Updated: August 14, 2010 18:43 IST

Institutional memory of taxation in field action

D. Murali
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When an Indian company, ostensibly providing ‘quality assurance and testing services’ to its associated enterprise in the US, showed a profit of about 53 per cent of ‘export turnover from services rendered’ and claimed the benefit of Section 10B, the taxman was naturally curious.

A risk and functional analysis performed by the Income Tax Department showed that the taxpayer was performing low risk functions and the value addition of the services rendered to the value chain was minimal. And that the transactions between the company and the US enterprise were so arranged that higher exempted profit was generated.

“The AO (Assessing Officer) made comparison of PBT/ sales ratio with companies in similar lines of business. The profits derived by the taxpayer company from services rendered were determined at 22 per cent of the gross receipts…” And, as a result, an addition of Rs 1.8 crore was made to the income returned and additional demand of Rs 81 lakh was raised, informs the latest edition of ‘Let us Share,’ a compilation of best practices and orders from the Department.

Knowledge for common good

The publication is based on the principle of co-creation of knowledge for the common good, informs Kalyan Chand, Director General of IT (Admn), in the acknowledgements page. Looking back at the result of months of planning, coordination, and tireless efforts of a number of officials, he adds that the process is evolving over time with more personnel imbibing the culture of knowledge sharing. An imperative, because of ‘the complex nature of work in the Department and the continuous metamorphosis of systems and evolution of law.’

Providing excellent services and maintaining targeted enforcement presence are the two ways to strengthen voluntary compliance, notes Durgesh Shankar, Member (Revenue), CBDT, in the foreword to the book. The book can help build consensus on various legal issues and thus reduce litigation, he hopes. “It is expected that through knowledge sharing, there will be consistency of approach on similar issues within the Department, which will immensely help the taxpayers in understanding the Department’s perspective.”

Officers come and go, capture what they know, is the theme that has brought together ‘institutional memory’ from a wide base – with officers housed in over 750 buildings spread over 500 cities and towns. Knowledge becomes obsolete very fast and therefore learning is a continuous process, concedes the opening chapter.

It is reassuring to hear that the initiative is perceived to be “taking the Department towards the final phase on the learning curve of ‘unconscious competence’ (internalised) where the best of things are done spontaneously with no or little effort, as a matter of routine and ‘knowledge sharing’ becomes a part of the DNA of the organisation.”

Evasive intent

Meanwhile, it is also necessary that compliance with tax laws should get into the DNA of assessees, in the place of evasive intent. Sample this, from the book, about a taxpayer who, as a director of a real estate concern, filed return of income for AY 2007-08 declaring total income of Rs 7,22,970 and agricultural income of Rs 1,31,800. “It was noted by the AO that the taxpayer was regularly purchasing and selling land after holding it for short periods. In many cases, land was purchased and sold within 15 days.”

The claim of the assessee was that he had sold agricultural lands and therefore was exempt from capital gains tax. But the taxman’s investigations showed that the assessee had not carried out any agricultural activity in these lands. “The taxpayer was unable to produce the relevant evidence in the form of 7/12 extracts from the land revenue authorities for proving that he carried out any agricultural activity… Riding the wave of urbanisation of the outskirts of the city, the taxpayer had entered into as many as 10 transactions of purchase and sale of alleged agricultural lands over a period of 4 years…”

Practising accounting professionals may benefit from an instructive case about a CA who was the statutory auditor of a company for the financial years 2000-06. “The company had not made any provision for the wealth-tax in the final accounts and the chartered accountant had not made any qualification in his report on this aspect. On the basis of complaint filed by the officer, the Disciplinary Directorate of the Institute of Chartered Accountants of India, vide order dated 19.11.2009, held that the chartered accountant was guilty of professional misconduct.”

Layers of transactions

While that may be an open-and-shut case, it is not unusual for fraudsters to use layers of transactions for hiding the audit trail and preventing the tracing of fund flow. An example given in the book is of probe into cheque discounting through cooperative societies. Beginning with information received under Banking Cash Transaction Tax, the tax directorate tried to gather information about the promoters, some of whom could not be traced, and the addresses as given in the KYC details were found to be incorrect.

“Persistent efforts led to tracing of two persons on the basis of telephone numbers available on the record. They could only give sketchy details. High value cheques on the basis of series of numbers were shortlisted. The details about the counter banks and about the account holders and their identity were gathered…” Enquiries led to an account in which credits of Rs 48 crore had happened over about two years, but strangely the account holder was found to be an agriculturist from an interior place with no capacity to operate such an account…

Reining in cricket

In the game of cat and mouse, the latter can at times be a padded-up bandicoot, as in the case of PQR Association, a ‘charitable society’ with the main object as follows: ‘to create, foster and maintain friendly relation with and amongst the population of the area under its control through sports tournaments and competition connected therewith, to create a healthy spirit of sportsmanship, to run a club house, banquet hall with catering facilities and to instil keenness for the game and the spirit of sportsmanship.’

But when analysing the financial statements of the society for three years, the taxman found that the activities were being carried on commercial lines and that cricket had become only incidental. He noticed that the taxpayer had received Rs 14.56 crore from XYZ for TV rights in respect of matches held during FY 2007-08; and Rs 10 crore in FY 2008-09 as its share from XYZ for sale of TV rights of IPL matches, and Rs 3.50 crore from DEF on account of hiring of cricket ground and other services for home matches.

“Similarly, the Association received rent for hiring rooms and premises, income from ground advertisement, use of logos on uniforms, bats, pads and gloves, from restaurant and catering, hiring of banquet hall, income from billiard/pool, health centre, lawn tennis, poolside lawn etc. However, the expenditure on promotion of sports was miniscule…”

Infusion of IT

Contrary to common perception that the Department may not be tech savvy, there are narratives in the book to show the infusion of IT into investigation. For example, when PQ Ltd, a leading builder and real estate developer in Bengaluru, claimed on the company website that the turnover had touched Rs 1,000 crore in FY 2009-10, the tax officials saw a contradiction: the company had not paid any advance tax in the immediately preceding year.

“It was gathered from market research and through the Internet that the taxpayer had made huge investments for purchase of land in various projects which needed verification. In spite of following the percentage completion method for recognising revenue, it failed to remit advance taxes…”

Another example, with tech flavour, is of ABC India Pvt Ltd, a software development company in STP, which bought computers from, and sold the developed software to, its parent company, AB Inc. ABC kept booking its payables based on inflated price, while AB showed the receivables at cost. The difference between the two amounts kept mounting over time, and AB was considering ‘options to repatriate the outstanding amount to a tax haven avoiding the notice of the tax authorities in the US.’

Using the services of the Forensic Lab of the Department’s Investigation Wing, X, the search team imaged ‘the vital email evidences through the machine Freddy’ and retrieved some of the deleted emails too.

More interestingly, the team unearthed a secretive data transfer about lower equipment cost. “The accounts head of the taxpayer downloaded this information every month, from their global accounts network system, using a program called ‘Discover.’ Remittances were sent to the parent company only for this amount. The secretly downloaded information was not accessible to anyone including their statutory auditors…”

Recommended addition to the tax professionals’ shelf, as a deterrent to any pressure for adopting colourable practices.


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