The Conundrum on Advance Ruling and ‘impermissible avoidance arrangement’

advance ruling - impermissible avoidance arrangement - Taxscan

Advance ruling mechanism

The advance ruling is an important mechanism and was envisioned to provide certainty to business as against litigation in reference to a proposed transaction. Initially, the advance ruling could be applied only by non-residents in relation to transaction which had been undertaken or proposed to be undertaken by such non-residents; or in relation to tax liability of non-resident arising out of a transaction which had been undertaken or proposed to be undertaken by a resident applicant with such non-resident. With time, the doors of advance ruling were opened for resident applicants. Resident applicants could seek an advance ruling to determine tax liability arising out of a transaction which had been undertaken or was proposed to be undertaken.

The erstwhile Authority for Advance Rulings(‘AAR’) comprised of Chairman, who had been a judge of the Supreme Court, or the Chief Justice of High Court or had been a judge of a High Court, Vice-Chairman who has been a judge of the High Court, a Revenue member and a Law member from the India legal service. Hence, the authority for advance ruling had representation from all sides and was balanced in its composition. However, there was no mechanism for filing an appeal to the High Court against the decision of the AAR. Certainly, door of writ remedy was available in cases of procedural infractions, violation of natural justice and the like.

In a departure from the above, Board for Advance Rulings has been constituted in Income Tax law effective April 01, 2021. The Board comprises of two members, not below the rank of Chief Commissioner, and is to give advance rulings on Income tax laws, Customs, Central Excise and the erstwhile Service tax laws. The applicant or the assessing officer (on the directions of the Principal Commissioner or Commissioner) can appeal to the High Court against any ruling pronounced by the Board for Advance Rulings within enshrined timelines. The Advance ruling is binding on the applicant who sort it and on tax authorities in respect of the applicant and the given transaction.As is seen, the Board for Advance Rulings is chaired essentially by Revenue officers wearing a different hat. Further, as against the erstwhile regime, a statutory appeal lies before the High Court against a decision passed by the Board for Advance Rulings. Thus, the amended law is not making any qualms of appellate remedy in advance ruling matters.In the coming times, it will have to be seen if this mechanism reduces or on the contrary increase’s litigation in reference to advance ruling applications.

Impermissible avoidance arrangement

Interestingly, any person whether a resident or non-resident, can apply for advance ruling to determine whether an arrangement which is proposed to be undertaken is an ‘impermissible avoidance arrangement’ or not.‘Impermissible avoidance arrangement’is defined in General Anti-Avoidance Rule (‘GAAR’) in Income tax laws. This is an anti-abuse provision. The law delineates an arrangement to be an ‘impermissible avoidance arrangement’ if the main purpose is to be obtain a tax benefit and it creates-

  • rights obligations which are not ordinarily created between persons dealing at arm’s length;
  • results directly or indirectly in the misuse or abuse of the provisions of Income Tax Act;
  • transaction that lacks commercial substance or is deemed to lack commercial substance, in whole or in part;
  •  transaction which is entered or carried on by means of or in a manner, which are not ordinarily employed for bona fide purposes.

The onus is on the assessee to establish that the arrangement is not for the main purpose of obtaining a tax benefit. In the absence thereof, the law presumes the arrangement to be carried out for the main purpose of obtaining a tax benefit by a deeming fiction. The deeming fiction taints the entire transaction even if the main purpose or the whole arrangement was not actually towards a tax benefit. Hence,it is incumbent on an assessee to be certainon the arrangement for ensuring the deeming fiction is kept at bay. One of the mechanisms given in law is to apply for an advance ruling to avoid any surprise at a later point in time.

Board for Advance Ruling & application on impermissible avoidance arrangement

Given the one-sided wordings of GAAR, it is apt that a resident or a non-resident is entitled to have a proposed arrangement seen through the lens of advance ruling to determine whether or not the arrangement is an ‘impermissible avoidance arrangement’. It is the prerogative of the Authority to either accept or reject the application. The relevant part of section 245R(2) of the Income Tax Act reads as follows:


(2) The Authority may, after examining the application and the records called for, by order, either allow or reject the application :

Provided that the Authority shall not allow the application where the question raised in the application,-

(i) is already pending before any income-tax authority or Appellate Tribunal [except in the case of a resident applicant falling in sub-clause (iii) of clause (b) of section 245N] or any court;

(ii) involves determination of fair market value of any property;

(iii) relates to a transaction or issue which is designed prima facie for the avoidance of income-tax [except in the case of a resident applicant falling in sub-clause (iii) of clause (b) of section 245N] [or in the case of an applicant falling in sub-clause (iiia) of clause (b) of section 245N];

Provided further that no application shall be rejected under this sub-section unless an opportunity has been given to the applicant of being heard:

Provided also that where the application is rejected, reasons for such rejection shall be given in the order.

As seen above, a transaction or issue which is designed prima facie for avoidance of income tax can outrightly be rejected from the ambit of an advance ruling. However, exception was made in relation to proposed transaction qualifying as an ‘impermissible avoidance arrangement’ or not [i.e. section 245N(b)(iiia) of the Act, which then essentially took one to section 245N(a)(iv) of the Act]. However, section 245N(b) stood substituted on 01.04.2017. Presently, section 245N(b)(iiia) is not in the statute. Given this, the exception carved out in section 245R(2)(iii) relating to ‘impermissible avoidance arrangement’ is not in vogue.The upshot is that Board for Advance Rulings can outrightly reject an application if it is prima facie of the view that it is for avoidance of income-tax, even if the application relates to determination of ‘impermissible avoidance arrangement’. This appears to be a lacuna in law. It appears that section 245R(2)(iii) has not kept pace with the amendments made in section 245N(b) of the Act.

As on date, the law permits making an application for determination whether or not the proposed transaction is an ‘impermissible avoidance arrangement’ or not [section 245N(a)(iv)]. However, such an application can outrightly be rejected if the Board forms a prima facie view that the proposed transaction is designed for avoidance of income tax. Given the substantive coverage of GAAR, it is not difficult to fathom a prima facie view on any such application being designed for avoidance of income tax. Given this, such an application may never come up on merits and be rejected at the threshold itself. The earlier carve out made in section 245R(2)(iii) was to avoid such an anomaly. Resultantly, it would be prudent for an applicant seeking an advance ruling to be battle-ready at the threshold stage itself before the Board for Advance Rulings on proposed transaction being covered or not as an ‘impermissible avoidance arrangement’. This anomaly, if not cured by the legislature,may require rectification by Constitutional Courts.

Vivek Sharma - advocate supreme court of india

Vivek Sharma is an Advocate, Supreme Court of India. He can be reached at

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