It has been nearly five years since the 2012 retro-amendments on indirect transfers and royalty were unleashed on the Indian tax payers and more than two years since the present government assumed office and promised never to do it again. For the retro-amendments, already announced by its predecessors, the government has taken the position that since the issue is pending before the courts, their validity, constitutionality and applicability (with retrospective or prospective effect) should be best left to the courts to decide. Appropriate as it sounds, what was conveniently forgotten was that a host of tertiary aspects around these retro-amendments, such as treaty override and withholding tax issues needed explanations. The absence of these clarifications, coupled with the enthusiasm of the Income Tax Department in interpreting these amendments, has resulted in intense litigation and the cases piled up before the courts. To add insult to the injury, the courts, had a different (often conflicting) interpretation of the amendments. So what we now have on hand is a royal deadlock and many subsequent judgments have only strengthened the deadlock rather than resolving it.
So what is this deadlock? And what can be done to break out of it?
Most of the public debate on the retro- amendments in section 9 of the Income Tax Act, 1961 ('the Act') centres on the amendments pertaining to indirect transfers. With a view to reverse the landmark Supreme Court ruling in the case of Vodafone , the erstwhile government 'clarified' that subject to certain conditions, a transaction between two non-residents resulting in a transfer of underlying stake in an Indian company shall be taxable in India. Along with this much-hyped amendment, the government also slipped in three more amendments with retrospective effect which had the ripple effect of characterising various telecom, satellite, software and new age technology transactions as 'royalty'.
While the constitutional validity of 2012 retrospective amendments has always been a subject of intense debate, there are several other issues relating to these retro amendments which the industry is grappling with today. One such crucial issue is the denial of treaty benefits to taxpayers on the basis that these amendments can also be read into the tax treaties. That too after the government had assured the nation in the course of the parliamentary debate on the Finance Bill 2012, that India will continue to honour its tax treaties. The principle is unambiguous - tax treaties are agreements between two sovereign states and therefore unilateral amendments in the domestic law should not be read into the tax treaties. If the government can issue a clarification to this effect, substantial litigation can be eliminated in a single stroke.
The other point of dispute is the possibility of applying withholding tax provisions on transactions which happened prior to the amendment in 2012. The legal principle - lex non cogit ad impossibilia is quite clear to this effect- once a transaction has already taken place, the law cannot impose an obligation by a retrospective amendment, which is impossible to discharge. Even the jurisprudence prior to 2012 was that the payments made for standard services including telecom, satellite and software are not in the nature of royalty and hence not liable to withholding. Having said this, the Revenue Department has been piling on heavy demands for so called non-compliances. This certainly requires an intervention by the government to clearly establish that withholding tax obligations shall only be on a prospective basis.
Another case in point is that post the 2012 amendments, many companies were issued notices for default in withholding tax. Heavy tax demands were levied on them, both under the withholding tax proceedings as well as the corporate tax proceedings. If this wasn't enough, in cases of cross-border transactions, notices were also issued to foreign companies for the taxability of the very same transaction. This has led to a taxation of the same income multiple times over especially for these foreign companies. An amendment may be made in the law to state that if a foreign company has offered the income to tax, then the payer should not be penalised for non-withholding of taxes on the same income. Such provisions do find a place in the Act for transactions between resident tax payers.
The present government has been striving to achieve a tax regime which is stable, predictable and tax payer friendly. However, the retro-amendments remain a major stumbling block in achieving this objective.
This has been a season of bold moves -first GST, now demonetisation. How about the government exorcising the ghosts of retro-amendments as well?
Naveen Aggarwal is Partner - Tax, KPMG in India
The views and opinions expressed herein are those of the author and do not necessarily represent the views and opinions of KPMG in India.