but under Section 90; and hence, the Act will override in all cases? There was some amount of controversy in the first draft of the DTC regarding this; if there has been a rethink by the Government, there should be a specific mention of Section 90 as well to forestall the Revenue argument.

Treaty benefits restricted. Provisions relating to GAAR, Branch Profit tax, and Control Foreign Company Rules still apply to assessee.

Other points of comparison (Not exhaustive):Point Act CodeBest Judgment Assessment

U/s 144, a best judgment assessment is allowed in cases where there is a failure to file a return/failure to comply with the terms of certain notices etc.

Under cl. 156, in addition to the existing requirements, a best-judgment assessment can also be made if the fails to regularly follow the prescribed method of accounting, or if the AO is not satisfied about the correctness or completeness of the accounts of the assessee.

Other points of comparison (Not exhaustive):Point Act CodeBusiness Connection

U/s 9 shall not include any business activity carried out through a broker, general commission agent or any other agent having independent status.

It appears that such business activity carried out through broker, general commission agent or other agent having independent status will be a business connection under the Code as there are no provisions in the Code along the lines of the first proviso below Explanation 2 to Section 9(1)

HEADS OF INCOME:

A- Income from Ordinary Sources (Roughly corresponds to ‘Tax payable on total income tax at normal rates’).

B- Income from Special Source (Roughly Corresponds to ‘Tax payable on total Income at special rates’).

Special Sources are specified in Part III of the First Schedule to the Code.

The only item of special sources for residents is by winnings of lottery or crossword puzzle, race including horserace, card game or any other game or gambling or betting. Rate is 30%.

HEADS OF INCOME:

For a N.R, special sources include investment income by way of interest, dividend on which DDT has not been paid, profit distributed by a fund on which DDT has not been paid, royalty or fees for technical services, insurance including reinsurance.

This is in addition to lottery, race etc.

The above incomes shall not be considered as income from special source is such income is attributable to the PE of a N.R in India.

HEADS OF INCOME:

Heads under the Code. Heads under the Act.

Income from employment Salaries

Income from House Property Income from House Property

Income from Business Profits and Gains from Business or Profession.

Capital Gains Capital Gains.

Income From Residuary Sources Income from other sources.

Exemptions proposed to be withdrawn:

Not ordinarily resident HUF will not be entitled to exemption from income derived from business controlled or profession set up in India.

10(32) exemption upto Rs. 1500 for minor child’s income which is clubbed will be withdrawn.

10(10CC)- Tax on non-monetary perquisites paid by employer

10(8A)- For a consultant, remuneration or fee from international organization, or other income which accrues to him outside India, and he is required to pay tax to the Govt. in his country of origin.

10(37)- Capital Gains on compulsory acquisition of urban Agricultural Land.

Income from House Property:

No more presumptive taxation on ‘Annual Value’. Only actual income will be taxed, notwithstanding that letting is in the nature of trade, commerce or business.

In case of HP not let out, gross rent is NIL and no deduction will be allowed (presently, it is considered as deemed to be let out). Under the code, one HP which is not let out will be allowed to take deductions on interest etc.

Deductions:Repairs and maintenance will now be allowed at 20% of Gross Rent. Available only for property that is actually let out. (Presently 30% of Annual Value).

Service tax paid on rentals will now be allowed on let out HP.

Income from House Property:Deductions:Interest on capital borrowed for acquisition, construction, repair or renovation will be allowed as deduction from gross rent (subject to Rs. 1.5 lacs). This is only for one HP which is not let out.

Interest on loan taken for repayment of loan above.

Preconstruction interest – Same treatment as in the Act (5 equal installments)

For property not let out, income will be NIL and no deductions will be available, except ONE HP for which interest will be allowed as above.

Income from House Property:Deductions:Interest on capital borrowed for acquisition, construction, repair or renovation will be allowed as deduction from gross rent (subject to Rs. 1.5 lacs). This is only for one HP which is not let out.

Interest on loan taken for repayment of loan above.

Preconstruction interest – Same treatment as in the Act (5 equal installments)

For property not let out, income will be NIL and no deductions will be available, except ONE HP for which interest will be allowed as above.


The existing system of presumptive taxation ensures that owners of multiple properties do not keep houses locked. They are forced to let out their properties to reduce tax burden.

