The CAG has pulled up the Income Tax Department for not putting to use the tools at its disposal for effective action against shell companies that conceal unaccounted-for income and generate black money, specifically with respect to Maharashtra Sales Tax Department findings
Background: The auditor had sought details from the I-T Department in Mumbai on the assessees and the ultimate beneficiaries, but despite reminders, the data were not provided
In 2008-09, the MSTD had informed the Bombay High Court that it had investigated 1,555 hawala operators involving 39,488 beneficiary dealers who had passed on an input tax credit of ₹1,333 crore in three years
The accused claimed and got input tax credit against the declaration of fake tax invoices without actual transactions involving the sale and purchase of goods
To evade detection, payments were made against the invoices by cheque or bank transfers and the amounts were later withdrawn from the accounts of hawala operators
Problems pointed out by CAG: CAG relied upon the MSTD data for analysis and found that the Income Tax Department had not even scrutinised all the assessees featuring on the list
The information regarding bogus purchases was not passed on to assessing officers
The current provisions have not acted as a deterrent as there are no disincentive for giving and receiving accommodation entries
Established companies have also resorted to the practice of obtaining bogus purchases, which shows that the present system of gathering evidence and acting thereon is ineffective
Inflated expenses: The shell companies are used to generating bogus bills showing inflated expenses on various counts
They receive payments through the banking channel to project the transactions as genuine, and then return the rest to the ultimate beneficiaries after charging a commission
Unscrupulous tax consultants and chartered accounts are also involved in the setting up of such entities
Recommendations: In cases of false disclosure, the department should have moved the Settlement Commission for withdrawal of immunity to the applicants
Interestingly, the Finance Ministry — under which the I-T Department functions — told the CAG that there was no loss of revenue as each bogus purchase involved bogus sales also
Know the issue broadly; technical details are not needed.
What is a Shell Corporation?
It is a corporation without active business operations or significant assets
These types of corporations are not all necessarily illegal, but they are sometimes used illegitimately, such as to disguise business ownership from law enforcement or the public
Legitimate reasons for a shell corporation include such things as a startup using the business entity as a vehicle to raise, funds, conduct a hostile takeover or to go public
These are used by large well-known public companies, shady business dealers and private individuals alike
For example, in addition to the legal reasons above, shell corporations act as tax avoidance vehicles for legitimate businesses
They are also used to obtain different forms of financing.
However, the tax avoidance is sometimes seen as a loophole to tax evasion, as these corporations have been known to be used in black or gray market activities
Reasons to Legitimately Set Up a Shell Corporation
Important reason for a domestic company to set up a shell company is to realize a tax haven abroad
This is the process of “offshoring” or “outsourcing” work that was once conducted domestically
To remain within legal bounds internationally, American corporations will set up shell companies in the foreign countries in which they are offshoring work
This is legally allowed by the United States, and some say that it’s the U.S. tax code itself that’s forcing domestic companies to create shell corporations abroad
Another way that shell companies help with taxes surrounds the need for financial institutions to conduct financial activity in foreign markets
This allows them to invest in capital markets outside of domestic borders and realize potential tax savings
Ways That People Abuse Shell Companies
Even though there are legitimate reasons to set up a shell company, many wealthy individuals abuse shell companies for personal gain
Progressive taxation within the United States, that is, tax brackets, slowly caused people to seek personal tax havens
Significantly high earners set themselves up as shell companies in one or many locations, like the Cayman Islands
This is a gray area of tax evasion where people funnel earnings through shell companies in such a way that it isn’t counted toward personal income
The Comptroller and Auditor General of India will soon begin an audit of various aspects of demonetisation announced by Prime Minister Narendra Modi on November 8, 2016
CAG Jurisdiction: Demonetisation per se is a banking and money supply issue and as such, outside the CAG’s audit jurisdiction
Public exchequer: But the CAG is well within its rights to seek audit of fiscal impact of demonetisation, largely its impact on tax revenues. That way the issue gets linked with the public exchequer
Linkages: Other linkages of demonetisation with the public exchequer that will also be covered by the audit
These would be “expenditure on printing of notes, RBI dividend to the Consolidated Fund, etc
The huge amount of data generated by banks and the Income-Tax Department in the wake of demonetisation would also be covered
Audit can look into various risks, such as errors and omissions in identifying the potential tax evaders, failures to pursue the identified suspects, selective and arbitrary pursuance of leads and consequences thereof
Other development: Recently, the GST Council deleted section 65 of the preliminary draft that authorised CAG to audit GST (Goods and Services Tax)
Good time to revise CAG’s powers of audit, structure and function from polity book.
Centre owes Rs. 80,000 crore to States, says CAG report
News: The Centre owes the States over Rs. 80,000 crore from its net proceeds of the period between 1996 and 2015
Context: The CAG report on Compliance of Fiscal Responsibility and Budget Management Act, 2003
It could significantly impact the finances of most States, because most of them could end up getting a few thousand crores each
Article 279 of the Constitution: The CAG is required to ascertain and certify the ‘net proceeds’ (any tax or duty the proceeds thereof reduced by the cost of collection), whose certification shall be final
The Public Accounts Committee “needs more teeth and greater transparency in its functioning,” its Chairman and MP K.V. Thomas said.
The All-India conference would see PAC chiefs from across the country deliberate on issues such as how to make the government implement the recommendations of the committee and whether PAC meetings should be held with the media in attendance.
The PAC is expected to table its final report on the 2G spectrum allocation and the Commonwealth Games scam in the winter session of Parliament.
Can you dig out more about functions of PAC? Why there is need of more power and transparency?