Delhi High Court

Section 71(3A), IT Act, 1961 is Constitutional: Delhi HC

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In a recent judgment, the Delhi High Court held that Section 71(3A), IT Act, 1961 was constitutional and did not violate Art 14 and/or Art 19(1)(g) of the Constitution. The High Court’s primary reasoning was that the introduction of sub-section (3A) to Section 71 did not take away a vested right of the assessee but only introduced a new condition for an assessee to set off the loss. 

Section 71, IT Act, 1961

Section 71(1), IT Act, 1961 allows an assessee to set off loss under one head of income against income under another head of income, subject to certain conditions. To the said conditions, Finance Act, 2017 added another condition by introducing a new sub-section (3A) which states that: 

Notwithstanding anything contained in sub-section (1) or sub-section (2), where in respect of any assessment year, the net result of the computation under the head “Income from house property” is a loss and the assessee has income assessable under any other head of income, the assessee shall not be entitled set off such loss, to the extent the amount of the loss exceeds two lakh rupees, against income under the other head. (emphasis added)

The condition of claiming a set off of loss, not beyond two lakh rupees was challenged by the assessee before the Delhi High Court. 

Assessee’s Challenge 

The asssesee made the following main arguments in its attempt to assail the constitutional validity of Section 71(3A), IT Act, 1961: first, that that prior to the amendment assessee had an unhindered right to claim set of loss and promissory estoppel should be applied against the State since introduction of Section 71(3A) amounted to breach of a promise; second, the assessee claimed that the impugned sub-section created unreasonable restrictions on taxpayer rights and was violative of Art 14 and Art 19(1)(g) of the Constitution. 

The State’s arguments, in short, were that the Section 71(3A) was not a revenue harvesting measure but an anti-abuse provision. In the absence of an upper limit, high income taxpayers were paying huge amount as interest payments and setting off the same against incomes from other heads. 

High Court’s Analysis 

The Delhi High Court noted that as per the facts: when the assessee constructed his house in 2014, he was entitled to claim deductions – without an upper limit – on interest payments made for housing loan; but, from Assessment Year 2018-19, the deductions were limited to a maximum of Rs 2 lakhs. The introduction of the upper limit was challenged by the assessee as an unreasonable restriction on taxpayer rights. 

The Delhi High Court noted that assessee’s challenge to Section 71(3A) was founded on the impugned sub-section having a retroactive effect, i.e., applicability of a law/provision to a fact situation where assessee has vested rights. And a successful challenge to retrospectivity was only possible if a vested right of the assessee was disturbed by introduction of the impugned sub-section. The High Court noted that neither the previous nor the amended provision created an indefeasible right in the petitioner’s favor to set off the losses. (para 24) 

In the absence of a crystallised right, the Delhi High Court added, the assessee’s argument that impugned sub-section violates Article 14 does not hold water. The High Court’s reasoning was that the impugned sub-section does not take away the right of assessee to set off losses in toto, but only circumscribes it and imposes conditions. And further, a new class of taxpayers has not been created by the impugned provisions but only new conditions have been imposed on an existing class of taxpayers. Further, the State has provided a clear rationale for imposing the conditions, i.e., to prevent misuse of the provision by high-income taxpayers. Thus, the High Court concluded that the criteria of reasonable classification and intelligible differentia were met by the impugned sub-section and it was not violative of Article 14. The High Court added that the provision was not manifestly arbitrary either. Finally, the High Court also rejected the assessee’s challenge vis-à-vis Article 19(1)(g) and noted that the restriction was proportional and reasonable and not in violation of the assessee’s right to do business. 

Conclusion 

The assessee’s case that a vested right has been taken away by a retroactive amendment to Section 71 did not have much traction to begin with. The legislature has the discretion to limit the tax benefits, in this case, the deductions were restricted to a certain amount to prevent certain high-income taxpayers from misusing the provision. While the introduction of said limit also affected taxpayers such as the assessee in this case, it was still not a right of the assessee to claim such a deduction. The mere fact that the assessee could claim the deduction without any limit from 2014 until 2018, was not enough for it to claim a vested right for such deductions. And the Delhi High Court correctly dismissed the claim of violation of Article 14 and Art 19(1)(g) of the Constitution.     

Can Cash be Seized During GST Inspections? 

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Section 67 of the CGST Act, 2017 deals with powers of inspection, search, and seizure of officers and Section 67(2) specifically empowers the officers carrying out an inspection to seize goods and documents. Courts have arrived at divergent interpretations as to whether the power to seize goods and documents includes the power to seize cash – unaccounted or otherwise. Relying on the interpretive principle of ejusdem generis and the objective of GST laws, some Courts have held that power to seize goods includes power to seize cash while some Courts – relying on similar factors – have concluded otherwise. 

Short Profile of Section 67

Section 67, CGST Act, 2017 states that where a proper officer not below the rank of Joint Commissioner has reasons to believe that a taxable person has suppressed any transaction in relation to supply of goods or services, or has claimed ITC more than his entitlement or has engaged in the business of transporting of goods in a manner that has caused or is likely to cause tax evasion, he may authorize any officer of central tax to inspect places of business of such taxable person. Section 67(2) along with the two Provisos states as follows: 

Where the proper officer, not below the rank of Joint Commissioner, either pursuant to an inspection carried out under sub-section (1) or otherwise, has reasons to believe that any goods liable to confiscation or any documents or books or things, which in his opinion shall be useful for or relevant to any proceedings under this Act, are secreted in any place, he may authorise in writing any other officer of central tax to search and seize or may himself search and seize such goods, documents or books or things: 

Provided that where it is not practicable to seize any such goods, the proper officer, or any officer authorised by him, may serve on the owner or the custodian of the goods an order that he shall not remove, part with, or otherwise deal with the goods except with the previous permission of such officer: 

Provided further that the documents or books or things so seized shall be retained by such officer only for so long as may be necessary for their examination and for any inquiry or proceedings under this Act. (emphasis added)

The specific question that Courts have have faced is: whether cash is a ‘thing’ and can be seized by officers while carrying out inspections under Section 67? The text of Section 67 does not provide any definitive answer as it does not mention the word ‘money’ and the only way to include money in the scope of Section 67 is through a process of interpretation. While some Courts have relied on the definition of money, as included in CGST Act, 2017, this interpretive approach has not provided a definitive answer to the scope of Section 67 and the power of officers under the said provision.  

Cash is a ‘Thing’ 

The Madhya Pradesh High Court referred to the definitions of ‘consideration’, ‘business’, ‘money’ among others to hold that the term ‘thing’ used in Section 67 includes money. The High Court’s reasoning was that definitions are the key to unlock the objective of CGST Act, 2017. The High Court though never specifically articulated as to what objective of GST laws was served by allowing officers to seize cash belonging to a taxable person. The High Court further tried to reason that a statute must be interpreted in a manner that suppresses the mischief and advances the remedy. Again, here the High Court did not clearly state the mischief and remedy in question. Is the mischief tax evasion? And if so, is it warranted to rely on inconclusive definitions to interpret a provision which provides invasive powers to tax officers?   

The Kerala High Court akin to the Madhya Pradesh High Court also opined that Section 67(2) allows for seizure of cash including things under certain circumstances. However, the Kerala High Court took a different view of the objective of GST and observed that: 

The power of any authority to seize any ‘thing’ while functioning under the provisions of a taxing statute must be guided and informed in its exercise by the object of the statute concerned. In an investigation aimed at detecting tax evasion under the GST Act, we fail to see how cash can be seized especially when it is the admitted case that the cash did not form part of the stock in trade of the appellant’s business.          

The Kerala High Court added that the intelligence officer’s argument that there was huge amount of idle cash at the petitioner’s premises and it wasn’t deposited in the bank reveals the misgivings that officers have of their powers under GST laws. The High Court added that such arguments were only valid if the officer was attached to the Income Tax Department.

The above two decisions show how two High Courts are at odds as to their understanding of the objective of GST. While the Madhya Pradesh High Court reasoned that seizure of cash would serve the object of GST, the Kerala High Court opined that seizure of cash will not serve the purpose of detecting GST evasion especially if it is not part of stock in trade of the taxable person. Both High Courts are at fault in not specifically articulating the object of GST laws. Invoking the ‘object’ of GST laws in abstract and in general terms is not the best interpretive approach and is in fact erroneous. It is not prudent to assume that GST laws have only one objective. One could perhaps argue that inspection and seizure have one overarching objective, i.e., to ensure collection of the tax due and compliance with statutory provisions. But, surely, that is not the ‘only’ object of GST. To argue or even pre-suppose that the only object of GST is to facilitate maximum tax collection is a reductive view of tax laws.  