The new system will cause owners to keep their houses locked because there will not be any tax on properties not let out.


The existing system of presumptive taxation ensures that owners of multiple properties do not keep houses locked. They are forced to let out their properties to reduce tax burden.

The new system will cause owners to keep their houses locked because there will not be any tax on properties not let out.

Income from Business:Model of computing income is now Gross Income minus allowable deductions, as against the present system of business profits +/- specified adjustments.

Profit from sale of business capital assets and self-generated assets will now be taxable as business income (vs. capital gains earlier).

Reduction or remission of liability by way of loan, deposit or advance will now be taxed as business income. (Earlier, this could not be taxed u/s 41 because no deduction would have been claimed earlier)

Amount received on cessation or termination of agreement of agency/management entered into in the course of business is now business income, even if it is of a capital nature.

Income from Business:

Letting of property in course of running hotel, convention center or cold storage is now business (earlier all letting was under IHP)

Value of benefit or perquisite received in connection with business is taxable. However the code uses “from or in connection with the business” which is wider in scope.

U/s 28(iiib) cash assistance against exports was taxable. The Code says ‘Cash assistance, subsidy or grant by whatever name called received for or in connection with business other than to meet portion of business capital asset’ is chargeable as business income (whether or not concerned with exports and whether capital or revenue).

Income from Business:Remission, drawback or refund of ANY tax, duty or cess is business income. Earlier it was income in respect of excise or customs.

Interest or remuneration of participant of unincorporated body (i.e. partner of firm) will be taxed fully, because the code proposes NOT to disallow any interest/remuneration in the hands of firm/LLP. Same treatment applies to AOP/BOI. Limits for interest/remuneration is proposed to be done away with. However, it will only be allowed to the extent it is in accordance with the deed.

Deemed profits U/s 41(1)- Under the Code, the scope of this provision has been expanded. ‘Remission or cessation’ will occur even if the other party creates a reserve (in addition to the unilateral act of writing it off), or by virtue of there being no transactions with the credit for a period of 5 years from the end of the F.Y in which the transaction took place.

Income from Business:Under the Code, payments made under the earlier Sec 40A(3) will be disallowed and added back even if the assessee does not claim a deduction. Presently, these payments are disallowed only if the assessee claims deduction.

Contribution to employees welfare fund account [36(1)(va)] need not be paid on or before the due date under the relevant Act. The payment is required to be made under the Code on of before due date of filing returns.

Head office expenditure by non-resident as is attributable to business in India will be deductible to the extent of 0.5% of total sales, turnover or gross receipts. Presently, u/s 44C, this is deductible at 5% of adjusted total income.

Income from Business:Cost of business trading asset acquired from predecessor in business reorganization will be cost of asset to predecessor plus any improvement, and expenditure incurred wholly and exclusively in connection with transfer of the asset if the person is the successor, the asset becomes property of the successor, and the successor sells it as a business trading asset.

Bad debts written off is deductible if the person is not a permitted financial institution and the amount is written off as irrecoverable in the books of the person.

Amount paid to creditor [presently allowed u/s 37(1)], will be allowed to the extent of ‘Amount paid during the year in discharge of liability which has been included in income’ – (Opening balance + liability added during the year)

Presumptive Income:Presumptive Income under Schedule 14:

1. Plying, hiring or leasing heavy or light goods vehicles- Rs. 5000 per month/heavy goods vehicle for month or part of the month for which assessee is owner. Rs. 4500/ month for light goods vehicle.

Total no of heavy/light goods vehicles owned by assessee should be 10 or less during the financial year.

2. Other Businesses- 8% of total turnover or gross receipts, provided that assessee is resident individual/HUF/Firm (excluding LLP) and total turnover is Rs. 1 crore or less. This is an umbrella for all businesses other than those in point 1.

Presumptive Income:B) Foreign Companies:

a) Business of civil construction in connection with a turnkey power project approved by the Central Government

b) Business of erection of plant or machinery or testing or commissioning thereof, in connection with a turnkey power project approved by the Central Government

Presumptive income is 10% of the amount paid/payable whether in India or abroad, directly or indirectly to the assessee or any other person on his behalf.

