Of tax havens and treaty obligations: Madras HC upholds s. 94-A of IT Act

In the wake of the recent Panama Papers controversy, the Madras High Court in a judgment delivered last week, upheld the constitutional vires of Section 94-A of the Income Tax Act..Before going into the arguments advanced before a bench of Justices V Ramasubramanian and T Mathivanan, it is essential to go into the background of the challenge..In 2011, through the Finance Act, a new Section 94-A was introduced in the Income Tax Act to discourage transactions between residents and persons located in jurisdictions which do not effectively exchange information with India. In effect, the central government was given the power to declare any non-cooperating country as a jurisdictional area. This was just one of the anti-avoidance measures added to the legal framework in order to bring black money stashed around the world back to India..Then in 2013, the Indian government notified Cyprus as one of these countries, given their lack of cooperation in exchanging information, this despite the fact that India and Cyprus had entered into a Double Taxation Avoidance Agreement (DTAA) in December 1994. The notification read thus:.“Cyprus Notified as a notified Jurisdictional Area Under Section 94-A of the Income-Tax Act,1961 ; All parties to the transaction with a person in Cyprus shall be treated as associated enterprises and the transaction shall be treated as an International Transaction resulting in application of transfer-pricing regulations including maintenance of documentations.”.Coming back to the challenge before the Madras High Court, the petitioners, in 2014, had bought all the shares and debentures owned by a Cypriot company in another company based in Tamil Nadu. After the agreements for sale of securities were executed, the petitioners received notices from the government asking them to show cause as to why each one of them should not be treated as an assessee in default, as per the provisions of Section 94-A..The matter then came before the Income Tax Officer, who in April 2015, passed three separate orders, directing the petitioners to pay tax and interest, as determined. In response, the petitioners filed an appeal with Commissioner of Income Tax, and simultaneously filed a writ petition challenging the constitutional validity of Section 94-A..Senior Advocate Arvind Datar appeared for the petitioners in High Court. He contended that the power of Parliament to make laws under Article 245(1) of the Constitution is subordinate to Article 253, which confers power upon the Parliament to make laws for implementing any treaty, agreement or convention with any other country. He also argued that once India has entered into a treaty with another country, it becomes a law under Article 253..Further, it was argued that since India had entered into a DTAA with Cyprus, the power conferred upon the Central Government by Section 94-A (1) to specify any country as a notified jurisdictional area, is “clearly unconstitutional and also suffers from the vice of excessive delegation”..The court took note that the petitioners’ case hinged on the Supreme Court’s decision in Union of India v. Azadi Bachao Andolan, and proceeded to discuss that case. In that case, it was held that Section 90 of the Income Tax Act is specifically intended to enable and empower the Central Government to issue a notification for the implementation of a Double Taxation Avoidance Agreement and hence, as a consequence, the provisions of such an agreement would operate even if inconsistent with the provisions of the Income Tax Act..However, the bench noted that Section 90 did not say that the law made by Parliament would stand eclipsed or excluded, to the extent it is inconsistent with the terms of the Agreement. It went on to discuss a slew of Supreme Court cases and principles of International Law to come to the conclusion that a Treaty entered into by India cannot become law of the land and it cannot be implemented unless Parliament passes a law as required under Article 253..The court went on to justify the need for the existence of Section 94-A by referring to a resolution passed by G20 nations in 2012. It said,.“The resolution passed by the G20 Nations, to take action against non-cooperative jurisdictions, including tax havens, is what is sought to be given effect to, by the insertion of Section 94A”..The court ultimately agreed with the argument of T Pramod Kumar Chopra, standing counsel for the Department of Revenue, Finance Ministry that that the petitioners had entered into the transaction in question, with eyes wide open and hence their contentions lacked merit. While dismissing the petitions, the court held,.“In association with the word “tax”, the word “haven” has assumed different connotations in the recent past and Panama appears to have followed Cyprus. Therefore, Section 94A was the need of the hour and we do not find the same to suffer from unconstitutionality.”.Read the judgement: