Shouldn't we be looking the gift horse in the mouth?

By TIOL Research Team

NEW DELHI, MARCH 03, 2010: GIFT tax was introduced in India in the year 1958 at the recommendation of Dr Nicholas Kaldor of the University of Cambridge. It was supposed to be part of a self-checking mechanism. Although Dr Kaldor had proposed that the tax be payable by the donee, under the scheme of the Gift Tax Act as finally adopted, the donor was supposed to pay the tax. As in other taxation statutes, there were exemptions and concessions, problems relating to valuation, concept of deemed gifts to check evasion etc. Long afterwards, in the year 1990, Mr Madhu Dandavate, the then Finance Minister observed that under the prevalent scheme of things, there was no limit on the amount which a donee could show as having received by way of gifts. He, therefore proposed to change the system and in fact introduced a donee based Gift Tax Bill by the Finance Bill 1990. With the fall of the government, however, the issue died down. Then, after about four decades of its operation, in the year1998, it was given up altogether on the ground that the revenue generated from out of it was meagre. It was never meant to garner revenue in the first place.

What is interesting to recall is that in the Finance Bill, 1998, Mr Yashwant Sinha in his budget speech stated as follows: “Gift-tax has been levied in India since 1958. The revenue yield from this tax has been insignificant. Last year we collected barely Rs.9 crore. The Gift-tax Act has also not been successful as an instrument to curb tax evasion and avoidance. I, therefore, propose to discontinue the levy of gift- tax on gifts made after 30th September, 1998. At the same time, to ensure that there are no leakages of income-tax revenue through the mechanism of gifts, I propose to tax the gifts under the Income-tax Act itself in the hands of the recipients….”

When, however, the Finance Bill became Act, it was found that not only there was no provision to tax the donee, but the Gift Tax itself stood abolished with effect from 1.10.1998.

Taking advantage of the scheme of things, “gifts” started freely flowing to camouflage unaccounted money brought back in accounts. The problem for the revenue authorities was further compounded in cases of the alleged gift received from abroad and routed through the banking channels. It was primarily to curb this practice, that a scheme was introduced by the Finance No 2 Act, 2004. Instead of a donee based gift tax, it was provided that gifts from unrelated parties would henceforth be deemed as income of the recipient. Considering the likely reactions, it was limited to cash gifts; a liberal margin was given and exception was made for gifts received on the occasion of marriage .There were loud protests as usual when the provision was introduced.

To start with, gifts in excess of Rs 25,000 in respect of each transaction only were to be taxed. However, the provision has been progressively tightened in successive Budgets. In fact, a new clause was introduced by the Taxation Laws (Amendment) Act, 2006 and the limit was increased to Rs 50,000 but it was now applicable to the cumulative value of all transactions in a year. At the same time, fund etc received from trust, university etc was excluded. However, someone had forgotten to include the reference to the definition of income. This was rectified by the Finance Act, 2007.

The provisions were then further tightened by the Finance No (2) Act, 2009 and now even the gifts in kind of immovable properties and certain other specified movable properties, if received from non-relatives without consideration or even for inadequate consideration, were brought in its ambit by introducing a new clause (vii) to section 56(2) .The limit of Rs 50,000 however, continued.

After this amendment, it was pointed out that the provisions as drafted would even include transactions entered into in the normal course of business. The Finance Bill, 2010 now proposes to clarify that the provisions would not apply to transaction involving stock in trade, raw material, consumable stores etc.

The Finance Bill, 2010 also proposes to tighten the provisions even further. So far, the deeming provisions applied only when natural persons i.e. individuals or HUFs were recipients. Transfer of shares to a firm or company at less than market value was not covered. To prevent the practice of transferring shares of unlisted companies at much below the market price to associates, the Bill proposes to extend the deeming provisions in such cases where the recipients are firms or companies in which the public are not substantially interested. In other words, shares of unlisted companies, if transferred to firms or private companies will be taxable as income from other sources of the transferee.

One significant amendment proposed which has not received adequate attention so far from the commentators is the fact that the provisions, as amended by Finance (No2) Act, 2009 also extended to transfer of immovable properties either without consideration or even for inadequate consideration. The stamp duty value of the property was to be the benchmark. The Finance Bill, 2010 now proposes that the provisions will kick in only in cases of transfer of immovable properties without consideration. In other words, transfer of immovable property for inadequate consideration has been taken out of the ambit of deemed income. The argument given is that there are many cases of immovable property transactions where there is a time lag between the booking of property and receipt of such property on registration. This argument does not appear to be very convincing as it was possible to make an exception for such cases. Perhaps there is more to it than meets the eye. Assuming that the reason given holds water, the tax administration then should take responsibility for rushing through an amendment in 2009 without adequate thinking through in the first place.

It may, however, be said that implementation of all provisions involving valuation is always complicated and prone to disputes. In the explanation to clause (vii), it is provided that the fair market value of a property other than an immovable property means the value determined in accordance with the method as may be prescribed. No method seems to have been prescribed as yet. Considering the disputes involved in the valuation of shares of unlisted companies encountered by the Department in implementing rule 1D of the Wealth Tax Rules, it is hoped that the Department will come out with appropriate valuation method which should be clear and unambiguous without giving rise to further litigations.