TAX PLANNING

Tax planning involves an intelligent application of the various provisions of the

direct tax laws to practical situations in such a manner as to reduce the tax
impact on the assesse to the minimum. Before entering into a transaction or
before starting a business, one normally considers its profitability and other
aspects. Amongst other aspects, the tax implications of the transactions of the
business have to be thought out before actually embarking on the deal.
Otherwise one may be caught unwittingly in huge tax liability. Planning from
the point of view of taxation helps in generating greater savings of investible
surplus.
Tax planning may be defined as an arrangement of one’s financial affairs in
such a way that, without violating in any way the legal provisions, full
advantage is taken of all tax exemptions, deductions, concessions, rebates,
allowances and other reliefs or benefits permitted under the Act so that the
burden of taxation on the assessee is reduced to the minimum. It involves
arranging one’s financial affairs by intelligently anticipating the effects which
the tax laws will have on the arrangements now being adopted. As such it is a
very stimulating intellectual exercise. Moreover, the interaction of other laws
such as Competition Act, FEMA, Companies Act etc. make the exercise much
more complicated. It requires, therefore, meticulous planning to bring down
the tax commitments keeping in view not only the statutes but also the judge-
made law. The above area properly belongs to tax-planning. In this sense there
is nothing unethical about tax-planning. Availing tax exemptions or tax
privileges offered by the Government, strictly in accordance with law.
Tax evasion
It is a manoeuvre involving an element of deceit, misrepresentation of facts,
falsification of accounting calculations or downright fraud. In simple terms, tax
evasion refers to any attempt to avoid payment of taxes by using illegal means.
The OECD defines the term tax evasion as ‘illegal arrangements where liability
to tax is hidden or ignored’. Sandmo (2005, p. 645) defines: ‘Tax evasion is a
violation of the law: When the taxpayer refrains from reporting income from
labour or capital which is in principle taxable, he engages in an illegal activity
that makes him liable to administrative or legal action from the authorities.’
Common forms of tax evasion
Misrepresentation or suppression of facts;

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  Failure to record investments in books of account;
 Claim of expenditure not substantiated by any evidence;
 Recording of any false entry in books of account;
 Failure to record any receipt in books of account having a bearing on
total income; and
 Failure to report any international transaction or deemed international
transaction or specified domestic transaction under Chapter X.
These constitute misreporting of income attracting penalty@200% under
section 270A.
Judicial Thinking
The Supreme Court emphasised that tax planning may be legitimate provided
it is within the framework of law and colorable devices cannot be part of tax
planning. It is wrong to encourage or entertain the belief that it is honourable
to avoid the payment of tax by resorting to dubious methods. The Supreme
Court also recommended that it is the obligation of every citizen to pay the
taxes honestly without resorting to subterfuge.
Tax avoidance
The dividing line between tax evasion and tax avoidance is very thin. The Direct
Taxes Enquiry Committee (Wanchoo Committee) has tried to draw a distinction
between the two items in the following words.
“The distinction between ‘evasion’ and ‘avoidance’, therefore, is largely
dependent on the difference in methods of escape resorted to”.
Between two extremes i.e., tax planning and tax evasion, a vast domain for
selecting a variety of methods which, though technically satisfying the
requirements of law, in fact, circumvent it with a view to eliminate or reduce
tax burden.
Tax avoidance is described as an ‘arrangement of a taxpayer’s affairs that is
intended to reduce his liability and that although the arrangement could be
strictly legal it is usually in contradiction with the intent of the law it purports
to follow’. Moral judgement might also evaluate tax avoidance as
inappropriate.
ACCOUNTING PRINCIPLES

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Ethical Framework

The American Accounting Association model provides a framework within

which an ethical decision can be made.
• The seven question in the model are:
• (1)What are the facts of the case?
• (2)What are the ethical issues in the case?
• (3)What are the norms, principles and values related to the case?
• (4)What are the alternative courses of action?
• (5)What is the best course of action that is consistent with the norms,
principles and values identified in step 3?
• (6)What are the consequences of each possible course of action?
• (7)What is the decision?

Tucker provides a 5-question model against which ethical decisions can be

tested. It is therefore used after the AAA model shown above to ensure that
the decision reached is 'correct'. Is the decision:
• Profitable?

