14_tax planning under income tax laws

7/25/2019 14_Tax Planning Under Income Tax Laws

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KeyWords/Outline

Tax Planning underIncome Tax Laws


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Tax Planning

Tax planningmeans dealing with the tax matters o ataxpayer with a !iew to maximi"ing the ater-tax rate oreturn on in!estments ater ensuring !oluntary tax#omplian#e$ %or this purpose& ea#h taxpayer has to '

1$ ensure that proper re#ords are (ept)

2$ dedu#t tax at sour#e where it is ne#essary)

*$ pay ad!an#e tax in time& i appli#a+le)

,$ ile returns in time) $ #omply with noti#es re#ei!ed rom the tax

authorities) and

.$ +e aware o legal remedies where it does notha!e its rights under the law re#ogni"ed$


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Tax %un#tions

Tax function activities are those a#ti!ities whi#hare #on#erned with is#al issues$ These un#tionsare o twotypes

01 Tax omplian#e 3#ti!ities

Tax #omplian#e a#ti!ities are those a#ti!ities whi#hin#lude the un#tions or o+ligations a##ording to thepro!isions o !arious is#al statutes$

02 Tax Planning 3#ti!ities

Tax planning means dealing with the tax matters oa taxpayer with a !iew to maximi"ing the ater-taxrate o return on in!estments ater ensuring!oluntary tax #omplian#e$


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Tax 4!asion& 3!oidan#e 5 Planning

Tax 4!asionTax e!asion is e6ui!alent to tax #heating$

7Tax #heating des#ri+es deli+erate a#ts o

non#omplian#e and does not entail the dii#ulty olegal proo o tax e!asion8 0We+ley et al.1991$

7:n e!ading tax one is (nowingly +rea(ing the law$This has so#ial and psy#hologi#al #onse6uen#es

su#h as stigma and guilt and in!ol!es #onrontingdierent #osts sin#e there is a ris( o +eing #aughtand ined or sent to prison8 0We+ley et al.1991$


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Tax 4!asion;; contd

7The expression Tax e!asion means illegally

hiding in#ome or #on#ealing the parti#ulars o

in#ome or #on#ealing the parti#ular sour#e orsour#es o in#ome or in manipulating the

a##ounts so as to inlate the expenditure and

other outgoings with a !iew to illegally redu#e

the +urden o taxation$ $


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Tax 3!oidan#e3##ording to ?usti#e ?agadisan ?$& 73!oidan#e

o tax is not tax e!asion and it #arries no

ignominy@with it& or& it is sound law andertainly& not +ad morality& or any+ody to soarrange his aairs as to redu#e the +runt@@otaxation to a minimum8 ' mentioned in the

!erdi#t oAruna Group of Estate v. State ofMadras (1965)#ase 0Pal(hi!ala and Pal(hi!ala19A.$

@pu+li# disgra#e or dishonor @@the main impa#t or or#e& as o an atta#(


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Tax 3!oidan#e;; contd

3!oidan#e in!ol!es e!ery attempt +y legal

means to pre!ent or redu#e tax lia+ility whi#h

would otherwise +e in#urred& +y ta(ingad!antage o some pro!ision or la#( o

pro!ision in the law ; it presupposes the

existen#e o alternati!es& one o whi#h would

result in less tax than the other 0Beport o the

Boyal ommission o Taxation 19..& *>) vide

We+ley et al.1991$


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Tax 3!oidan#e;; contd

Tax a!oidan#e 7is the art o dodging taxes

without +rea(ing the law$ ;;tax a!oidan#e

means o tra!eling within the ramewor( o thelaw or a#ting as per the language o the law

only in orm& +ut murdering the !ery spirit o the

law and thus a#ting against the intention o the

law and deeating the purpose o the parti#ular

legal ena#tment8 0=a(hotia and =a(hotia 199>$


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Tax 3!oidan#e;; contdPerhaps the most #ele+rated statement made in deense o tax

avoidance#ame rom the pen o ?udge =earned


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Tax Planning

7Tax planning ta(es maximum ad!antage o

the exemptions& dedu#tions& re+ates& relies

and other tax #on#essions allowed +y

taxation statutes& leading to the redu#tion o

the tax lia+ility o the tax payer8 0=a(hotia and

=a(hotia 199>$


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Tax Planning;; contd3##ording to S#holes and Wolson 01992&

7Traditional approa#hes to tax planning ail tore#ogni"e that effective tax planningand tax

minimizationare !ery dierent things$ The reasonis that in a world o #ostly #ontra#ting&implementation o tax-minimi"ing strategies mayintrodu#e signii#ant #osts along nonta"dimensions$ Thereore& the tax-minimi"ation

strategy may +e undesira+le$ 3ter all& a parti#ulareasy way to a!oid paying taxes is to a!oidin!esting in proita+le !entures$8 Thus& ee#ti!e taxplanning means not to minimi"e tax& +ut tomaximi"e ater-tax rates o return on assets$