Further, it is important to highlight that the Kerala High Court casually concluded that Section 67 allows seizure of things including cash without specifically examining the text of the provision and its scope. The principles of strict interpretation of tax statutes were given a complete bypass by the Kerala High Court in observing that cash can be seized under Section 67.  

Cash is Not a ‘Thing’ 

At the other end of spectrum are two decisions of the Delhi High Court. The first case, also discussed here, relied on three major factors to conclude that cash is not included in the term ‘thing’ used in Section 67. The Delhi High Court observed that while Section 67 uses the term ‘goods’ which was a wide term, the caveat in the provision was that they should be liable for confiscation. Goods should be the subject matter or suspected to be subject matter of evasion of tax. Similarly, documents, books or things can be confiscated if in the opinion of the officer they shall be used or are relevant to any proceedings under the Act. 

The Delhi High Court highlighted the drastic nature of the powers of search and seizure and the need to adopt purposive interpretation. The High Court observed that powers under Section 67 have only been given to aid proceedings under CGST Act, 2017 and cash cannot be seized in exercise of powers under Section 67 on the ground that it represents unaccounted wealth. And that unaccounted wealth is the subject matter of IT Act, 1961. 

In the second case, the Delhi High Court also made similar observations and held that if there is no evidence that cash represents sale proceeds of unaccounted goods it cannot be seized under Section 67 of CGST Act, 2017. And that CGST Act does not permit the coercive action of forcibly taking cash from the premises of another person. 

The Delhi High Court’s approach is founded on sounder reasoning as it not only highlights the drastic and intrusive nature of powers of inspection, but also specifically identifies the purpose of these powers. To aid investigation under CGST Act, 2017 cash can be seized but only if represents the sale of unaccounted goods or a related offence under the statute. Cash cannot be seized merely because it is unaccounted income or wealth, which is the subject matter of IT Act ,1961.  

Way Forward 

The Madhya Pradesh High Court’s reasoning to support its conclusion that ‘thing’ includes ‘money’ lacks potency especially because of the High Court’s ignorance of the dictum that tax laws need to be interpreted strictly. By relying on definitions and other provisions, the High Court interpreted the scope of Section 67 which is not ideal. And unlike the Delhi High Court, the Madhya Pradesh High Court did not acknowledge the drastic nature of inspection and seizure powers and how in trying to suppress the mischief of tax evasion it is empowering tax officers beyond what the law specifically states. And any reliance on purposive interpretation is only defensible if the purpose of the statute and/or provision is clearly articulated and the interpretation is to suit that purpose. Reference to abstract objective of the statute is not helpful and leaves a lot to be desired. On balance, the approach adopted by the Delhi High Court – in both its decisions on the issue – is well-reasoned, pragmatic and hopefully will form the bedrock of jurisprudence in future.  

Lessons from NAA: Parameters of a Fair Dispute Resolution Body 

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The experience of transitioning from retail sales tax to VAT laws in 2002-03 provided a learning that a similar transition to GST may be used as a pretext by suppliers to artificially increase the prices of goods and services and profiteer at the expense of retail consumers. To protect consumer interest, an anti-profiteering provision was included in Section 171 of the CGST Act, 2017 which mandates that any reduction in tax rate or the benefit of ITC shall be passed on to the consumer by way of commensurate reduction in prices. And under the same provision the Central Government was empowered to either notify an existing authority or create a new authority to implement the mandate. And a new body in the form of National Anti-Profiteering Authority (‘NAA’) was duly constituted to implement the mandate of Section 171.  

NAA’s constitution via delegated legislation, opaqueness about its methodology to determine profiteering, absence of an appellate remedy, and the rhetoric filled nature of its orders created fertile grounds for arguments that it was an unconstitutional body. Recently, the Delhi High Court upheld the constitutionality of NAA though it provided the petitioners the liberty to challenge the individual orders of NAA on merits. I’ve previously examined the limitations and flaws in the judgment. In this article, I rely on NAA’s working and the Delhi High Court’s judgment to extrapolate some parameters which should be the touchstone to examine the efficacy and fairness of a tax dispute resolution body. 

Providing Appropriate Policy Guidance  

A crucial issue that characterises the administration of tax laws in India is the nature and extent of delegated legislation. Statutory provisions are consistently interpreted, re-interpreted by the executive via Circulars, Notifications, and Press Releases which are also constantly issuing instructions that require attention and compliance by taxpayers. The content of several such secondary legislative instruments is not only far removed from the parent statute, but the policy is also rarely encoded in the statute. The issue of delegated legislation, and its legal scope, becomes even more acute when the statute does not provide adequate policy guidance to the decision-making body creating a danger of the body interpreting its mandate beyond the confines of the parent statute. And more crucially, leaving the stakeholders clueless about the scope of jurisdiction of the decision-making body and the nature of disputes that it can adjudicate. 

The fact that NAA did not contain adequate policy guidance was one of the petitioner’s main contentions before the Delhi High Court and rightly so. While Section 171 does state the broad compliance that suppliers need to adhere, it provides no insight into the nature and scope of of the body that is empowered to implement the mandate. NAA’s and the Delhi High Court’s opinion was that Section 171 is a ‘self-contained code’; but, interpreting the broad mandate of Section 171 as an adequate policy direction is not ideal. Certainly not from the perspective of taxpayers. The jurisdiction and mandate of the decision-making body needs to be prescribed more precisely and preferably by the legislature or executive. The body in question should not have the authority to determine its own jurisdiction and procedure which it can interpret in a self-serving manner. 

Creating an Accountability Mechanism

Creating accountability mechanisms for judicial or quasi-judicial bodies has been a tough road in India. For example, we are yet to determine the appropriate method and manner of determining the accountability of judges of High Courts and the Supreme Court. One way the accountability invariably gets attached to judicial or quasi-judicial bodies is through the process of appeals against their orders. It allows the petitioner an opportunity to make additional or better arguments, at the same time another body can scrutinize the order on the touchstone of fairness, interpretive coherence, and other similar parameters. In the absence of a statutory right to appeal for the parties, the risk of perverse orders and opaque functioning increases dramatically. For example, in NAA’s case the parties were not provided a statutory right to appeal against its orders and could only approach the High Court via writ petitions which is accompanied with its own limitations. NAA could only be supervised by the GST Council, which if the minutes of its meetings as anything to go by, treated its job of supervising NAA superficially.  

One consistent and oft-repeated theme in NAA’s orders was the taxpayers demanding that NAA makes its methodology for calculating profiteering public and NAA replying that it had issued a document – which actually did not state the methodology – and regardless, calculating amount of benefits that needs to be passed to customers wasn’t a tough or complex task and taxpayers could do it themselves. And yet when taxpayers challenged NAA’s constitutionality on the ground that it lacked a judicial member, etc., NAA replied that it was an ‘expert body’ involved in complex work of determining profiteering and need not be compared to quasi-judicial or judicial bodies. Opaqueness and inconsistencies in NAA’s orders were abound but there was no superior or appellate authority that could scrutinize its decisions and present and alternate or a modified view of the facts and dispute in question. It is one thing to say that the constitutionality of a body cannot be challenged on the ground that there is no right to appeal against its orders, but the implications of the absence of such a right extend beyond the constitutionality argument and tax administration needs to be mindful of them.    

Defined Identity as an Adjudicatory Body or a Regulator  

Taxation law primarily concerns itself with the relationship of State with its residents with the former exercising its coercive power to extract financial resources for its sustenance. The disputes about the scope of the State’s powers are typically adjudicated by classical dispute resolution bodies, mostly successfully. In mediating the relationship of the State and its residents qua their tax obligations, the need for a regulator rarely presents itself. Thus, while sectoral regulators in other spheres such as banking law, securities law, etc. is relatively common, we do not witness similar bodies in tax law universe. Irrespective, when novel or ‘atypical’ bodies are created for administration of tax laws, it is incumbent on the legislature to be precise in stating the rationale and need for the body. Else, not only are the stakeholders confused, but the ‘atypical’ body itself suffers from an identity crisis and looks to fulfil the mandate of both a traditional dispute resolution body and a sectoral regulator and is frequently unable to do justice to neither.