Presumptive Income:C) All non-residents:a) Business of providing services or facilities in connection with the prospecting for, or extraction or production of, mineral oil or natural gas

b) Business of supplying plant and machinery on hire, used or to be used, in the prospecting for, or extraction or production of, mineral oils or natural gas

Presumptive income is 14% of amount paid/payable or received or deemed to be received in India.

c) Business of operation of ships- 10% of transportation charges.d) Business of operation of aircraft- 7% of transportation charges.

These provisions will not apply to income from special sources.

Presumptive Income:Assessee has an option to return an income lower than above if he: 1. maintains books of accounts (Section 87 of the Code)2. gets them audited (Section 88 of the Code)3. the accounts are correct and complete to the satisfaction of theAssessing Officer;4. the income can be properly deduced from the accounts; and5. the assessee produces the books of account and other documents before the Assessing Officer, as and when called for.

Under the Act, this option was not available to non-residents and foreign companies in shipping business (44B), providing services or facilities or supplying plant and machinery on hire used in prospecting/extraction/production of mineral oils (44BB) and operation of aircraft (44BA). Under the Code, this option seems to be available even to non-residents and foreign companies.

Presumptive Income:Any excess income earned by the assessee over and above the presumptive income will be added to total income. This is the same position as the Act, but worded differently.

Capital Gains:Capital Gains is an artificial income. It is created by the 1961 Act.

Under the code, capital gains arises on transfer of ‘investment asset’, which means”

1. Any capital asset which is not a ‘business capital asset’.2. Any security held by a Foreign Institutional Investor.3. Any undertaking or division of a business.

Investment assets therefore include capital assets.

Distinction between LTCG and STCG done away with, however, differential tax treatment will be allowed based on holding period of the asset. Net-net, it amounts to the same thing.

Capital Gains:What is a ‘business capital asset’?1) Capital asset self generated in the course of business.

2) Any intangible asset in the nature of:i) Goodwill, trademark, brand name, right toe manufacture, right to carry on business, tenancy right in respect of premises occupied by the assessee and used by him for business, or license, permit or right acquired in connection with the business.

ii) Tangible capital asset in the nature of building, plant, machinery or furniture.

iii) Any other capital asset not being land connected with or used for the purposes of business of assessee.

Gains from transfer of the above will be business income.

Capital Gains:Securities held by FIIs will be considered ‘investment asset’ hence profit from sale of securities by FIIs will be taxed as capital gains and not business profits.

Definition of ‘transfer’ expanded to include various transactions which earlier gave rise to capital gains like 45(1A), 50B etc.

But two new transactions have been included under ‘transfer’:

1. Distribution of money or the asset to a participant in an unincorporated body on account of retirement. This will be taxed in the year in which money/asset is distributed.

2. Any disposition, settlement, trust, covenent, agreement or arrangement.

The above transactions will be chargeable to capital gains.

Capital Gains:Transfer of the following does not give rise to capital gains (These assets are still considered as investment assets, but the transfer of these will not be taxable):

1. Personal effects.2. Rural agricultural land.3. Gold Deposit Bonds, 1999 scheme.

100% deduction allowed on CG on transfer of equity share of unit of equity oriented fund subject to STT after holding for more than 12 months.

If held for less than 12 months, a deduction of 50% of CG arising from transfer (without indexation) will be allowed. Balance will be merged with the total income and taxed at the applicable rate. If it is a capital loss, the same figure will be scaled down by 50%.

Capital Gains:

Clause 47 of the Code deals with transactions not regarded as transfer. This Clause is more or less the same as Section 47 of the Income Tax Act, 1961.

Indexation of COA and COI will be allowed if an investment asset (other than those acquired by special modes) is transferred at any time after ONE YEAR from the end of the FY in which the asset is acquired.

(This is as against 36 months required earlier for assets other than shares, listed securities, units of UTI, mutual fund and ZCB.)

Indexation w.r.t to Cost of Inflation Index as on 1-1-2000.

Capital Gains:

Rollover Deductions: (i.e. Sec 54 series)

The only rollover deductions proposed to be continued are from:

Sec 54B (transfer of agri land and acquisition of agri land),Sec 54F (transfer of asset other than house and acquisition of house)Sec 54 (transfer of house and acquisition of house)

Rollover will be allowed if investment assets are transferred after holding for at least one year before the beginning of the financial year in which transferred. New asset should not be transferred within one year from the end of the FY in which asset was acquired/constructed.

