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Morality versus legality in international taxation


Delivering an address on the morality versus legality debate at the Foundation for International Taxation’s December 5-7 conference in Mumbai, former Chief Justice of India SH Kapadia stated that in the Indian context, the discernible principles of law should prevail and not morality in a general sense.

Former Chief Justice Kapadia said: “morality is an approach, it cannot be converted into principles, otherwise you are tracing a pattern in shifting sand”. He stated that the courts’ over-arching principles come in only when legislation is poorly drafted.

He reiterated the point that under Indian laws, subjects are not taxable according to the spirit of the statute but only by its plain words. Justice Kapadia explained that morality and fairness is the goal but that the “methods by which one arrives at that goal may differ”. Therefore, he said legality becomes relevant in such situations. He also stated the concept of morality would be different for the courts and for the government.

Kapadia stated that the strength of Indian judiciary is case-by-case adjudication. He said that the courts should resist across-the-board principles and that every principle should instead be confined to, and understood within, the facts of the case. Commenting on tax planning and morality, Justice Kapadia raised the question: “Is it a bad morality under Indian conditions for anybody to arrange his affairs so as to reduce the brunt of taxation to a minimum? If I have to reduce my tax liability is it immoral?”

“If it is immoral, then of course morality has to be the benchmark,” he added. “But if it is within the legal right under the tax law or the law which make a provision for that, can you say that such an approach is immoral or will you go and judge such an approach by the test of morality? My answer is we have to go by pure legal principles as enshrined in the Act.”

Referring to the McDowell ruling, Justice Kapadia quoted subsequent observations of Justice Sabyasachi Mukharji where he stated: “…however in the Indian context the question which may the ordinary taxpayer would ask is in a country of wasteful expenditure, are we paying the tax as a price to buy civilization or are we facilitating the waste?” Referring to the “social justice principles” under the Constitution, he added that “Our constitution uses the word equality of opportunity not equality per se”.

Referring to the drafting of tax laws, Kapadia stated that concepts in law must reduce discretion, not only for revenue officers but also for the courts. In the context of GAAR, Kapadia urged the government not to draft the law only to achieve revenue targets.

On the issue of retrospective law, Kapadia stated that Parliament has plenary powers. While testing retrospective law, he stated that the courts would see if the extent of the change and its impact is confiscatory in nature and impacts the principle of reasonableness.

Solicitor General Mohan Parasaran said the courts are not concerned with morality while interpreting law, but rather with the letter of the law. Morality in law interpretation comes into picture only when judges feel that there is an ambiguity in law, stated Parasaran. Observing that the issue of morality versus legality is one of recent origin, Parasaran expressed that it is advancing due to aggressive electronic and print media. Expressing concerns in the Indian context, he said this debate is “unguided”. He lucidly stated that there are varying degrees of approach based on judges’ perceptions while interpreting law. He illustrated his stand with Azadi Bachao, wherein the courts showed greater latitude in interpreting law as against McDowell. Further, the Vodafone judgment went ahead to reconcile both the cases. He concluded by saying that though morality does not hold enough space in interpretation of tax laws, judges get swayed by moral consideration due to the extreme conduct of taxpayers (where tax planning devices are employed).

Pramod Kumar, member of Income Tax Appellate Tribunal, agreed with Parasaran that courts are not concerned about morality unless there is an ambiguity involved. He stated that judicial officers are indifferent to the issue of morality, unless such moral principles are implicit in the scheme of legal or contractual provisions that they are required to deal with. Elaborating the rider on morality issues, Kumar said the substance over form doctrine is well established under the Indian judicial system. He stated that the application of timing of this test and existence of commercial reasons (which is not very easy in complex business situation) are some of the relevant factors to be considered in this regard.

He stated that judicial parties are required to be “neutral” not only with reference to the parties before them, but also somewhat “competing” set of values. The judges are required to implement will of the Legislature, but when moral values are not reflected in the law, it is beyond their call of duty to fill in the vacuum, stated the ITAT member. Kumar said there is no consensus on the issue of morality and that it would increase uncertainty for businesses and could therefore be detrimental. He said there are four different approaches to this debate - tax mercenaries, policymakers, tax moralists and tax academics. In the last few years judges have followed the approach of tax academics, he said, who can understand inherent scheme of the law under first principles.

He stated the broader question to be asked is was it not unreasonable on part of the corporations to use tax-driven business structures which puts them at an unfair advantage vis-à-vis other taxpayers and especially ordinary tax-paying public. He stated that judges need to follow a surgical approach especially in complex business structures and stay away from extreme stands.

Jeffrey Owens stated that tax planning will continue, but the question is whether it is sustainable. Tax, according to him, is not a morality issue, but a business issue as it impacts the bottom-line. Owens stated that soon the corporations will need to engage “tax diplomats” as the morality debate also has impact on customers, vendors, employees. He felt corporations will need to change the approach towards the tax function, where tax department is seen as profit centre. He suggested use of profit after tax (PAT) as a basis for CEO bonuses, as one of the macro measures to be considered to address tax planning issue.

Akhilesh Ranjan, Competent Authority for India, said the morality debate arises out of old concepts. He felt that the world is realising that current rules do not work and GAAR is required in the present scenario. He strongly stated that “exchange of information” is the order of the day.

This article was first published by Tax Sutra.

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