Budget 2017: Expect more on POEM guidelines and GAAR, says EY

Raju KumarIn the backdrop of the upcoming Union Budget, the past week has seen two clarifications come through from the CBDT (Central Board of Direct Taxes). The first on determination of tax residency under the POEM (Place of Effective Management) and the second on applicability of the much debated GAAR (General Anti-Avoidance Rules).The two come with their own contrasts and while the POEM guidelines have been a long time coming, the intent of the government does not appear to be in doubt any longer. Are a few things still left to be desired? Absolutely. However, these should go a long way in soothing nerves.POEM guidelinesThe law for determining tax residency for foreign companies by way of their POEM has been in force since April last year. And while draft guidelines were released in December 2015, the final ones have only been issued now.One of two things were widely anticipated – either the applicability of POEM would be deferred by another year, since corporates had no finality on how to interpret the provision, or it would be done away with altogether for the time being, making way for CFC (Controlled Foreign Corporation) rules. The latter would have met the government’s objective of bringing to tax of incomes earned by shell companies overseas without any business presence or operations.The authorities have chosen to not shake up things either way and stick to how they originally intended to implement the POEM regulations, while still providing key clarifications on aspects that were ambiguous in the draft guidelines.It is worth noting that the final guidelines continue to cite the active and passive business income test as the primary criterion for establishing whether the POEM of a company is located in India. In our opinion, the guidelines could have gone one step ahead to prescribe a white list of jurisdictions. This would have ensured that POEM assessments are restricted to low tax jurisdictions that typically house post-box companies, while relieving those setting up overseas businesses for true commercial considerations.At the same time, to make compliance less onerous, a de minimis limit of INR 50 crore turnover for a foreign company has been prescribed for applicability of these guidelines.Given the timing of releasing the guidelines, something more may be in store on Budget day.GAAR clarificationsThe government has spent significant time and effort to isolate the terror associated with the GAAR acronym ever since its introduction in 2012. The provisions are now finally set to come into effect from April 2017.Given that the effective date is still in the future, it is commendable for the government to have come out with a set of clarifications to lay out the intent and spirit with which the GAAR provisions are intended to be invoked.Cheers from the investor community have come on account of two positives in the guidelines. One, GAAR shall not be invoked merely on the ground that the entity is located in a tax friendly jurisdiction if there exist non-tax commercial considerations and secondly, grandfathering of convertible instruments and bonus shares in respect of investments made prior to April 2017.However, the gap on understanding of tax treaty interplay with GAAR remains. While the clarifications talk about GAAR not being invoked if a case of avoidance is sufficiently addressed by a LOB (Limitation on Benefits) clause in a treaty, any interpretation of this statement is left to subjectivity without any thresholds or examples being cited. In the absence of benchmark of a sufficient LOB, uncertainty will remain. Given that treaties with countries such as Singapore, Mauritius and Cyprus have been recently renegotiated, a clarification in this regard ought to be offered by the tax authorities. This would further assume greater significance once bilateral treaties start to undergo amendments through signing of OECD’s multilateral instrument.Given the current economic scenario post demonetization and decreasing demand, this year’s budget is under pressure to deliver on various counts. And as in previous years, tax policies are going to be key in boosting sentiment and ease of doing business. If we consider the certainty on GST implementation along with the transparent outlook of the CBDT discussed above, the government is certainly on good footing.The author is Partner, International Tax Services at EY India(Amish Behl, Senior Tax Professional, EY also contributed to the article)(Views expressed are personal)