In the case of NAA, it is still unclear if it was intended to be a dispute resolution body or a regulator. But one thing we do know that NAA fancied itself as an expert body and a sectoral regulator and frequently drew analogy of its mandate with SEBI. The analogy was always flawed because SEBI is creation of a dedicated statute, has a Board, and separate dispute resolution bodies while NAA, created via delegated legislation, was a coalesced body consisting of a few technical members which adjudicated on disputes and complaints relating to profiteering. The investigate arm of NAA, DGAP, was answerable and bound by all directions of NAA removing all and any pretence of checks and balances in its operation. There was no clear identification of its role beyond the general mandate contained in Section 171 and NAA itself did not satisfactorily fulfil the role of either a regulator or a dispute resolution body.    

De Minimis Requirement of Reasoned Orders 

In respect of taxation law, the absence of well-reasoned orders is a widespread symptom that affects advance ruling authorities, tribunals and to some extent even High Courts and the Supreme Court. While speaking orders are a minimum requirement or at least an expectation from any judicial or quasi-judicial or for that matter any administrative body, there is a need to ensure that the orders satisfy the minimum standards of a reasoned order. This can be done through careful selection of personnel and/or ensuring accountability mechanisms in form of an appellate body as suggested above. 

While people like me and more skilled than me examine and critique the various such orders, there was something fundamental amiss in the NAA’s orders: skill of writing a judgment. The Delhi High Court in its recent judgment has incorrectly noted that NAA was only a fact-finding body and did not adjudicate on rights and liabilities. NAA not only heard arguments of the taxpayers who were defending their conduct, but also of complainants, and adjudicated on their rights and obligations. But in most of its orders, one found a lack of engagement with the various arguments that the parties raised and instead a generous dose of rhetoric, stonewalling, and sidestepping with substantive arguments. NAA interpreted the relevant statutory provisions were interpreted pedantically and did not even acknowledge important arguments when arriving at its conclusions, violating basic tenets of judgment writing. It is important that vital tax law matters are not decided in a whimsical fashion with disregard to taxpayer rights and a well reasoned judgment is provided by the authorities in question.  

Conclusion 

The above are by no means exhaustive or even necessary conditions to design a fair and transparent tax dispute resolution body. I’ve only picked cues from the working of NAA and the arguments presented by petitioners before the Delhi High Court to make a tentative case for designing dispute resolution bodies under the tax law umbrella. I’ve highlighted some of the above parameters based on my own previous assessment and observation of the NAA’s working and how, in my view, there was a wide bridge between the laudable objectives of setting up an anti-profiteering regime under GST and the NAA implementing the said mandate in an opaque manner via questionable orders that barely met the minimum requirements of respecting taxpayer rights and administering tax justice.  

NAA is Constitutional, Individual Orders Can be Challenged on Merits: Delhi HC

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Introduction 

This post focuses on the Delhi High Court’s recent judgment upholding the constitutionality of NAA, a statutory body established under Section 171, CGST Act, 2017. I’ve examined the working of NAA in detail here and here, where I’ve highlighted the problematic aspects of NAA’s various orders. In this post, I will summarize the petitioner’s arguments and the State’s response. At the outset, it is important to highlight that NAA’s functions and powers have been transferred to Competition Commission of India w.e.f. 01.12.2022. While the petitions challenging the constitutionality of NAA have been pending before the Delhi High Court for a while now, a decision on the constitutionality of NAA after it has passed hundreds of orders and has practically ceased to function is also an instance of how tax justice for taxpayers is elusive and littered with delays, even under a ‘transformative’ and ‘game changing’ legislation such as GST.  

The Delhi High Court, in upholding the constitutionality of NAA, has not broken any new ground. In fact, it has blunted various persuasive arguments of the petitioner’s by choosing to adopt a pedantic and literal interpretive approach that saves the face of NAA and paves path for almost unfettered delegated legislation in tax legislations. The High Court has used similar vocabulary as NAA deployed in its orders to defend its constitutionality. The High Court has floundered in engaging with the true import and scope of petitioner’s arguments and instead has provided them the concession of challenging the NAA’s individual orders on merits which is at best a half-baked solution to a constitutional challenge. 

The centrepiece of the petitioner’s case was that Section 171, CGST Act, 2017 and Rules 122, 124, 126, 127, 129, 133, 134 of CGST Rules, 2017. The notices and orders of NAA imposing penalties on taxpayers were also challenged, but the constitutional validity of the aforesaid provisions was the main subject of the impugned decision. And the constitutionality of the provisions and the related arguments also are the focus of this post.  

Section 171(1), CGST Act, 2017 states that any reduction in rate of tax on any supply of goods or services or the benefit of input tax credit shall be passed on to the recipient by way of commensurate reduction in prices. Section 171(2) empowers the Central Government, on recommendations of the GST Council, to constitute an authority or empower an existing authority to examine if the mandate of sub-section (1) is being followed by the registered taxpayers. It was in exercise of its powers under Section 171(2) that the Central Government constituted NAA.        

The relevant Rules under challenge inter alia provided that NAA shall consist of one Chairperson and four technical members, it shall have the power to determine the procedure and methodology to determine if the mandate of Section 171(1) is being adhered to, amongst other relevant details about initiation and conduct of proceedings by NAA. 

Arguments 

The petitioner’s arguments traversed a wide array of issues. The challenge to Section 171 involved arguments that Section 171 prescribed a financial extraction akin to a tax which cannot be levied via subordinate legislation; Section 171 suffered from the vice of excessive delegation as it delegates essential legislative functions to the Government and contains no legislative or policy guidance as to how NAA is to exercise its powers; and further while Section 171 delegates to the Government the power to determine the powers of NAA, the Government via Rule 126 has further delegated to the NAA the power to determine the methodology and procedure to adjudicate on violation of Section 171. The petitioners also contended that the term ‘commensurate’ has not been defined under Section 171 and meaning of profiteering hinges on the phrase ‘commensurate reduction in prices’ resulting in a circular reasoning in the provision. Section 171 was accordingly challenged as being violative of Article 14 and 19(1)(g). 

The other leg of challenges involved the opaque and uncertain methodology adopted by NAA in determining the violation of Section 171. And that in the absence of any legislative guidance, NAA acted arbitrarily demanding taxpayers reduce prices without disclosing specifics of its methodology. The petitioner highlighted the methodology adopted by NAA in profiteering complaints involving real estate companies to underline the arbitrariness in NAA’s approach. The petitioner also compared India’s anti-profiteering mechanism with that of Malaysia and Australia to underline their argument that the anti-profiteering mechanism in India was a price control mechanism interfering with their right to determine prices of goods and services.  

Petitioners further highlighted that there was no time prescribed for taxpayers to reduce prices, there was no judicial member in NAA even though it performed a quasi-judicial function, taxpayers did not have a statutory right to appeal against NAA’s orders. And that NAA did not allow any other method to pass on benefits of reduced taxes except via reduction in prices. For example, altering the sizes of products to pass on benefits of reduced taxes to customers had been rejected by NAA except in one case. 

The State justified the legal framework of NAA as constitutional. The arguments were, to a large extent, comparable to the rhetoric that NAA deployed in its orders in justifying its constitutionality. Some of the arguments that the State adopted were: Section 171 was enacted in pursuance of the Directive Principles of State Policy under Articles 38, 38(b), and 38(c) which inter alia mention economic justice and prevention of concentration of resources in a few hands. Section 171 was within the legislative competence of the Union under Article 246A of the Constitution. The State interpreted Section 171(1) differently from that of the petitioners and argued that it provided amply policy direction. It was argued that Section 171(1) clearly states that ‘any reduction’ in tax rates must be passed to recipients by ‘commensurate reduction in prices.’ And that only minutiae had been left for delegated legislation. The State defended NAA’s powers to determine the procedure and methodology stating that it clearly flows from Section 171 and this not a case of excessive delegation.

The State also challenged petitioner’s argument that only reduction of prices cannot be the sole method via which the taxpayers can adhere to the mandate of Section 171. The State argued that taxpayers should be allowed to ‘only’ reduce price in compliance of Section 171 and NAA is justified in interpreting the provision which is least prone to tax avoidance as allowing other methods may involve manipulation by taxpayers. 

The State argued that Section 171 did not provide for a price control mechanism as argued by petitioners and it only influenced the indirect price component and did not restrict the freedom of suppliers to determine the price. And that NAA was only indulging in fact finding exercise and absence of a judicial member was not fatal to its orders. Neither can absence of a time for which taxpayers are to maintain reduced prices can be the basis of challenging the constitutionality of NAA. 