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=egal 4thi#al Desira+le

Tax Evasion E E E

TaxAvoidance Fay or Faynot +e1 Fay or Faynot +e2Tax

Planning

1When used as an art of dodging taxes without rea!ing the law or acting

as per the language of the law onl" in form# ut murdering the ver" spirit

of the law and thus unethical from the viewpoint of polic"ma!ers

2When acting against the intention of the law $ ever" attempt " legal means

to prevent or reduce tax liailit" and thus avoiding profitale venture also%


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Tax %ormula 5 Traditional Tax Planning

Tax Planning %ormula

3ggregate :n#ome

' 4x#lusions

G Hross :n#ome

' 3llowa+le Dedu#tions

G Taxa+le :n#ome

E Tax BateG Hross Tax

' Tax redit 5 Tax Be+ate

G Tax Paya+le

&aximize

&aximize

&aximize

&inimize

Tax Planning Action


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T'A(ITI)*AL TA+ PLA**I*, TE-.*I/0ET'A(ITI)*AL TA+ PLA**I*, TE-.*I/0E

Sin#e the ultimate o+Ie#ti!e o traditional tax planning is the

minimization of the ottom line0i$e$& the minimization of thenet tax pa"ale& the rules o simple arithmeti# suggest that tax

planning must ne#essarily in!ol!e

J Faximi"ation o tax #redits/re+ates/relies&

J Finimi"ation o the appli#a+le tax rate0s& andJ Faximi"ation o dedu#tions and/or ex#lusions$

..contd

In other words# the items on all evennumered linesin the

aove formula constitute the critical varialesin tax

planning%

Traditional Tax Planning Techni3ues ased on Tax 4ormula

Traditional tax planning is +ased on maximizing the taxfavored

statusand minimizingthe taxdisfavored status$


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J 4x#lusions are the in#omes whi#h are not in#luded in the tax-+ase o the

in#ome tax Ktotal in#ome as deined u/s 20.& the s#ope o whi#h is

outlined u/s 1A and #omputed u/s ,* a##ording to the heads o in#ome u/s

2C& +ut to +e reported under the heads mentioned in the %orm o Beturn o

:n#ome 04orm IT,Aor non-#ompany assessees and 4orm IT,.Aor#ompanies u/r 2,L$

J Mnder se#tion ,,01& any in#ome or #lass o in#ome or the in#ome o any

person or #lass o persons spe#iied in Part 3& Sixth S#hedule shall +e

exempt rom the tax& and shall +e ex#luded rom the #omputation o total

in#ome$J 3long with this list under Part 3& Sixth S#hedule& Ho!ernment has issued a

num+er o S$B$O$ u/s ,,0, o the :TO to extend this ex#lusion list$J Some SBOs issued u/s .C01 o the :n#ome-tax 3#t 1922 are still in or#e

or similar ex#lusion purpose$J The +usiness entities whi#h ha!e +een allowed tax holiday u/s ,.3 or

under any SBO are a+le to ex#lude their in#ome enIoying tax holiday$

..contd

1% &aximization of Exclusions5


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J Se#$ 2* or dedu#tions rom 7:nterest on se#urities8&J Se#$ 2 or dedu#tions rom 7:n#ome rom house property8&

J Se#$ 2A or dedu#tions rom 73gri#ultural in#ome8&J Se#$ 29 or dedu#tions rom 7:n#ome rom +usiness or proession8 Kalong

with se#tion *C or inadmissi+le expenses rom 7:n#ome rom +usiness or

proession8L&J Se#$ *201 or dedu#tions rom 7apital gains8 Kalong with se#tion *2012

or restri#ted dedu#tions rom 7apital gains8L& andJ Se#$ *, or dedu#tions rom 7:n#ome rom other sour#es8$

..contd

2% &aximization of (eductions5

4x#ept Salaries head u/s 21& all other statutory heads o in#ome ha!e

pro!isions o dedu#tions

3ll these dedu#tions are su+Ie#t to limits& and #onditions and su+Ie#t to

e!idential proos$ So a +usiness entity must +e #areul a+out these #onditions& limits and

authenti#ity o the transa#tions and there+y& disallowan#es may +e a!oided

and dedu#tions #an +e maximi"ed$


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J Mnder se#tion *A& in the year o loss& losses under any head other than two losses ' loss in

spe#ulation +usiness and #apital loss '#an +e set-o against other head0s ex#ept against

spe#ulation +usiness in#ome and #apital gain$J Nut one spe#ulation +usiness loss #an +e set o against other spe#ulation +usiness in#ome

only and one #apital loss #an +e set o against other #apital gain only$J 4rom A6 277879# :loss from usiness or profession; is restricted to set off against