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 • Legal?
• Fair?
• Right?
• Sustainable or environmentally sound?
• (PROLEFAIRSE)
• (Can also be used for management decision making)
ACCA/CIMA Code of Ethics
Integrity – to be straightforward and honest in all professional and business
relationships.
Objectivity – not to compromise professional or business judgments because
of bias, conflict of interest or undue influence of others.
Professional Competence and Due Care – to:
• (i) Attain and maintain professional knowledge and skill at the level
required to ensure that a client or employing organization receives
competent professional service, based on current technical and
professional standards and relevant legislation; and
• (ii) Act diligently and in accordance with applicable technical and
professional standards.
Confidentiality – to respect the confidentiality of information acquired as a
result of professional and business relationships.
Professional Behavior – to comply with relevant laws and regulations and
avoid any conduct that the professional accountant knows or should know
might discredit the profession.
The fundamental ethical principles establish the standard of behaviour
expected of a professional accountant. If you’re ‘up against the wall’, you
might feel pressured into breaking one of these fundamental principles. That’s
why it’s so important that you recognise any threats to our fundamental
principles early on. Using the conceptual framework will help you to identify
the situations that need to be managed.
Associated Rubber Industries case (1986) 157 ITR 77(SC)

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A new wholly owned subsidiary company was created with no asset of its own
except investments transferred by the holding company with no business
income, except receiving dividend from the transferred investments. The
Supreme Court held that on facts, the purpose of such a transfer of
investments was nothing but to reduce the gross profits of the holding
company and thereby to reduce the payment of bonus. There was no direct
evidence that the subsidiary was formed as a device to reduce the gross profits
of the principal company for whatever purpose.
Sir Dinshaw Maneckjee Petit (1927) (AIR 1927 Bom.371)
D was a rich man having dividend and interest income. He wanted to avoid
income-tax. For this purpose, he formed four private companies, in all of
which he was the majority shareholder. The companies made investments and
whenever interest and dividend income were received by the companies, D
applied to the companies for loans, which were immediately granted and he
never repaid. In a legal proceeding the corporate veil of all the companies were
lifted and the income of the companies treated as if they were of ‘D’.
Bacha F. Guzdar versus CIT Bombay, AIR 740 (1955)
Rule 24 of IT Rules exempt certain incomes from being taxed, on account of
being agricultural incomes. However, there are some incomes where the
source may seem to be an agricultural source, but it is actually not liable to be
exempted from being taxed since the primary source does not turn out to be
an agricultural source.
The case Bacha F. Guzdar versus CIT Bombay involved a tea-manufacturing
company paying dividends to its shareholders, where one shareholder claimed
the dividend to be exempted from being taxed on account of the dividend
received being agricultural income as well.
The assessee held shares in two companies that dealt in tea. The two
companies were - Patrakola Tea Co. Ltd. and Bishnauth Tea Co. Ltd. The
assessee received the dividend from the shares that she held in the companies.
The business that these tea companies carried on was of growing and
manufacturing tea. On account of that, the 40 per cent of the income of the
company was taxed only, while on the other hand, the remainder of the 60 per
cent of the income was exempt from being taxed on account of being
agricultural income. This exemption had been laid down in Rule 24 of the
Indian Income Tax Rules. The assessee claimed that since the 60 per cent of

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the income was exempt from taxation under Rule 24, thus the same should
also apply to the income earned by her as dividends from the shares that she
held in the companies.
Issues
Whether the income earned by the assessee in the form of the dividend was
capable of qualifying as agricultural income, and thus be exempted from tax?
Held
The Court was of the opinion that the income derived from the land would be
qualified as agricultural income only when the immediate source of the income
would be land, and NOT IF THE LAND SERVES AS A SECONDARY SOURCE of the
income derived.
Indeed, the plaintiff averred that the income received by the assessee was not
liable to be taxed at all since the profit from which the dividend had been paid
was not liable to be taxed in the hands of the company in the first place. The
income WHERE THE PRIMARY SOURCE was an agricultural source. This was not
the case for the assessee. Keeping that in mind, the Court rejected the
assessee’s claim for exemption from tax on the income received by her as a
dividend.
IT Department Rules
In order to curb tax avoidance, provisions such as
– applicability of transfer pricing provisions in respect of specified
domestic transactions,
– treating any transaction with the person located in the notified
jurisdiction areas to be treated as international transaction,
– General Anti-avoidance Rules,
– provisions relating to furnishing of Tax Residency Certificate for
claiming benefit of double tax avoidance agreements
have been introduced.