I’ve tried to summarise the important arguments raised by both sides; but, in my view, the core challenge was of excessive delegation. Section 171 does not provide legislative and policy guidance to NAA and Rule 126 questionably allows NAA to determine its own procedure and methodology, a methodology which the State argued it ‘may’ determine but was not obligated to determine. The issues of excessive delegation and opaqueness/arbitrariness in the NAA’s functioning were the overarching themes in the arguments. And State defended the constitutionality of Section 171 by interpreting it in a manner as if it was the most precise and comprehensive statutory provision. 

Delhi High Court Upholds NAA’s Constitutionality 

The Delhi High Court gave multiple reasons for upholding the constitutionality of NAA. The High Court dutifully cited the principles that presumption of constitutionality guides adjudication of constitutionality of a provision and that in matters of economic laws the legislature has a wide latitude, both principles duly entrenched in Indian jurisprudence via a long line of judicial precedents. Further, the High Court observed that GST heralded a new indirect tax regime in India to reduce the cascading effect of multiple indirect taxes. On these broad and abstract principles there is little to find fault with the High Court’s approach. It is the specifics that make this judgment deficient in reasoning. I highlight some of the deficiencies below.  

To begin with, one of petitioner’s argument was that the key phrases used in Section 171 ‘commensurate’ and ‘profiteering’ are defined in reference to each other, a case of circular reasoning. The High Court invoked the State’s reference to Directive Principles of State Policy, the objective of GST to reduce cascading effect of taxes, and the dictionary meaning of ‘commensurate’ to conclude: 

Section 171 of the Act, 2017 mandates that whatever is saved in tax must be reduced in price. Section 171 of the Act, 2017 incorporates the principle of unjust enrichment. Accordingly, it has a flavor of consumer welfare regulatory measure, as it seeks to achieve the primary objective behind the Goods and Services Tax regime i.e. to overcome the cascading effect of indirect taxes and to reduce the tax burden on the final consumer. (para 100)

Again, what the Delhi High Court says here is correct, but it does not address the petitioner’s simple argument that in absence of precise phrases or clear definitions the provision suffers from arbitrariness as it allows NAA complete discretion to interpret and implement the provision. Also, the constitutionality of a provision cannot be defended by reference to its intended objectives. The fact that Section 171 was enacted in reference to Directive Principles of State Policy or for consumer protection is irrelevant to the argument that it suffers from arbitrariness. The High Court places undue emphasis on the intent of the provision to adjudicate its constitutionality and sidestepped the core issue of the provision lacking sufficient policy guidance.  

The second questionable aspect of the judgment was in the Delhi High Court’s conclusion that Section 171 contains a clear legislative policy and does not delegate essential legislative functions. And the High Court added that not only does Section 171 prescribe a clear legislative policy it also contains all the navigational tools, checks and balances to guide the authority tasked with its workability. Section 171 creates a substantive obligation on taxpayers to not profiteer, but the authority to implement the mandate, NAA, has under the relevant rules been given the power to determine its own procedure, determine the scope of complaints and investigation, determine the methodology to determine profiteering – without being under an obligation to determine it or disclose it – which cannot be reasonably traced to the statutory provision. And a statutory right to appeal against NAA’s order is absent. In such a scenario, the High Court’s interpretation that Section 171 contains sufficient policy guidance, imbibes Section 171 with more substance than it contains. 

Further, Section 171(3) states that the authority, i.e., NAA shall exercise such  powers and discharge such functions as may be prescribed. And under Rule 126, the Central Government empowers NAA to determine the methodology and procedure for determining if the taxpayers are passing on benefits of reduced taxes to consumers. It is indeed difficult to not see that the delegated legislation function assigned to the Central Government was further passed to NAA leading to a situation where NAA framed Rules to determine its own powers and determine the methodology to determine profiteering. In my view, this is a clear case of impermissible delegated legislation where an authority has been entrusted to self-determine scope of its own powers circumscribed by a thinly worded statutory provision. Also, it is worth pointing out that the Methodology that NAA prescribed in exercise of its powers was not a methodology that reliably informed the taxpayers of how the reduced prices are to be calculated and unreasonably suggested that increased costs of compliance for taxpayers are immaterial to determine compliance with Section 171. The Delhi High Court’s observations on this issue are: 

Moreover, as per Rule 126 NAA ‘may determine’ the methodology and not ‘prescribe’ it. The substantive provision i.e. Section 171 of the Act, 2017 itself provides sufficient guidance to NAA to determine the methodology on a case by case basis depending upon peculiar facts of each case and the nature of the industry and its peculiarities. Consequently, so long as the methodology determined by NAA is fair and reasonable, the petitioners cannot raise the objection that the specifics of the methodology adopted are not prescribed. (para 126) 

What is the difference between ‘determining’ and ‘prescribing’? NAA, in its orders has observed that it is not obligated to prescribe a methodology since different fact situations require different approaches. And it is only supposed to determine the methodology as per the facts, an approach which the Delhi High Court endorses in the above paragraph. But, is it justifiable to rely on the said interpretation to conclude that the methodology need not be revealed to the taxpayers?

The above observations of the Delhi High Court where it almost completely agreed with the State’s arguments and in fact NAA’s own defence of its own constitutionality, pretty much sealed the case for the petitioners. The High Court though concluded that all other arguments of the petitioners’ also did not have a persuasive value. For example, the High Court observed NAA’s investigations could be validly extended beyond the scope of original complaint (para 159), time limit to complete investigations were only directory and not mandatory despite use of the word ‘shall’, (para 158 )and that NAA was a fact-finding body and absence of judicial members was not fatal to its constitutionality. (para 146) The last finding collapses on an examination of NAA’s function and High Court’s own interpretation of Section 171 as a provision that creates a substantive obligation on taxpayers. (para 100) Clearly, in implementing Section 171, NAA is adjudicating on rights and obligations of consumers and taxpayers and yet NAA’s functions were interpreted to be confined to mere fact-finding exercise. While the actual fact-finding was undertaken by the investigative arm of the NAA, i.e., DGAP. And if a body like NAA has powers to impose penalties and cancel registrations, do they not impact taxpayer obligations? How is it defensible to accord it a status of mere fact-finding body performing functions of expert determination? 

Finally, while the State and the Delhi High Court were correct in stating that absence of a right of appeal is not fatal to the constitutionality of a body, it needs to be stated that the absence of such a right should have made the High Court more cautious that there are enough checks and balances to protect taxpayer rights at the NAA level. Instead, by upholding the arguments that investigation by DGAP can traverse beyond the subject matter of complaint, the time limit to complete investigation is directory in nature and otherwise misreading the mandate and nature of NAA, the Delhi High Court has granted a wide leeway to the State in matters of anti-profiteering in particular and generally in drafting tax legislations with unfettered delegated legislative powers to the executive.

Conclusion 

I’ve argued previously that NAA adopted self-serving interpretation of Section 171, relied on opaque and arbitrary methodology to adjudicate complaints of profiteering and that its manner of creation was tinged with unconstitutionality. The Delhi High Court has concluded otherwise, though as I’ve highlighted above, its reasoning and interpretive approaches are not beyond reproach. The concession that the petitioners have received from the Delhi High Court is that NAA adopted a flawed methodology in adjudicating complaints of profiteering in real estate projects. The High Court observed that NAA relied on the difference between ratio of ITC and turnover in pre and post-GST periods, but there is no direct co-relation between ITC and turnover. And that varying expenses and nature of construction activity should have been considered by NAA. But, the impact of these observations will only be revealed when specific orders of NAA are challenged on merits. (para 129) Since a bulk of NAA’s orders related to the real estate sector, this is not insignificant, but still does not detract from the High Court’s flawed approach in engaging with the arguments on constitutionality of NAA.            

Delhi HC Disallows Disclosure of PM Cares Fund Documents Under RTI Act, 2005

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The Delhi High Court in a recent judgment allowed the Income Tax Department’s appeal against the Central Information Commission’s (‘CIC’) order directing the respondent be provided copies of all documents submitted by PM Cares Fund to obtain exemption under Section 80G of the IT Act, 1961. The Delhi High Court’s main reason was that the IT Act, 1961 was a special legislation vis-à-vis the RTI Act, 2005 and provisions of former would prevail in matters relating to disclosure of information of an assessee. The High Court concluded that information relating to an assessee can only be disclosed by the authorities prescribed under Section 138 of IT Act, 1961 and CIC does not have jurisdiction to direct furnishing of information of an assessee. 