:income from house propert"%;J Mnder other pro!isions o se#tions *>-,2& set-o o losses #an +e done in uture six su##essi!e

in#ome years only against the #on#erned head o in#ome and appli#a+le only or ollowing

in#omes

..contd

2% &aximization of (eductions5

Loss as a (eduction5

Spe#ulation +usiness in#ome 0u/s *9&

Other +usiness in#ome 0u/s *>&

..contd

J Nut in #ase o #apital loss& #arry-orward #an +e done ater dedu#tion o Ta(a &CCC Ku/s ,C0*L$J =oss will +e #al#ulated or #arry-orward ater dedu#ting any #ash su+sidy rom the Ho!ernment

Kse#ond pro!iso to se#tion *AL$J =oss due to depre#iation #an +e #arried orward or unlimited period Ku/s ,2L$J In case of loss# how to maximize the settingoff of the loss in the "ear concerned should

e given special attention and in case of unsetoff losses# special tax planning regarding

accounting method can help to set off those losses efore the expir" of the time limits $

apital gains 0u/s ,C& and

3gri#ultural in#ome 0u/s ,1


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J &arginal tax rate


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T'A(ITI)*AL TA+ PLA**I*, TE-.*I/0ET'A(ITI)*AL TA+ PLA**I*, TE-.*I/0E..contd

Alternative iew of Tax Planning )pportunities

3n alternati!e way o !iewing tax-planning opportunities is to o+ser!e

that in#ome tax is #onstrained +y

Time& Entit"& and Accounting method$

J Sin#e in#ome tax rates 7start o!er8 with ea#h new tax year and +e#ause

!ery ew taxpayers ha!e a #onstant le!el o taxa+le in#ome in ea#h year&

there tend to +e high-tax years and low-tax years$J The tax !alue o a dedu#tion is dire#tly dependent on the marginal tax

+ra#(et o the party reporting it$

J O+!iously& thereore& taxpayers tend to re#ogni"e losses and otherdedu#tions in high-tax years and to deer the re#ognition o taxa+le

in#ome to low-tax years$J To the extent that a taxpayer #an #ontrol tax timing& s/he should do so

only ater gi!ing ull #onsiderations to the time !alue o money$J Sometimes the inan#ial #ost o deerral is greater than the tax +eneit$


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&ethod of Accounting in IT)5

3ll in#ome #lassiia+le under the head

shall +e #omputed in a##ordan#e with the method o a##ounting regularly

employed +y the +usiness entity Kse#$ *01L$

..contd

J 73gri#ultural in#ome8 Ku/s 2. 5 2AL&

J 7:n#ome rom +usiness or proession8 Ku/s 2>-*C& *C3L orJ 7:n#ome rom other sour#es8 Ku/s **& *,& *. 5 ,*L

J


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&ethod of Accounting in IT)5

The method o a##ounting may +e

CL& andJ 3d!an#e salary in#ome are taxa+le under #ash system Ku/s 2101

0+L su+Ie#t to a relie u/s 1A2$


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)wner@)perator


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Traditional tax planning is e3uivalent to tax avoidance with the main

purpose of legal reduction of tax liailit"%

Tax Planning Principles5

J Taxes decrease if income earned " entit" is suBect to a low rate%J Taxes decrease if pa"ment can e deferred to a later "ear# ecause

tax deferred is tax reduced%J Taxes decrease if income is generated in a low rate Burisdiction%J Taxes decrease if income is taxed at a preferential rate%

'elevant Tax 'ate5

%or planning purposes only rele!ant rate is rate at whi#h the

transa#tion will +e taxed& i$e$&marginal tax rate


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4actors Affecting Tax Planning5J Choice of Entity:Whi#h entity underta(es the transa#tion Dierent entities ha!e

dierent tax rates$ Pass-through entities 0sole-proprietorship allow shiting in#ome

to owner and one le!el o tax$ on-pass-through entities 0#ompanies are su+Ie#t to

dou+le taxation& on#e at #orporate le!el and then again at the shareholder le!el$J Period of Transaction:O!er what period does transa#tion ta(e pla#e Tax deerred

is tax sa!ed +ased upon time !alue o money$ ommon te#hni6ues are to

a##elerate dedu#tions 0e$g$& ollowing a##elerated depre#iation and to deer in#ome