This is as against 36 months in the Act.

Capital Gains:

An individual or HUF will be allowed as deduction in respect of rollover of any original investment asset, from the capital gain arising from the transfer of asset. The deduction shall be computed as under

A x (B+C+D)/E

Where

Capital Gains:A = the amount of capital gains arising from the transfer of the original investment asset;B = the amount invested for purchase or construction of the new asset within a period of one year before the date of transfer of original investment asset;C = the amount invested for purchase or construction of the new asset by the end of the financial year in which the transfer of theoriginal investment asset is effected or six months from the date of transfer, whichever is later;D = the amount deposited in an account in any bank by the end of the financial year in which the transfer of original investment asset is effected for six months from the date of transfer, whichever is later in accordance with the Capital Gains Deposit Scheme framed by the Central Government in this behalf;E = the net consideration received as a result of the transfer of the original investment asset.

Capital Gains:The amount withdrawn from the CGDS shall be utilized within a period of one month from the end of the month in which the amount is withdrawn.

The amount deposited under the CGDS shall be used for the purposes of purchase or construction of the new asset within a period of 3 years from the end of the financial year in which the transfer of the original asset is effected.

Capital Gains:

If investment asset transferred is land or building:

Code proposes to take stamp duty value as the Full consideration. This is irrespective of whether the consideration shown in the agreement is higher or lower than the stamp duty value, and irrespective of whether the stamp duty value exceeds the fair market value on the date of transfer.

Presently, under Sec. 50C, the assessee is allowed to claim before the A.O that the valuation adopted by the stamp duty authorities exceeds the market value on the date of transfer and the A.O may refer to a valuation officer to determine the value.

This right of objection to the deemed value is proposed to be taken away.

Capital Gains:

Computation of Capital Gains:Full value of consideration accrued-. or received as a

result of the transferXxxxx

LESS: Deductions under Clause 51 i.e. Cost of acquisition, Cost of improvement , and expenditure incurred wholly and exclusively in connection with the transfer of the asset.

(Xxxx)

CAPITAL GAINS ARISING FROM THE TRANSFER OF INVESTMENT ASSET

Xxx

Capital Gains:

Full value of consideration of investment asset being land or building is stamp duty value (as discussed earlier).

The remaining provisions for full value of consideration are on the same lines as the Income Tax Act.

Distribution of money or asset to participant in an unincorporated body on account of retirement- Full value of consideration will be the amount of money or FMV of asset, as on the date of distribution of such asset.

Forfeiture of advance money will now be taxed under Income From Residuary Sources. Under the Act, this amount will be reduced from the Cost of Acquisition.

Capital Gains:Slump sale is included in the definition of ‘transfer’.

Under the Act, differential rate of 20% is applicable in case the undertaking which was sold via slump sale was held for a period longer than 36 months.

Under the Code, no such benefit is available and the capital gains will be taxable at the Maximum Marginal Rate.

In case of ‘slump sale’ the tax liability would depend upon the definition of ‘net worth’ which has not been prescribed so far. Further, there is no specific definition for the term ‘undertaking’ for slump sale purpose.

No cost of improvement will be NIL.

Capital Gains:An example of how ‘easy’ it is to understand the DTC.

Capital gains on sale of agricultural lands:1. See what are investment assets2. Under definition of investment asset, there is no exemption for

rural agricultural land because all assets other than business capital assets are taxable. So rural agricultural land is considered as a investment asset.

3. Under item 32 of the Sixth Schedule, agricultural land situated in rural area is exempted.

4. So what is rural area? It is defined under 314(221) as ‘not situated in urban area.

5. Urban area is defined under 314(284).

So mostly, the same concept applies, but the orientation has changed. So we have to selectively unlearn Income Tax Act.

Income from Residuary Sources:Income of a resident which is attributable to a Controlled Foreign Company will be taxable under the head Income From Residuary Sources. No provision to tax such income exists under the Act.

