Alternate dispute resolution mechanisms for Tax disputes

The efficiency and effectiveness of a country and its administration can be seen in its effective ways of dispute resolution systems. So, how effective is India’s dispute resolution process? For the purpose of this article, let’s narrow down the scope of that question to tax disputes. 

In the existing system, tax in India is being collected in two ways – direct taxes and indirect taxes. There is a niche that is rising within direct tax which is international tax. Both direct and indirect tax systems have their own way of resolving disputes. The available remedies are as follows –

• Direct Taxation – Under the Income Tax Act, 1961(‘the Act’) an individual who wishes to challenge the decision of the tax officer can appeal to the Commissioner of Income Tax (Appeals) and Income Tax Appellate Tribunal (ITAT). An appeal from there can lie with the High Court and ultimately with the Supreme Court which is the last appellate authority for income tax related disputes.
   
• Indirect Taxation – The indirect tax laws in India, at the focal level, accommodates different parkways for determination of expense debate. The indirect taxes were mostly under State subject whereas Central Sales Tax, Service Tax and Excise were under Central. All the above got consolidated and is currently under Goods & Services Tax (GST) purview. The old system started with the Assessing Officer (AO) to respective Commissioner of Income Tax (Appeals) and the respective Tribunals and then to High Court and finally to Supreme Court. The legislation(s) additionally accommodated certain other Dispute Resolution Mechanisms (DRM) under particular circumstances. 

The above mechanisms have been abolished as most of the indirect taxes have been subsumed by the GST laws where the matter moves from 1st Appellate Authority to Appellate Authority and then to High Court and Supreme Court.

• Writ remedies and revisions – The assessee can file a writ petition before the High Court or Supreme Court whenever any coercive actions have been taken by the department. He could also file a revision or review petition before the appropriate Bench when there is a chance of due consideration of a case.

Alternate dispute resolution mechanisms

The alternate dispute mechanism (ADR) is available to the assessee who feels aggrieved by the assessment order. This mechanism is not applicable for domestic tax disputes as income tax and now, GST is under the purview of the State. If there is a dispute relating to income, sales, services, etc., either the Central Board of Direct Taxes (CBDT) or the Central Board of Excise and Customs (CBEC) initiates the proceedings against the offenders. But, if the assessee in the case of income tax dispute wishes to proceed with the settlement commission, then, at that instance the assessee, he can take leave from the regular approach to some extent. There are few ADR systems available in the cases of international taxation.

1. Dispute Resolution Panel under Section 144(3) of the Act

Section 144C of the Act was inserted in the Finance Act, 2009 and came into effect from October 1, 2009. This was formed for the purpose of resolving disputes related to transfer pricing between the resident assessee or non resident assessee in order to avoid double taxation. The Appeal to be preferred before Dispute Resolution Panel (DRP) must be completed before a period of 9 months. The order of DRP has a binding effect on the AO. This approach is best for resolving cases with high taxes. An appeal from the DRP shall lie before ITAT. 

The mechanism of DRP under Section 144C of the Act is as follows –

1. The draft orders of the Assessing Officer along with objections filed by the assessee be filed before the DRP. After calling upon the assessee for giving the option of been heard, examining assessee’s evidence and the clarifications submitted by the AO, the order is passed.
    
2. The DRP may confirm, reduce or enhance the variations proposed in the draft order, but, it cannot set aside any proposed variation or issue any direction for the guidance of the AO. The DRP can reduce and annul and stay the proceedings subject to the bank guarantee.
    
3. The order of the DRP is binding on the Assessing Officer and it can be appealed before ITAT.
    

If one has satisfactory evidence, then instead of filing a dispute claim with the income tax department where the matter could get prolonged, they can take the matter to the Settlement Commission which is a quasi-judicial body with a retired judge or Chartered Accountant as the sitting member who will be expert in the areas of direct taxation and business accounts. Income Tax Settlement Commission has a principal bench at New Delhi and Additional benches at Chennai, Mumbai and Kolkata. The assessee who wishes to opt for settlement commission shall have to file Form 34B along with prescribed fee to the Settlement Commission.

It will be presided by the President for Settlement Commission along with its members if it is in Delhi, for other metro cities it will be headed by the Vice-President. The Settlement Commission will protect the assessee from the income tax departments coercive proceedings if the assessee admits the liability before the Settlement Commission. The order passed by the authority is binding and final and if the assessee is displeased with the order, he is open to seek a writ petition or a Special Leave Petition before the Supreme Court.

3. Authority for Advance Rulings

The Authority for Advance Rulings (AAR) is an autonomous adjudicatory body which is to be led by a retired judge of the Supreme Court. It has similar powers as a Civil Court, to give its decisions in appreciation of particular inquiries of law or fact. It was constituted in order to provide the facility of ascertaining the income tax liability in advance for non-residents or certain specified categories of residents. Section 245 of Act enables them to plan their income tax affairs in advance and obtain binding rulings from the AAR on income tax issues arising out of any transaction/proposed transactions.

The AAR is available for the international taxation and it has been initiated for under GST regime under the Central Goods and Services Tax Act, 2017 (CGST Act). In the case of international taxation, the assessee is supposed to be a nonresident or a resident who conducts business with the non-residents.

In the case of AAR under CGST Act, the assessee is supposed to be a dealer under the GST and the same mechanism applies mutatis mutandis as AAR under international taxation but within domestic jurisdiction for the cases of sales and services. 