Brief Facts 

PM Cares Fund is a charitable fund which was established to provide relief to the public during COVID-19 and other similar emergencies. The Income Tax Department had granted exemption to PM Cares Fund under Section 80G of the IT Act, 1961 on 27.03.2020. The respondent wanted to know the exact procedure followed by the Income Tax Department in granting a swift approval to the PM Cares Fund and whether any rules or procedure were bypassed by the Income Tax Department in granting the approval. On 27.04.2022, the CIC via its order had directed that the respondent be provided copies of all the documents submitted by PM Cares Fund in its exemption application and copies of file notings approving the application. The Income Tax Department approached the Delhi High Court challenging the CIC’s order. 

The Income Tax Department’s primary contentions were that information of an assessee relating to income tax can only be sought under Section 138, IT Act, 1961 and not RTI Act, 2005. And that information sought by the respondent is exempt under Section 8(1)(j) of RTI Act, 2005, i.e., it is personal information, and further that CIC could not have directed disclosure of information without providing an opportunity of hearing to PM Cares Fund. (para 2-5)

The respondent, on the other hand, argued that the non-obstante clause in Section 22, RTI Act, 2005 ensures that it will have an over-riding effect over other statutes for the time being in force. Further that if there are two methods for obtaining information, there was no bar in seeking information under either of the methods. The respondent also argued that the bar of Section 8(1)(j) would not apply as the information sought is not personal information but there is an overriding public interest in disclosing the information. (para 6)    

Reasoning and Decision     

The Delhi High Court’s primary reasoning related to the ‘inconsistency’ between the IT Act, 1961 and RTI Act, 2005 due to non-obstante clauses contained in both the statutes. It is apposite to cite Section 138 in entirety to analyse the the Delhi High Court’s reasoning.

138. (1)(a) The Board or any other income-tax authority specified by it by a general or special order in this behalf may furnish or cause to be furnished to—

  (i) any officer, authority or body performing any functions under any law relating to the imposition of any tax, duty or cess, or to dealings in foreign exchange as defined in clause (n) of section 2 of the Foreign Exchange Management Act, 1999 (42 of 1999); or

 (ii) such officer, authority or body performing functions under any other law as the Central Government may, if in its opinion it is necessary so to do in the public interest, specify by notification in the Official Gazette in this behalf,

any such information received or obtained by any income-tax authority in the performance of his functions under this Act, as may, in the opinion of the Board or other income-tax authority, be necessary for the purpose of enabling the officer, authority or body to perform his or its functions under that law.

(b) Where a person makes an application to the Principal Chief Commissioner or Chief Commissioner or Principal Commissioner or Commissioner in the prescribed form48 for any information relating to any assessee received or obtained by any income-tax authority in the performance of his functions under this Act, the Principal Chief Commissioner or Chief Commissioner or Principal Commissioner or Commissioner may, if he is satisfied that it is in the public interest so to do, furnish or cause to be furnished the information asked for and his decision in this behalf shall be final and shall not be called in question in any court of law.

(2) Notwithstanding anything contained in sub-section (1) or any other law for the time being in force, the Central Government may, having regard to the practices and usages customary or any other relevant factors, by order notified in the Official Gazette, direct that no information or document shall be furnished or produced by a public servant in respect of such matters relating to such class of assessees or except to such authorities as may be specified in the order. (emphasis added)

The non-obstante clause of RTI Act, 2005, contained in Section 22, states as follows: 

The provisions of this Act shall have effect notwithstanding anything inconsistent therewith contained in the Official Secrets Act, 1923 (19 of 1923), and any other law for the time being in force or in any instrument having effect by virtue of any law other than this Act. (emphasis added)

In my view, the Delhi High Court’s framing of the issue – non-obstante clauses in IT Act, 1961 and RTI Act, 2005 are inconsistent and seemingly in conflict with each other – is erroneous. The non-obstante clause of Section 138(2), IT Act, 1961 overrides only Section 138(1) while Section 22, RTI Act, 2005 overrides every other law for the time being in force. Section 138(2) empowers the Central Government, by an order notified in the Official Gazette, to circumscribe or prevent powers of officers to disclose information under Section 138(1). Section 138(2) cannot be read so say that IT Act, 1961 will override all other laws in matters relating to disclosure of information relating to an assessee. In fact, it is Section 22 of RTI Act, 2005 which states that it will override all other statutes. While both provisions use non-obstante clauses, their scope and effect is different and there is no direct conflict of the manner suggested by the High Court.   

By framing the issue as that of ‘conflict’ of two non-obstante clauses, the Delhi High Court then had to necessarily answer as to which Act would prevail. The High Court was of the opinion that IT Act, 1961 is a special legislation governing all provisions and laws relating to income tax and super tax in the country. While RTI Act, 2005 is a general legislation to enable citizens to exercise and enable their right to information. The High Court did not give too much importance to the dictum that latter legislation prevails over the earlier legislation. The High Court opined that the date on which statutes come into force cannot be the sole deciding factor in determining the application and overriding effect of a legislation, and that in its opinion it is more important that the special legislation, i.e., IT Act, 1961 should prevail over the general legislation, i.e., RTI Act, 2005. Which factors need to be accorded more importance is of course is the discretion of the judges. In this case, the High Court was of the view that the dictum of special legislation should prevail general legislation is of primary importance; the question though arises is: is it a straightforward answer that IT Act, 1961 is a special legislation and RTI Act, 2005 a general legislation? 

The Delhi High Court cited some precedents to this effect which have held that whether a statute is a general or special statute depends on the principal subject-matter and particular perspective. And a legislation can be a general legislation for one subject matter and a special legislation for others. For example – and as cited by the High Court in its judgment – in LIC v DJ Bahadur case, Supreme Court had observed that in matters of nationalisation of LIC the LIC Act is the principal legislation while in matters of employer-employee dispute, the Industrial Disputes Act, 1948 is the principal legislation. Applying this dictum, the High Court made a defensible conclusion that in matters relating to disclosure of information of assessees relating to income tax, IT Act, 1961 is the principal legislation while RTI Act, 2005 is the general legislation.

Finally, the Delhi High Court made another observation that, in my view, is not an accurate reading of Section 138. After noting that Section 138, IT Act, 1961 provides a special procedure for disclosure of information, the High Court observed: 

Applying the said analogy to the facts of the present case, Section 138(1)(b) of the IT Act which specifically states that information relating to an assessee can only be supplied subject to the satisfaction of Principal Chief Commissioner or Chief Commissioner or Principal Commissioner or Commissioner, as the case may be, would prevail over Section 22 of the RTI Act. (emphasis added) (para 18) 

The inaccuracy of the Delhi High Court’s observation is in supplying the word ‘only’ to Section 138. It is trite that in tax jurisprudence, that provisions of a tax statute are to be construed strictly. And strict interpretation of provisions of a tax statute requires that a provision be read as is, without adding or subtracting any words from it. The Delhi High Court in adding the word ‘only’ to Section 138 (1)(b) departed from the doctrine of strict interpretation of tax statutes and for no good reason. The observation that a special legislation – IT Act, 1961 –  prevails over the general legislation – RTI Act, 2005 – cannot form basis of the conclusion that information can ‘only’ be provided under the special statute. A bare reading of Section 138 does not support the High Court’s interpretation.  

Conclusion 

The Delhi High Court’s observations in the impugned case are on shaky grounds. The only defensible part of the judgment is that a special statute prevails over a general statute, but as I argue that issue only arises because the High Court erred in framing the headline issue as that of conflict of non-obstante clauses, when the non-obstante clauses in question have differing scopes and do not necessarily clash. The result is that PM Cares Fund continues to enjoy a certain level of opaqueness that is, in my view, not in public interest. And for the meanwhile, Delhi High Court’s deficient reasoning has provided the opaqueness a convenient legal cover.

Tax Residency Certificate and Stakes in the Blackstone Case – II

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In the first part of this Article, I detailed Delhi High Court’s decision in the Blackstone case. This part focuses on the immediate and larger issues that are likely to be considered by the Supreme Court in its decision on the appeal against the Delhi High Court’s decision. The central issue in the appeal is likely to be the eligibility for tax benefits under a DTAA, and as one witnessed in the Azadi Bachao case, any legal opinion on the issue will navigate both domestic and international tax law.     