Under the CFC provisions, passive income earned by a foreign company controlled directly or indirectly by a resident in India would be taxed in the hands of the Indian company as a deemed dividend. A foreign company would be considered a CFC if the following conditions are satisfied:

It is resident in a country or territory that imposes a lower rate of tax and the amount of tax paid in that country/territory in respect of profits is less than 50% of the corresponding tax payable on such profits computed under the Indian Direct Taxes Code;

Controlled Foreign Company:The shares of the foreign company are not traded on any stock exchange recognized by the law of the jurisdiction in which it is resident;

One or more persons, resident in India, individually or collectively exercise control over the company.

It is not engaged in an active trade or business and 50% or more of its income is passive income, such as dividends, interest, royalties, capital gains, income from the sale or licensing of intangible property, income from the sale of goods or the provision of services to related parties, income from management, holding or investments in financial assets, etc;

The relevant profits exceed INR 25,00,000.The CFC rules would override the provisions of a tax treaty.

Controlled Foreign Company :One or more persons resident in India shall be said to exercise control over the company if —(i) such persons, individually or collectively possess or are entitled to acquire directly or indirectly shares carrying not less than 50% of the voting power or not less than 50% capital of the company;

(ii) such persons, individually or collectively are entitled to secure that not less than 50% of income or asset of the company shall be applied directly or indirectly for their benefit;

(iii) such persons, individually or collectively, exercise dominant influence on the company due to special contractual relationship;

(iv) such persons, individually or collectively, have, directly or indirectly, sufficient votes to exert a decisive influence in a shareholder meeting of the company.

Controlled Foreign Company :A company shall be regarded as a resident of a territory for the purposes of tax—(i) if in an accounting period it is liable to tax in the territory by reason of its place of incorporation or the place of management;(ii) if in any accounting period there are two or more territories falling in sub-clause (i) above, then, the company shall in that accounting period be regarded for purpose of this Schedule as a "resident" of any one of them—(A) if, throughout the accounting period, the company’s place ofeffective management is situated in one of those territories only, in that territory; and(B) if, throughout the accounting period, the company’s place ofeffective management is situated in two or more of those territories, then, in one of them in which, at the end of the accounting period, the greater amount of the company’s assets is situated; and

Contd From previous slide:

(C) if neither item (A) nor item (B) above applies, then, in one of theterritories falling within sub-clause (i) above in which, at the end of the accounting period, the greater amount of the company’s assets is situated; and

(iii) if in any accounting period a territory is not falling within sub-clause (i) above, then, for the purposes of this Schedule it shall be conclusively presumed that the company is in that accounting period resident in a territory with a lower rate of taxation;

Controlled Foreign CompanyThe amount of attributable income shall be computed in accordance with the formula—A x B/100 x C/D, Where

A = specified income of the Controlled Foreign Company as computed under paragraph 4 (Next Slide);B = percentage of—(i) value of capital,(ii) voting share or interest,whichever is higher, held by the assessee, directly or indirectly, in the Controlled Foreign Company;C = number of days out of D, the voting shares or capital or interest has been held by the assessee in the Controlled Foreign Company;D = number of days the company remained as a Controlled Foreign Company during the accounting period;

Controlled Foreign Company

The specified income of the Controlled Foreign Company shall be computed in accordance with the formula—(A + B – C – D) x E/FWhere

A = net profit as per profit and loss account of the Controlled Foreign Company for the accounting period prepared in accordance with the International Financial Reporting Standards issued by the International Accounting Standards Board, GenerallyAccepted Accounting Principles, International Accounting Standards or accounting standards notified under the Companies Act, 1956, as the case may be;

B = amounts set aside to provisions made for meeting liabilities or diminution in value of assets, other than ascertained liabilities;

Controlled Foreign CompaniesContd From Previous Slide:

C = amount or amounts of interim dividend paid out of profits of the accounting period, if such dividend is not debited to profit and loss account;

D = the loss to the extent it has not been previously taken into account under this paragraph in respect of an earlier accounting period, where there is a net loss of the Controlled Foreign Company for such accounting period;

E = number of days during which the company is a Controlled Foreign Company during its accounting period;

F = number of days in the accounting period.