0e$g$& through installment sale$ 3 taxpayer has to #onsider when taxes are a#tually

paid 0e$g$& 6uarterly estimates !ersus end o year #omputation$J Tax Jurisdictions::n whi#h Iurisdi#tion does the transa#tion ta(e pla#e Tax lia+ility

depends whether the in#ome will +e a##rued in oreign #ountry 0su+Ie#t to

exemption or tax relie or Nangladesh or whether the in#ome will +e earned +y

esta+lishing the entity in a low tax "one or a high tax "one$J Character of Income:What is the #hara#ter o the in#ome Depending on the

in#ome #hara#ter& #ertain types o in#ome are exempted ully or partially$ ertain

types o in#ome are taxed at preerential rates 0e$g$& #apital gain on transer o

sto#(s and shares o non-listed pri!ate limited #ompany taxed Q 1R& di!idend

in#ome rom shares taxed to #ompanies Q 1R$

..contd


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Tax is a 4unction of > ariales5

3 final tax liailit"is a functiono three = variales

..contd

J the law&J the facts& andJ the administrative


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TA+ PLA**I*, under the -.)LE

W)L4)*PA'A(I,&

cholesWolfson ha!e adopted a contractual perspectiveortheir paradigm 5 suggested * (ey aspe#ts o tax planning glo+ally

1$ Multilateral Approach:3ll #ontra#ting parties must +e ta(en

into a##ount in tax planning& whi#h allows a glo+al or

multilateral& rather than a unilateral& approa#h$2$ Importance of Hidden Taxes:3ll taxes 0+oth impli#it tax and

expli#it tax must +e ta(en into a##ount #onsidering the glo+al

measures o taxes$ #mplicit ta"is the de#rease in return due to

a!ailing tax a!ored in!estment and e"plicit ta"is the tax

deposited in the treasury$*$ Importance of ontax Costs:3ll #osts o +usiness must +e

#onsidered& not Iust taxes$

ALL PA'TIE# ALL TA+E# ALL -)T%

Thus& the paradigm is +ased on #onsideration o

These are also prere3uisites of Effective Tax Planning%


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Why Tax Planning 3rises

Progressi!e Taxation& Su+sidy and Pro!ision to

arrange taxpayers aairs to minimi"e tax-+ite

!i"es rise to mar#inal tax rate $MT%& that 'idely "aries

4rom one

contracting

part" to the

next

4or a given

contracting

part" over

time

4or a given

contracting part" over

different economic

activities


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T"pes of corporate income tax planning activities5

' -onverting income from one type to another

0ordinary in#ome !s$ #apital gain) regular in#ome !s$

windall in#ome) domesti# in#ome !s$ oreign in#ome)

loss under one head !s$ set-o o the loss againstanother head or #arry-orward 5 set-o against same

head)

' hifting income from onepoc(et to another

0taxa+le !s$ tax-exempt sour#es) and

' hifting income from one time period to another

0delaying re#ognition o in#ome& i tax rates are

#onstant or de#lining o!er time& instant salary !s$

deerred #ompensation

T"pes of -orporate Tax Planning


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SOF4 PBO


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SOF4 PBO


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T3 =:4T4=4S

&arginal Investor5Taxpayers who are indierent +etween pur#hasing two

e6ually ris(y assets& the returns to whi#h are taxed dierently& are #alled the

marginal in!estors$

Tax -lientele


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Tax Aritrage Gthe purchaseo one asset 0a7long8 position and the saleo another 0a7short8 position to #reate a sure profit

despite a zero level of net investment$ T'otypeso tax ar+itrage

- Organi"ational-orm tax ar+itrage 0)4TA

- lientele-+ased tax ar+itrage 0-CTA

!uideline for ar)itra#e:Sin#e the #lientele or anin!estment is the taxpayer with 7marginal expli#ittax rates8 0F4TB+elow impli#it tax rate& soar+itrage will wor( when &ET'HImplicit tax rate$

T3 3BN:TB3H4


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Classification

3r+itrage Type otaxpayers

=ong Position in Short Position in

Organi"a-tional-orm

3ll taxpayers 3n asset orprodu#ti!e a#ti!itythrough a a!ora+lytaxedorgani"ational orm

3n asset orprodu#ti!e a#ti!itythrough anuna!ora+ly taxedorgani"ational orm

lientele-+ased


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Tax aritrageis pre!ented +y tax-rule

restri#tions and mar(et ri#tions$

&ar!et 4riction Gtransa#tion #osts in#urred +ytaxpayers in the mar(etpla#e that ma(e #ertain tax-planning strategies #ostly$

Tax'ule 'estriction Grestraints imposed +y thetax authority that pre!ent taxpayers rom using#ertain tax ar+itrage te#hni6ues to redu#e taxes inso#ially undesira+le ways$

T3 3BN:TB3H4


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4nd o the Presentation

Than! "ou%

14_tax planning under income tax laws

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