Interpretation of DTAAs

To begin with, DTAAs, a legislative instrument agreed to and signed by two contracting states, needs to be interpreted to decipher the agreement between the two sovereign states. The Delhi High Court had to contend with two issues relating to DTAA: whether Article 13 incorporated the concept of beneficial ownership and the conditions imposed by the LOB clause. With regards to the former, the High Court compared Article 13, as it stood at the relevant time, with other provisions of the DTAA, i.e., Articles 10, 11, and 12 which provide for taxation of dividends, interest, and royalties respectively. The High Court correctly pointed out that in India-Singapore DTAA the concept of beneficial ownership attracted taxation only qua Articles 10,11, and 12 which expressly provided for it and beneficial ownership cannot be read into Article 13 in the absence of any mention of the same in the latter. (para 61)    

The Delhi High Court was also unequivocal in its conclusion that the LOB clause included in Article 24A of the India-Singapore DTAA provides for an objective and not a subjective test. As per the LOB clause, only companies that are not shell companies can claim benefits of the India-Singapore DTAA and to establish if a company is not a shell company there is an expenditure test. The High Court observed that the audited financial statement of Blackstone Singapore and independent chartered accountant certificate established that the expenditure of the company is above the prescribed limit. The High Court rejected the Income Tax Department’s view that Blackstone Singapore was a shell company by observing that all expenditure incurred by it in Singapore, direct and indirect, will be considered an operational expense. The Income Tax Department’s attempt to bifurcate expenses into operational and other expenses was rejected. (para 70) 

In interpreting both Article 13 and LOB clause in Article 24A of the India-Singapore DTAA, the Delhi High Court adopted a good faith interpretation of the treaty. One could also suggest that a strict interpretation was adopted. Either way, it is the acceptable and welcome interpretive approach as it avoids reading into the DTAA phrases and expressions that are not expressly included in its text. Particularly, notable are the Delhi High Court’s observations that LOB clause incorporates an objective test. If the expenditure threshold is met and the expenses are verified, the Income Tax Department cannot form a subjective opinion that the expenses are not operational expenses.   

The interpretation of both the above provisions is likely to be tested before the Supreme Court. Though the Delhi High Court’s opinion stands on firm footing, it is difficult to ascertain how the Supreme Court will approach the same issues. 

Validity of TRCs and Relevance of Azadi Bachao Ratio 

From a domestic tax law perspective, an issue that needs determination is the mandate and requirements of Sections 90(4) and 90(5). As I’ve mentioned in the first part of this article, Section 90(4) states than an assessee, who is not a resident of India, is not entitled to claim any tax relief under DTAA unless it obtains a TRC from the country of residence. And Section 90(5) states that an assessee referred to in sub-section (4) shall provide such other documents and information, as may be prescribed. Both the sub-sections, in no manner, state that TRC is a necessary but not a sufficient condition to claim DTAA benefits. This interpretation is not only borne out by the bare text of the provisions, but also their legislative history. The Delhi High Court, like the Punjab and Haryana High Court, arrived at a correct conclusion that the legislative history of these provisions does not support the Income Tax Department’s argument that it can go behind the TRC issued by a contracting state.   

Further, the appeal will necessarily involve engagement with the Supreme Court’s ratio in Azadi Bachao case. The Azadi Bachao case settled various issues, the relevant portion of the ratio for the purpose of our discussion here are: under Section 119, IT Act, 1961, CBDT possesses the power to issue a Circular stating that TRC issued by Mauritius would be a sufficient evidence of the assessee’s residence status. While the Circular was issued in the context of India-Mauritius DTAA, there is no legal reason why a similar approach would be invalid in the context of India-Singapore DTAA. Especially, as the Delhi High Court noted, the Press Release of the Ministry of Finance issued in 2013 also adopted a similar position. And the Press Release described the general legal position and not in context of India-Mauritius DTAA.   

Nonetheless, the arguments about the scope and mandate of CBDT have reared their head often and will perhaps do so in the future. And the impugned appeal provides an opportunity to raise the issue about CBDT’s powers again. But we do need an understanding beyond the simple dictum that CBDT’s Circulars are binding on the Income Tax Department. If and to what extent do the assessing officers possesses the mandate to scrutinize returns and question the TRC still does not have a straightforward answer. Does CBDT Circular and Azadi Bachao case foreclose any possibility of an assessing officer questioning the TRC? The Supreme Court, in Azadi Bachao case, was categorical in its conclusion that the Circular No. 789 issued by CBDT – mandating acceptance of TRC issued by Mauritius – in reference to India-Mauritius DTAA was within the parameters of CBDT’s powers under Section 119, IT Act, 1961. And the said Circular did not crib, cabin or confine the powers of the assessing officers but only formulated ‘broad guidelines’ to be applied in assessment of assessees covered under the India-Mauritius DTAA.    

Both the above aspects in respect of domestic tax law, specifically IT Act, 1961 will likely be argued and examined in the impugned appeal. The nature and extent of their influence will only be known in due time. 

Way Forward 

Prima facie, there is little to suggest that the Delhi High Court’s view deviates from the accepted interpretation of the Azadi Bachao case and the guiding principles of tax treaty interpretation. Neither is the Delhi High Court’s understanding of legislative history of Section 90(4) and 90(5) incorrect. The Supreme Court can and may have other views. Irrespective of the outcome, the arguments advanced by both parties, the reasoning and approach of the Supreme Court and the outcome of the case will impact Indian tax jurisprudence in multiple ways.  

Tax Residency Certificate and Stakes in Blackstone Case – I

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In BlackStone case framed the following as the main issue for consideration: whether the Income Tax Department can go behind the tax residency certificate (‘TRC’) issued by another jurisdiction and issue a re-assessment notice under Section 147, IT Act, 1961 to determine the residence status, treaty eligibility and legal ownership. In this article, I will focus only on the issue of TRC. In the first part of this article, I provide a detailed explanation of the case and in the second part I highlight the stakes involved in the case given that the Supreme Court has decided to hear an appeal against the Delhi High Court’s judgment.  

Facts 

Blackstone Capital Partners (Singapore) VI FDI Three Pte. Ltd (‘Blackstone Singapore’) acquired equity shares of Agile Electric Sub Assembly Private Limited, a company incorporated in India in two tranches on 16.08.2013 and 31.10.2013. In the Assessment Year 2016-17, Blackstone Singapore sold all the equity shares. In its return of the income, Blackstone Singapore claimed that the capital gains earned by it on sale of shares were not taxable in India as per Article 13(4) of the India-Singapore DTAA.  The import of Article 13(4) was that capital gains earned by a resident of India or Singapore were taxable only in its resident state. Since Blackstone Singapore possessed a TRC issued by Singapore, it claimed tax exemption in India on its capital gains under the India-Singapore DTAA. On 08.10.2016, Blackstone Singapore’s return was processed with no demand by the Indian Income Tax Department. 

On 31.03.2021 a notice was issued to Blackstone Singapore under Section 148, IT Act, 1961 (reassessment notice). On 28.04.2021 Blackstone Singapore filed its return and requested reasons for re-opening the assessment. Eight months later, on 02.12.2021 Blackstone Singapore was provided reasons for re-opening the case. The primary reason, as per the Income Tax Department, was that Blackstone Singapore was part of US-based management group and it appeared that the source of funds and management of affairs of Blackstone Singapore was from US. And there was an apprehension that Blackstone Singapore was not the beneficial owner of the transaction. The Income Tax Department was claiming that beneficial owner of the shares was Blackstone US, with Blackstone Singapore being a conduit/shell company incorporated to avail tax benefits under the India-Singapore DTAA.  

Blackstone Claims Tax Exemption 

Blackstone Singapore’s case for tax exemption of capital gains was predicated on the following: 

First, Blackstone claimed that it was entitled to claim tax exemption under Article 13(4) of the India-Singapore DTAA. Article 13(4) of the India-Singapore DTAA originally stated that the gains derived by resident of a Contracting State from the alienation of any property other than those mentioned in paragraphs 1,2 and 3 of this Article shall be taxable only in that State. In simple terms it meant that capital gains of a resident of Singapore or India were taxable only in its resident state. Since Blackstone possessed a valid TRC from Singapore, it was as per Article 13(4), not liable to pay tax in India, but in the country of its residence. 

Second, Blackstone relied on the chequered history of the India-Mauritius DTAA. In reference to the India-Mauritius DTAA, CBDT had issued a Circular No. 789 on 13.04.2000 stating if a TRC was issued by the Mauritian authorities, it would constitute sufficient evidence for accepting the status of residence as well as beneficial ownership for applying the DTAA accordingly. And the validity of the said Circular was upheld by the Supreme Court in the Azadi Bachao case and its ratio subsequently approved in the Vodafone case. Analogously, Blackstone Singapore claimed that TRC issued by Singapore should be sufficient to qualify for tax benefits under the India-Singapore DTAA.  