Controlled Foreign CompaniesThe following points in the above formula are noteworthy:

1. Net profit as above is computed as per IFRS/AS/GAAP with JUST 3 adjustments made to it. The Govt. is prepared to trust the accounts of CFC prepared under IFRS/AS/GAAP more than the accounts of Indian companies (under MAT, there are many adjustments).

2. There is no mention of adjustments to be made to qualifications in the auditors report of the CFC.

3. Adjustment C is justified as far as it pertains to unascertained liabilities. As per correct Accounting Principles, no provision should be made for unascertained liabilities in the accounts.

However, the adjustment for provision for diminution in value of assets is uncalled for as making such a provision is required as per accounting principles.

Income From Residuary Sources (Contd):Now, IRS includes:Interest, other than interest accrued to, or received by, financial institutions. Therefore the idea seems to be to discourage businesses from parking money in interest earning instruments. This goes against common sense.

The amount of voluntary contribution received by a person, other than an individual or a Hindu undivided family or a non-profit organisation, from any other person.

Any amount received, or retained, on account of settlement or breach of any contract, if not included under IFB.

Any expenditure claimed as deduction under IRS, for which payment above Rs. 20,000 is made otherwise than by A/c Payee cheque/draft.

Income From Residuary Sources (Contd):Now, IRS includes:Any amount accrued, or received, on account of the cessation, termination or forfeiture in respect of any agreement entered into by the person, if the amount is not included under the head ‘income from business’ (Vs. Sec 51 of the Act- Advance Money)

Any amount received, as advance, security deposit or otherwise, from the long term leasing, or transfer of whole or part of, or any interest in, any investment asset. Repayment of this will be allowed as deduction.

Remission or cessation of liability which was allowed as deduction earlier, if not chargeable under IFB.

General Anti Avoidance RulesAnti Avoidance rules can be classified into following:‒ Measures based on general principles in the law• This refers to principles which are not codified in the legislation (non-statutory)• They include a range of philosophies and approaches including “substance over form”, “abuse of law”

‒ General Anti Avoidance rules• It has same meaning as “anti avoidance rules based on general principles in law” except that it is codified and included in the legislation. India will enter this stage once the Bill is enacted.

‒ Specific Anti Avoidance rules• These are the specific anti-avoidance rules which applies to the specific situations- CFC, Thin Capitalization rules, Exit Tax etc.

General Anti Avoidance Rules

Cl. 123 proposes a GAAR which is extremely wide. "Any arrangement" may be declared as an impermissible avoidance arrangement. Separately, in cl. 124(15), "impermissible avoidance arrangement" is defined to mean a step in, or a part or whole of, an arrangement, whose main purpose is to obtain a tax benefit and it:

(a) creates rights, or obligations, which would not normally be created between persons dealing at arm's length; or

(b) results, directly or indirectly, in the misuse, or abuse, of the provisions of this Code; or

(c) lacks commercial substance, in whole or in part; or

(d) is entered into, or carried out, by means, or in a manner, which would not normally be employed for bona fide purposes.

General Anti Avoidance Rules (Contd. From previous slide.):

Cl. 125 contains a presumption of purpose.

Cl. (3) states that the provisions of the GAAR shall apply subject to such conditions and in the manner as may be prescribed. It remains to be seen as to what these conditions will be.

There are serious concerns to my mind about the constitutional validity of the GAAR provisions; and it is submitted that if enacted, the provisions should be either read down severely, or struck down. This aspect will require a fuller discussion; and we will discuss constitutionality-related aspects after enactment of the Bill.


Lacking commercial substance defined to include situations where there is a:• Significant tax benefits without a significant effect upon business risk or net cash flows• Legal substance or effect differs from legal form• It involves or includes:‒ Round trip financing‒ An accommodating or tax indifferent party‒ Any element that has the effect of offsetting or cancelling each other– A transaction which is conducted through one or more persons and disguises the nature, location, source, ownership or control of funds


Round trip financing includes financing in whicha) Funds are transferred among parties to the arrangement

(round tripped funds) andb) The transfer of the funds would

(i) result in a tax benefit, but for the provisions of GAAR.(ii) significantly reduce offset or eliminate any business risk incurred by any party to the arrangement.