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Classes of Companies

Relevance of the above classification

The distinction between domestic and foreign companies is significant owing
to, inter alia, the rates of tax.
Domestic companies are taxed at
– 25% - where total turnover or gross receipt in the previous year
2021-22 does not exceed Rs.400 crore
– 30% - in any other case
Foreign companies are be taxed at 40%.
ADVANCE PAYMENT OF TAX [SECTION 207 TO 219]
An assessee has to estimate his current income and pay advance tax thereon.
Where an obligation to pay advance tax has arisen, the assessee shall himself
compute the advance tax payable on his current income at the rates in force in
the financial year and deposit the same.

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What is Cess?
Health and Education cess
Cess is a form of tax and an additional levy by the Central Government to raise
funds for specific purposes. Cess is imposed by the Government only when
there is a need to meet specific expenditure for the Public welfare. Cess is to
be discontinued once the objective is met. If a person’s income comes under
the non-taxable slab of the Income Tax Taxation slab, they are not required to
pay the cess amount.
An Education cess is an additional levy that is applied on the basic tax
liability by the Government to generate additional revenue to fund primary,
secondary and higher education. Corporates are required to pay this cess every
year at rates determined during the annual budgets. This money is used by the
Government in improving the existing educational infrastructure and in
providing increased access to quality education within the country. Educational
cess is used to fund expenses such as midday meals, opening of new
Government schools & colleges, educational loans for deserving candidates
from low-income background, salaries for staff and faculties working in
Government-funded educational institutions, for funding specialized schemes
etc.
Health and Education Cess is levied at the rate of 4% on the amount of income-
tax plus surcharge.
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Surcharge
The amount of income-tax shall be increased by a surcharge at the specified
rate percentage of such tax.
Range of Income Rs.1 Crore to Rs.10 Crore Surcharge Rate 7%
Above Rs.10 Crore Surcharge Rate 12%
Foreign Company Range of Income Rs.1 Crore to Rs.10 Crore Surcharge Rate
2%
Above Rs.10 Crore Surcharge Rate 5%
RATES OF TAX
In the case of a domestic company
If the total turnover or gross receipt of the company in the P.Y.2021-22 ≤ Rs.
400 crore
– 25% of the total income
– In any other case 30% of the total income
In both the cases, Minimum Alternate Tax (MAT)@15% of book profit would be
attracted, if income-tax payable on total income is less than 15% of book
profit.
In the case of a domestic company
Alternative Tax Regime
Domestic company can opt for section 115BAA or section 115BAB, as the case
may be, subject to certain conditions.
Section 115BAA provides for concessional rate of tax @22% (plus
surcharge@10% and HEC*@4%) for domestic companies, subject to certain
conditions, like non- availability of profit-linked deductions and investment-
linked tax deduction under the Act, non-availability of deduction for
contribution to research and development, additional depreciation etc.
(*Health and Education CESS)

Section 115BAB provides for concessional rate of tax @15% (plus

surcharge@10% plus HEC@4%) to companies set up and registered on or

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after 1.10.2019, and commences manufacturing or generating electricity on
or before 31.3.2023, subject to certain conditions, like non-availability of
profit-linked deductions and investment-linked tax deduction under the Act,
non-availability of deduction for contribution to research and development,
additional depreciation etc.
Domestic Companies have to exercise the option to be governed by these
special provisions of the Act. The option for section 115BAB has to be exercised
in the very first year in which the eligible company is set up, failing which it
cannot exercise such option in the future years.
However, a company eligible to exercise option u/s 115BAA can defer exercise
of such option to a future year, if it is availing sizable profit- linked or
investment-linked deductions or additional depreciation in the relevant
previous year.
Also, once the company exercises such option under section 115BAA or
115BAB, as the case may be, in a year, it would continue to be governed by
the special provisions u/s 115BAA or 115BAB, as the case may be, thereafter
and cannot opt for regular provisions in any subsequent year.
It may be noted that companies exercising option under section 115BAA or
section 115BAB are not liable to minimum alternate tax under section 115JB.

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