Third, Blackstone cited a Press Release issued by the Ministry of Finance on 01.03.2013 regarding TRC. The Press Release categorically stated that the TRC produced by a resident of a contracting state will be accepted by the Indian Income Tax Department for the purpose that he is a resident of that contracting state and that the income tax authorities in India will not go behind that certificate to question the resident status. The income tax authorities had no option but to accept the validity of TRC issued by Singapore.         

Fourth, Blackstone, to rebut allegations that it was not the beneficial owner or was a shell company in Singapore, argued that it fulfilled the requirements incorporated in the India-Singapore DTAA. Article 3 of the Third Protocol of India-Singapore DTAA added Article 24A in the DTAA w.e.f 01.04.2017. Article 24A contains a detailed LOB clause and as per one of its conditions the resident of one of the Contracting States is prevented from claiming the benefits of DTAA if its annual expenditure on operations in that State was less than Rs 50,00,000 in the immediately preceding period of 24 months from the date the gains arise. In the expenditure was below the prescribed, it was presumed that the company was shell/conduit company. Blackstone Singapore argued that since its expenditure for running the Singapore company was above the prescribed threshold it cannot be considered a shell company and denied treaty benefits. 

Income Tax Department Defends its Interpretation of the Treaty  

First, the Income Tax Department claimed that the management and funding of Blackstone Singapore was in US and not Singapore. And that the ultimate holding company was in US, and Blackstone Singapore entity was used as a conduit since the India-US DTAA did not provide capital gains exemption. The filings of Blackstone Group before SEC, US were used to underline the control of Blackstone, US over Blackstone, Singapore. Further, the Income Tax Department argued that Blackstone, Singapore had a paid-up capital of US $1 and it was hard to believe that it had independently decided to acquire assets worth US $53 million and in two years made profits of US $55 million. 

Second, the Income Tax Department argued that Blackstone Singapore does not meet the LOB test since the expenditure mentioned in the LOB clause is ‘operations expenditure’ and not just an ‘accounting entry’. The Income Tax Department argued that a major part of Blackstone’s expenses were merely management expenses paid to a group company which were nothing more than an accounting entry and did not constitute real expenses.  

Third, the Income Tax Department argued that as per Section 90(4) of the IT Act, 1961, TRC was a ‘necessary’ but not a ‘sufficient’ condition to claim DTAA benefits. And that a TRC is only binding when a court or authority makes an inquiry into it and makes an independent decision. Though a plain reading of Section 90(4) does not support this interpretation.  

Fourth, an extension of the third argument, it was argued that the Press Release of 2013, Supreme Court’s decision in Azadi Bachao case and the CBDT Circulars that were considered in Azadi Bachao case were issued in the context of India-Mauritius DTAA and were not applicable to India-Singapore DTAA. Further, it was contended that Azadi Bachao case did not circumscribe the jurisdiction of an assessing officer in individual cases. And that CBDT Circulars only provide ‘general’ instructions and cannot interfere with quasi-judicial powers of the assessing officers.        

Delhi High Court Favors Blackstone 

On the issue of TRC, the findings of the Delhi High Court were categorically in favor of Blackstone Singapore. The High Court observed that: 

… the entire attempt of the respondent in seeking to question the TRC is wholly contrary to the Government of India’s repeated assurances to foreign investors by way of CBDT Circulars as well as press releases and legislative amendments and decisions of the Courts … (para 71)

The Delhi High Court noted that the actions of the Income Tax Department in questioning the TRCs were contrary to Azadi Bachao, Vodafone cases and other cases. 

On the issue of whether Section 90(4) provides that TRC is a necessary or a sufficient condition to claim DTAA benefits, the Delhi High Court relied on legislative history of Section 90(5) instead of the bare text of Section 90(5). To begin with, Section 90(4) is worded in negative terms and does not use either the word ‘sufficient’ or ‘necessary’. Section 90(4) states that:

            An assessee, not being a resident, to whom an agreement referred to in sub-section (1) applies, shall not be entitled to claim any relief under such agreement unless a certificate of his being a resident in any country outside India or specified territory outside India, as the case may be, is obtained by him from the Government of that country or specified territory. 

Clearly, mere reliance on the bare text of Section 90(4) does not throw sufficient light on whether the TRC constitutes a sufficient evidence of residence in a contracting state. The Delhi High Court referred to Finance Bill, 2013 which proposed to introduce Section 90(5). The proposed draft text of Section 90(5) as contained in Finance Bill, 2013 was: 

The certificate of being a resident in a country outside India or specified territory outside India, as the case may be, referred to in sub-section (4), shall be necessary but not a sufficient condition for claiming any relief under the agreement referred to therein.” 

However, immediately after introduction of the Finance Bill, 2013, the Ministry of Finance issued a clarification via a Press Release clearly stating that a TRC issued by a contracting state would constitute as sufficient evidence of its residence, and the Delhi High Court clarified that the clarification was not Mauritius specific. Since the proposed Section 90(5) was not implemented by the Finance Act, 2013, the Delhi High Court refused to accept the Income Tax Department’s argument that TRC is a necessary but not a sufficient condition to claim DTAA benefits. The High Court also relied on similar reasoning and conclusion arrived at by the Punjab & Haryana High Court in the Serco Bpo Pvt Ltd case.  

Accordingly, the Delhi High Court concluded that:

Consequently, the TRC is statutorily the only evidence required to be eligible for the benefit under the DTAA and the respondent’s attempt to question and go behind the TRC is wholly contrary to the Government of India’s consistent policy and repeated assurances to Foreign Investors. In fact, the IRAS has granted the petitioner the TRC after a detailed analysis of the documents, and the Indian Revenue authorities cannot disregard the same as doing the same would be contrary to international law. (para 91) 

Aftermath

The Income Tax Department, unsurprisingly appealed against the Delhi High Court’s decision and the Supreme Court, also unsurprisingly, has stayed the decision. The Supreme Court will, in all likelihood, have a final say on the matter; though in India, the Revenue Department wishes to be final authority on all tax matters. Nonetheless, there are important legal and policy questions that are stake in this case. Based on my understanding, I detail and highlight the stakes involved in the second part of this article. 

Leg History of Sec 90(4) & 90(5), IT Act, 1961

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The infographic below is a snapshot of the legislative history of Section 90(4) and 90(5) of IT Act, 1961. It provides a summary view of the Income Tax Department’s attempt to include a stringent condition for a non-resident assessee to claim DTAA benefits. The condition, simply stated, was that a TRC issued by a contracting state is a necessary but not a sufficient condition to claim DTAA benefits. It was supposed to allow the Indian income tax authorities to go behind the TRC issued by another state.

The importance and relevance of the legislative history of the aforesaid provisions can be better understood by reading this and this in the wake of Delhi High Court’s decision involving tax benefits under the India-Singapore DTAA. An appeal against the decision is pending before the Supreme Court at the time of publishing this infographic.

Fee Attributable to Transmission of Non-Live Feed Not Royalty: Delhi HC

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The Delhi High Court in a recent decision[1] held that the fee attributable to ‘non-live’ feed cannot be categorized as royalty under Section 9(1)(vi) of the IT Act, 1961. The High Court relied on the observations in Delhi Race Club case to support its conclusions. 

Facts 

The assessee entered into a tripartite agreement – titled as the ‘Novation Agreement’ – with ESS Singapore and Star India Private Limited by way of which various existing agreements regulating distribution of channels, ads, etc. came to be novated. For the Assessment Year 2015-16, the assessee offered an amount of Rs 65,44,67,199/- as royalty income subject to tax under Section 9(1)(vi) of the IT Act, 1961. The Assessing Officer questioned the assessee as to why out of total income of Rs 1181.63 crores only Rs 65,44,67,199/- was offered for taxation as royalty. The assessee replied that only the income attributable to ‘non-live’ feed was taxable as royalty while the income attributable to ‘live’ feed would not fall within the ambit of royalty as contemplated under Section 9(1)(vi). 

The ITAT noted that in the agreement, under the head of ‘consideration’ the parties acknowledge and agree that 95% of the commercial fee is attributable to live feed and 5% to the non-live feed. The ITAT concluded that the fee from non-live feed would not be covered within the ambit of royalty. The ITAT’s view was assailed by the Revenue before the Delhi High Court. 

