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Clarificatory amendments to Indian tax laws: Retrospective levies in disguise?

S Vasudevan and Harshit Khurana of Lakshmikumaran & Sridharan discuss the implications of certain ‘clarificatory’ amendments proposed in Indian tax laws on previous disputes.

Every year, the announcement of the Union Budget is eagerly awaited as one of the key tax policy events in India. This year was no different.

Union Budget 2022 witnessed a series of proposed amendments aiming to end the ongoing litigation on certain issues before the courts. Most of these amendments favour the taxman and not taxpayers. Interestingly, such amendments have been proposed even in cases where the Apex Court of India had already decided the issue in favour of the taxpayers.

A question which many of the taxpayers and tax professionals are grappling with is whether these amendments will apply even to the pending disputes for the past period.

In the aftermath of the infamous retrospective amendment in 2012 to overcome the Vodafone ruling, the present political disposition had made a commitment that it will not introduce any liability retrospectively (see Budget Speech of Finance Minister in 2014). However, the present amendments appear to break this promise.

‘Clarificatory’ amendments in Budget 2022

All the amendments in question are proposed to be inserted prospectively in the statute book with effect from April 1 2022. However, the use of phrases, such as ‘for removal of doubts’ or ‘shall apply and shall be deemed to have always applied’ indicate that the amendments are mere clarifications and can potentially apply even for the past period. Some of these amendments have been discussed briefly in the following paragraphs.

Expense disallowance even if no exempt income (Section 14A of the Income-tax Act)

Section 14A provides that no deduction shall be allowed in respect of expenditure incurred in relation to income which is exempt from tax in India. The Apex Court has held that said disallowance will not apply in cases where no exempt income is actually earned by the taxpayer in a particular financial year (see PCIT v. GVK Project and Technical Services Ltd [2019] 106 taxmann.com 181 (SC)).

With Budget 2022, an amendment has been proposed to clarify that expense disallowance under the said section shall apply and shall be deemed to have always applied even in a case where the exempt income has not accrued or arisen or has not been received during a particular year. 

No deduction towards interest converted into debentures (Section 43B of the Income-tax Act)

As per the existing provisions, certain interest expenses are allowed as deduction only on actual payment basis. The provisions also state that mere conversion of interest into ‘loan or borrowing’ will not be considered as actual payment. The Apex Court in a recent decision held that conversion of interest into ‘debenture’ qualifies as actual payment (see MM Aqua Technologies Ltd [2021] 129 taxmann.com 145 (SC)).

Now an amendment has been proposed to clarify that conversion of interest into debentures or any other instrument by which liability to pay is deferred to a future date, will not be considered as payment of interest.

Non-allowability of certain payments as business expenditure (Section 37 of the Income-tax Act)

In the existing law, while computing business income, no deduction is allowable in respect of an expense incurred by the taxpayer for a purpose which is an offence or is prohibited by law. There was ambiguity on application of this provision in certain situations. 

For instance, applicability of this disallowance in case of an offence under foreign law or to compounding of an offence was the subject matter of the litigation. Also, allowability of expenditure incurred by pharmaceutical companies on providing freebies to medical professionals has been disputed in multiple cases. Judgments exist both in favour and against the taxpayers on all these issues.

To remove the above ambiguities, amendments have now been proposed to expressly disallow these expenses. 

Prospective v. retrospective effect of amendments

The amendments which are introduced with the use of words ‘for removal of doubts’, 'shall be deemed always to have meant' or to explain an existing provision, are normally considered to be clarificatory or declaratory amendments. 

These amendments are expected to provide for an obvious omission or clear up doubts in the interpretation of an existing legislation. As a general rule, such clarificatory amendments are considered to have a retrospective effect. This applies even if such amendments are made applicable from a prospective date in the Finance Bill (See Justice GP Singh’s Principles of Statutory Interpretation and CIT v. Vatika Township (P) Ltd [2014] 49 taxmann.com 249 (SC)).

The rule is different when it comes to substantive amendments which modify existing rights, or which impose new obligations or impose new duties or attach a new disability. Such amendments are presumed to have prospective effect unless there is an express legislative intent to give retrospective effect.

Also, in cases where two possible interpretations existed and an amendment benefiting the taxpayer is introduced, the amendment is considered to have a retrospective effect.

Thus, a question arises as to whether the recent amendments are actually clarificatory?

While the ‘form’ may be that of a clarificatory amendment, in ‘substance’ these are meant to undo the legal positions laid down by the judicial precedents. Thus, these amendments do impose a fresh liability on the taxpayers, especially in case of Section 14A and Section 43B.

Notably, the Apex Court in the case of MM Aqua has noted if a provision alters or changes the law as it earlier stood, it cannot be said to have retrospective effect. This will be the case even if the language of provision suggests that it is mere clarificatory.

Conclusion

The proposed amendments may provide clarity and certainty for the future. However, these amendments are in no way going to settle previous disputes.

The tax department will, undoubtedly, rely upon these ‘clarificatory’ amendments in all pending disputes to buttress their argument. A position can be taken by the taxpayers that these amendments should be applicable prospectively for reasons discussed above.

One thing is clear. The proposed amendments have raised a serious question over the government’s resolve to not introduce retrospective changes in tax laws. It is true that old habits die hard.

S Vasudevan
Executive partner, Lakshmikumaran & Sridharan
Harshit Khurana
Principal associate, Lakshmikumaran & Sridharan


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