With a time-limit of 6 months for issuing a ruling from the date of the application, the AAR is expected to offer a speedy resolution. Given that the rulings are binding in nature, no income tax authority or the ITAT can proceed to decide any issue in respect of which a resident has made an application for advance ruling. When the decision of the AAR is not satisfactory the assessee is allowed to prefer an appeal to the Appellate Authority.

However, an appeal to the AAR shall be not allowed in the following cases –

1. Where the same issue is pending before ITAT, High Court or Supreme Court.
    
2. If it is related to the determination of fair rental value of the movable or immovable property.
    
3. When it is evident that it is preferred to avoid payment of income tax.^[1]

APA is an agreement between a taxpayer and a taxing authority on an appropriate transfer pricing methodology for a set of transactions, over a fixed period of time in future. The APA is entered by CBDT and the taxpayer to determine the arm’s length price or such methodology or both on account of international transactions. The APA is of 3 types – unilateral, bilateral and multilateral agreements. The APA system was introduced in 2012 to reduce transfer pricing suit and is expected to give the abundantly required sureness to MNC’s in India.

When a tax dispute occurs in future, the taxing authority will not treat it as an income more than that of the limits set in the agreement. It shall be valid for such tax years as specified in the agreement which in no case shall exceed five consecutive tax years. 

The APA shall be binding only on the assessee and the Commissioner, including income tax authorities subordinate to him, in respect of the transactions in relation to which an agreement has been entered into. The APA shall not be binding if there is any change in law or facts having bearing on such APA.

The APA procedure is partitioned into four particular stages –

1. Pre-documenting meeting
    
2. Recording of the APA application
    
3. Preparatory handling of the APA application 
    
4. Arrangement and finalization.

The APA mechanism is still at a nascent stage and its implementation is yet to be tested in the Indian context. It is important to note that India has signed a first bilateral APA with the US after the eight continuous years of efforts. Till date, India has signed 111 APAs, 7 of which are bilateral treaties.^[2]

5. Mutual Agreement Procedure (MAP)

The MAP is another dispute resolution mechanism process to resolve the controversies arising out of DTAA and is a unique procedure outside the purview of domestic income tax provisions. The MAP clause in various double tax avoidance agreements (DTAA) entered by India and other countries/territories allows the competent authorities from the governments of the contracting states to interact with the intent to resolve international tax disputes. These disputes involve cases of double taxation i.e. juridical and economic, as well as inconsistencies in the interpretation and application of a convention.

The MAP can be initiated before the income tax authorities by the aggrieved persons (should be resident or citizen assessees belonging to either of the contracting nations). Under this procedure, the assessee can seek the assistance of the officials from the contracting states by way of this approach but in the practical approach, the authorities won’t cooperate until the final assessment order is complete. In order to do so, an assessee has to make an application before the local tax authorities and the resolution shall be presented before Chief Commissioner or Director General of Income Taxes in writing and the AO has to effect the same with 90 days of receipt of such resolution and withdraws all the appeals pending with the same subject matters.   

India has signed a framework agreement between US recently under MAP by way of DTAA and has resolved about 100 transfer pricing issues involving about Rs. 50 billion between the two countries in IT and ITES sectors. 

The MAP article in most DTAAs does not compel competent authorities to reach an agreement and resolve their tax disputes. They are obliged only to use their best endeavors to reach an agreement. The limitation period for invoking MAP is 3 years from the grievance.

Need for ADR to resolve tax disputes

The objective of the State is to achieve the welfare of the nation through taxation. But, the State cannot stand by and watch this frivolous situation on the pendency of the tax cases before various forums. The State should create machineries alternative to the existing system which are, in the least, subjected to the test of Judicial Review. In addition, the number of courts and Judges should be increased.

Here is where the need for ADR really lies in tax matters. We need some effective mechanisms whereby the normal individual can resolve tax disputes with ease and take out burden on the Judiciary subject to the intervention of the constitutional courts. This will bring faith in the Judiciary and may instigate the common individual to take part in initiating the business and face the Judiciary without fear of the legal proceedings. 

Conclusion and suggestion

In India we are in the initial stage of reforming ADR for tax disputes whereas developed nations have many mechanisms in place to ensure speedy and effective disposal. E.g. In the USA, the tax disputes are resolved within only 120 days. Likewise, in the UK, Her Majesty’s Revenue and Customs (HMRC) ensures quick disposal. We need to borrow from such legislations to speed up our cases and clear and avoid backlog. 

In India, judges make all attempts to efficiently dispose of cases in time, in fact, the Supreme Court and Madras High Court have completely disposed all cases from the 1990’s. Still, cases are getting dragged on due to poor knowledge of the AO’s, confusing statutes and modified CBDT clarifications, directions, by-laws and multiple interpretations of these laws by various courts. There remains a hope that India will, in the near future, be able to bring speed and efficiency into disposal of all tax disputes, across all forums.   

DISCLAIMER: The information provided in this article is for educational purpose only. The same cannot be construed as legal advice.

^[1] Income Tax Department, International Taxation > Advance Rulings Details, https://www.incometaxindia.gov.in/Pages/international-taxation/advance-ruling-details.aspx (last visited Oct 23, 2018).

^[2] Home – Central Board of Direct Taxes, Government of India, https://www.incometaxindia.gov.in/Acts/Finance Acts/2012/102120000000010408.htm (last visited Oct 23, 2018).