Arguments and Decision 

The arguments were straightforward with the Revenue contending that the fee from ‘non-live feed’ was covered within the scope of royalty under Explanation 2 of Section 9(1)(vi) of the IT Act, 1961.  The assessee contended otherwise, primarily relying on, Delhi Race Club case ratio. 

The Delhi High Court cited the ratio of Delhi Race Club case where it was held that live telecast/broadcast is not a work under Section 2(y) of the Copyright Act and thus a live telecast/broadcast would have no copyright. The Delhi High Court in the Delhi Race Club case held that copyright and broadcast reproduction rights are two separate rights and the two rights though akin are nevertheless separate and distinct. Expressing its concurrence with the ratio of Delhi Race Club case, the Delhi High Court in the impugned case observed that: 

In light of the unequivocal conclusions as expressed by the Division Bench in Delhi Race Club and with which we concur, we find that once the Court came to the conclusion that a live telecast would not fall within the ambit of the expression „work‟, it would be wholly erroneous to hold that the income derived by the assessee in respect of „live feed‟ would fall within clause (v) of Explanation 2 to S.9(1)(vi) of the Act. (para 10)

The Delhi High Court in the impugned case was correct and prudently followed the well-reasoned ratio of Delhi Race Club case. The Revenue in an attempt to bring fee from ‘live’ feed within the ambit of royatly, in the impugned case, also sought to place assessee’s income under Explanation 6 to Section 9(1)(vi) which states as follows: 

            … the expression “process” includes and shall be deemed to have always included transmission by satellite (including uplinking, amplification, conversion or down-linking of any signal), cable, optic fibre or by any other similar technology, whether or not such process is secret;

The Delhi High Court correctly rejected the Revenue’s argument noting that Explanation hinges on transmission being via satellite while in the impugned case the transmission happened via SIPL. 

Conclusion 

The Delhi High Court made additional observations on the relationship of international tax law and domestic law and how the former overrides the later. (paras 15-17) From the judgment and the arguments reproduced in the judgment, the context and relevance of international tax law is not entirely clear. Most likely, the High Court was trying to underline that the definition of royalty under the IT Act, 1961 can be amended by the legislature, but if the definition of royalty in the applicable Double Taxation Avoidance Agreement is more beneficial to the assessee it would apply. Or that the definition in an international agreement cannot be negated via domestic actions alone. Nonetheless, the relevance of the High Court’s observations on international tax law are not immediately apparent.   

[1] The Commissioner of Income Tax, International Taxation v Fox Network Group Singapore PTE Ltd TS-28-HC-2024DEL

The Din Surrounding ‘DIN’

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The Supreme Court recently granted an interim stay on the Delhi High Court’s judgment wherein it was held that a communication issued by an income tax authority without citing the computer-generated Document Identification Number (‘DIN’) does not have any standing in law. While the one line stay order of the Supreme Court does not mention the reasons, it is worth examining how the Income Tax Department is trying to circumvent the mandate of a Circular issued by its own apex administrative body, i.e., the Central Board of Direct Taxes. 

Contents of the CBDT Circular

Before I elaborate the legal issue involved, it is apposite to summarise the CBDT’s Circular, its aim and content. The CBDT issued a Circular on 14.08.2019 stating that as part of the broader e-governance initiatives as well as Income Tax Department’s move towards computerisation of work, almost all notices and orders are being generated on the Income Tax Business Application Platform (ITBA). However, the Circular noted that some notices were being issued manually without providing an audit trail of communication. To prevent manual communication, the CBDT in exercise of its powers under Section 119, IT Act, 1961 issued the impugned Circular. Paragraph 2 of the Circular mandated that no communication by any income tax authority relating to assessment, appeals, order, exemptions, investigation, etc. shall be issued unless a computer-generated DIN has been allotted and is duly quoted in the body of such communication.    

Paragraph 3 of the Circular enlisted limited exceptions when a manual communication can be issued by an income tax authority. Paragraph 3 envisaged 5 situations: 

  • When there are technical difficulties in generating/allotting/quoting the DIN
  • When communication is required to be issued by an income tax authority who is outside the office 
  • When due to delay in PAN migration, PAN is with non-jurisdictional Assessing Officer
  • When PAN of assessee is not available and proceeding under the IT Act, 1961 is sought to be initiated 
  • When functionality to issue communication is not available in the system 

However, to issue the manual communication in any of the above 5 situations, reasons need to be recorded in writing and prior written permission of Chief Commissioner/Director General of Income Tax is required. Further, the manual communication needs to state the fact that communication is being issued manually without generating a DIN and the date of written approval. For manual communication in situations (i), (ii), and (iii), Paragraph 5 of the Circular states that the communication needs to be ‘regularised’ by uploading it on the System, generating a DIN and communicating the DIN to the assessee. Presumably, the generation of DIN and its communication to assessee would happen on an ex-post basis, but the requirement of generating the DIN needs to be fulfilled nonetheless in these situations.   

Paragraph 4, crucially, and in unambiguous terms states the consequence for not adhering to the mandate of the Circular: any ‘communication which is not in conformity with Para-2 and Para-3 above, shall be treated as invalid and shall be deemed to have never been issued.’   

The above summary of the Circular leaves no doubt that the intent of CBDT is to make manual communication by income tax authorities an exception and electronic communication containing DIN a norm. This is evident in the fact that even when manual communication is allowed under certain exigencies, it needs to be regularised on ITBA to ensure an audit trail. And the seriousness of the intent is reflected in Paragraph 4 which states that a ‘DIN-less’ communication is non-existent in law. 

The above Circular was to have effect from 01.10.2019.   

Legal Issues 

Since the issuance of the Circular, Income Tax Appellate Tribunals and High Courts have, on various instances, opined on the effect of the Circular. The general fact pattern has been that an income tax authority issued a communication after 01.10.2019 without generating the DIN, or without mentioning it in the body of the communication or communicating with the assessee manually without the Income Tax Department being able to justify that any of the 5 exceptional situations existed. The assessees have challenged the ‘DIN-less’ communications as invalid and judicial authorities have pre-dominantly favored the assessee. The three legal prongs on which the decisions stand are: 

First, Circulars issued by CBDT under Section 119 of IT Act, 1961 are binding on the Revenue, i.e., all officers and persons employed in execution of the IT Act, 1961 need to compulsorily adhere to CBDT’s Circular. 

Second, strict interpretation of Paragraphs 2 and 4 of the CBDT Circular. Former requires generation of DIN and quoting it in the body of communication. Accordingly, ex post generation of DIN and communicating it to the assessee or not mentioning the DIN in the body of communication has been held to be non-compliance of the Circular’s mandate. 

Third, the Income Tax Department cannot take recourse to Section 292B of IT Act, 1961. Section 292B, IT Act, 1961 states that any return of income, assessment, notice, etc. shall not be deemed to be invalid merely by reason of any mistake, defect or omission if the communication or proceeding are in substance and effect in conformity with the intent and purpose of IT Act, 1961. Delhi High Court observed that the defence of Section 292B is not available to the Income Tax Department since the ‘phraseology’ used in Paragraph 4 of the Circular is clear: a communication not issued in accordance with the conditions prescribed in Paragraphs 2 and 3 shall have no standing in law. The Delhi High Court’s judgment has now been stayed by the Supreme Court. 

The Income Tax Department in filing a Special Leave Petition before the Supreme Court challenging the Delhi High Court’s decision is signaling that it is not bound by CBDT’s Circular or that it would only adhere to the Circular if it is aligned with the Department’s interpretation, i.e., generating DIN and quoting it in the body of the communication is only a procedural formality and not following the said procedure should not affect the validity of the communication. The Income Department’s interpretation though is not on sound legal footing as the Circular is clear that not following the prescribed procedure would render the communication non-existent in the eyes of law. What is the middle path that the Supreme Court can invent? Even if the Supreme Court states that the Income Tax Department can claim the defence of Section 292B, it would be akin to reading down Paragraph 4 of the Circular. Perhaps the Income Tax Department can press upon the Supreme Court that if ‘DIN-less’ communications are held to be invalid, it would result in a vacuum in certain assessment proceedings, risk loss of revenue, and create legal uncertainty. This consequential approach has succeeded before Courts in various instances and can possibly have traction in the impugned case as well. But, to my mind, it will not be prudent and would directly contradict CBDT’s stance.  

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