Direct Tax Code: Committee’s Recommendations To Address The Decade-Old Vodafone Problem –Exclusive

(This is a collaboration with leading tax information portal Taxsutra to publish select indepth articles on legal and policy matters. This is Part 2 in the exclusive series on the recommendations of the DTC Task Force. Part 1 on the key structural changes proposed by the committee can be found here.)

With the objective to overhaul the over 50 year-old domestic income tax law, the Direct Tax Code task force was set up in 2017 with former Central Board of Direct Taxes member Arbind Modi as its convenor. Post his retirement, Akhilesh Ranjan took over and submitted the committee's report in August last year. It’s been five months since but the report hasn’t been made public as yet. Taxsutra has spoken to those involved in the finalisation of the report and identified the proposals on several contentious issues, namely:

• Treatment of Dividend Distribution Tax
• Overhaul of procedure to determine tax deducted at source withholding under section 195
• Previous Year - Assessment Year confusion.
• Categories of income
• Income recognition approach

DDT: Who Should Pay?

Doing away with DDT has been on the top of the list of pre-budget asks for several years now. Presently, an Indian company is required to pay 20.56 percent DDT on the dividend it declares. The shareholder receiving such a dividend doesn't have to pay any tax on it. Ahead of this year's budget too, the expectation is that an amendment may come in, requiring shareholders and not companies to pay this tax.

The DTC Task Force is learnt to have recommended the abolition of DDT as well. It has advocated taxing dividend income in the hands of shareholders, as was the case  before 1997 when this tax was first introduced. The Task Force has also suggested a 20 percent standard deduction from dividend income, which shall be the deemed expense incurred for earning the dividend, and the tax therefore shall be paid by the shareholders on the net income after the 20 percent deduction.

Withholding Tax Obligations: The Vodafone Problem

Section 195 deals with tax deducted at source in relation to payments to non-residents, i.e. mostly payments made abroad. This area has been the hotbed of tax disputes and tax litigations, especially in big cross-border transactions and none bigger than the Vodafone-Hutch multi-billion dollar deal a decade ago.

The Task Force has recommended an overhaul of the procedure with regard to the TDS obligation on non-resident payments. It is learnt to have commented that presently, chartered accountants issue nil TDS certificates in many cases without proper verification of documentation and agreements. So, it has proposed that this process be done away, and broadly the following two options could be considered for determining the TDS liability in case of payments to non-residents:

Option 1: The payment recipient, i.e. non-resident can approach the tax department for lower withholding tax or nil TDS certificate (in line with existing section) and file such a tax department-issued certificate with the payer, who shall then deduct TDS accordingly.

Option 2: The non-resident can, on his own, issue a declaration to the payer to the effect that the transaction or receipt is not liable to tax under a conjoint reading of domestic law and the relevant tax treaty. The payer shall then submit the said declaration issued by the non-resident to a chartered accountant empaneled by CBDT, who will then certify the taxability and the tax rate for the transaction.

That is not all. The Task Force is also learnt to have left the window open for the tax department to initiate action wherever TDS has been incorrectly deducted, or if the tax officer comes to a considered conclusion that the opinion of the chartered accountant is not in consonance with the legal position.

Previous Year - Assessment Year Confusion

The Task Force has pointed out that the terminologies 'Previous Year' and 'Assessment Year' have led to confusion even for the tax administration. Hence, it has recommended doing away with both these concepts and introducing 'Financial Year' to which the rights and obligations of tax payer and tax administration shall be tagged. This change however will not affect calculation of TDS, advance tax or self-assessment tax, it has said.

Categories Of Income

The Task Force is believed to have bifurcated the total taxable income into two broad categories - Ordinary Sources and Special Sources. Under Ordinary Sources of income, there shall be further five heads, almost on the same lines as it is currently:

• Income from Employment
• Income from House Property
• Income from Business/Profession
• Capital Gains
• Income from Residuary Sources

Special Sources of Income shall include winnings from lotteries, card games etc., where no deduction will be allowed, the Task Force has proposed.

Income Recognition Approach

Three basic approaches to income recognition were discussed by the Task Force:

• Independent Approach, where a separate set of books of accounts shall be maintained for tax purpose.
• Dependent Approach where the accounting standards in vogue will be adopted as is for tax purpose.
• And the existing 'Quasi-Dependent' Approach, which the Task Force has proposed to be continued, wherein the accounting standards (IFRS/Ind-AS) is used as a starting point and then tax adjustments made as per the requirements of tax laws.  The Task Force has termed this approach as more practical and is learnt to have urged the CBDT to expeditiously notify the remaining Income Recognition and Disclosure Standards (ICDS).

Arun Giri is group editor at Taxsutra.com.