Accommodating party means a party to an arrangement who as a result of his participation derives any amount in connection with the arrangement which would

1. Be included in his total income which would have otherwise been included in the total income of another party.

2. Not be included in his total income which would have been otherwise included in the total income of another party.

3. Be treated as a deductible expenditure, or allowable loss, by the party which would have otherwise constituted a non-deductible expenditure or non-allowable loss in the hands of another party.

4. Or result in prepayment by any other party.

General Anti Avoidance Rules (Contd. From previous slide.):Once treated as an IAA, look through permitted by:• Disregarding the whole or part of the impermissible avoidancearrangement• Treating related or accommodating or connected parties as one and the same person• Reallocating amongst parties or re-characterizing any accrual, receipt, expense, deduction, rebate, etc. whether revenue or capital• Re-characterizing debt to equity or vice versa

Companies set up abroad and making investments into India through intermediary holding companies (such as Mauritius, Cyprus, etc.) could be subjected to detailed scrutiny under the General Anti Avoidance Regulations (GAAR) regime which has also been introduced in the DTC. Adequate substance would have to be built into intermediary holding companies to safeguard the adverse effect under GAAR.


Mauritius Route Compromised?

The GAAR can be invoked as an alternative to or in addition to any other basis of making an assessment

Presumption of Purpose• The onus of proving that the purpose of a transaction is not to avoid taxes is on the assessee• The presumption applies even if the main / overall purpose of the arrangement is not to obtain a tax benefit and only if a step / part of the arrangement is to obtain a benefit

Appealable order / dispute resolution ?Advance Ruling ?Penalties ?

Specific Anti-Abuse Rules:This is to support the GAAR to deal with:

1. Payment to Associated persons in respect of expenditure[Cl 115] [Similar to Sec 40A(2)]2. International transactions not at arms length [Cl 116-118] [Similar to Chapter X of the Act]3. Transactions resulting in transfer of income to non-residents [Clause 119] [Similar to Section 93 of the Act]4. Avoidance of tax in certain transactions in securities [120,121] [Similar to Sec 94 of the Act]5. Broken period income from a debt instrument [122]

Specified Businesses:

Sections 80-IA, 80-IB, 80-IC, 80-ID, 80-IE and 33AD have been replaced by 'Specified Business' under the Code. Specified business are:

(a) business of generation, transmission or distribution of power;(b) business of developing, or operating and maintaining, any infrastructure facility;(c) business of operating and maintaining a hospital in any area, other than the excluded area (excluded area refers to large cities);(d) business of processing, preservation and packaging of fruits and vegetables;(e) business of laying and operating a cross country natural gas or crude or petroleum oil pipeline network for distribution, including storage facilities being an integral part of the network;(f) business of setting up and operating a cold chain facility;

Specified Businesses:(g) business of setting up and operating a warehousing facility for storage of agricultural produce;(h) business of building and operating, anywhere in India, a new hotel of twostar or above category as classified by the Central Government and commences operation on or after the 1st day of April, 2010;(i) business of building and operating, anywhere in India, a new hospital with at least one hundred beds for patients and commences operation on or after the 1st day of April, 2010;(j) business of developing and building a housing project under a scheme for slum re-development or rehabilitation framed by the Central Government or a State Government, as the case may be, and notified by the Board in this behalf in accordance with the guidelines as may be prescribed and commences operation on or after the 1st day of April, 2010.

Specified Businesses:

Each such business is treated as a separate and distinct business.

Profit of the business = Gross income - Business expenditure

Business Expenditure includes capital expenditure incurred by the assessee (other than land, goodwill, or financial instrument) and expenditure incurred before the commencement of the business.

A move has been made from profit linked incentive to Investment linked incentive, as capital expenditure is allowed as a deduction.Other than allowing full deduction of capital expenditure in the year of commencing business, no other incentive is allowed.

Deduction under 80-IA, IB (other than production and refining of mineral oil), IC, ID, IE, 80JJA, 80JJAA will be allowed to continue if certain conditions are met.

DDT and Tax On Distributed Income:There has been no major change in the provisions regarding the Dividend Distribution Tax.

Deemed dividends under the code:

2(22)(a) has been retained under 2(22)(b) has been retained under2(22)(c) has been changed to2(22)(d)2(22)(e) has been retained under

Documents

Direct Taxes Code Presentation