Pandora Papers and Role of Trusts in Tax Evasion

In News

• The latest leak of offshore financial records has shown that the elites are finding ingenious new ways to ring-fence (protect) their assets from scrutiny at home.
  • It is reshaping the secrecy industry in international finance after regulators worldwide have begun cracking down on global money flows.

Pandora Papers

• Pandora papers are 11.9 million leaked files from 14 global corporate services firms.
  • These firms set up about 29,000 off-the-shelf companies and private trusts for worldwide clients base in both 
    • Obscure tax jurisdictions (also known as tax havens) such as Samoa, Belize, Panama, and the British Virgin Islands and
    • Countries that offer relative tax advantages such as Singapore, New Zealand, and the United States.
• Pandora Documents hint at the ultimate ownership of assets ‘settled’ (or placed) in private offshore trusts and the investments held by the offshore entities.
  • There are at least 380 Indian citizens in the Pandora Papers.

Revelation by the Pandora Papers

• The Pandora Papers reveal how the rich, the famous and the notorious set up complex multi-layered trust structures for estate planning in jurisdictions that offer
  • loosely regulated tax structure and
  • air-tight secrecy laws.

• The purposes for which trusts are set up are many, and some are genuine too.
• But a scrutiny of the papers also shows how the objective of many is two-fold: 
  • To hide their real identities and distance themselves from the offshore entities. 
    • This ensures that the tax authorities can not reach them.
  • To safeguard investments like cash, shareholdings, real estate, art, aircraft, and yachts, from creditors and law enforcers.

Pandora Papers v/s Panama Papers and Paradise Papers

Key tacit reasons behind setting up of trusts highlighted from the media investigation

• Maintain a degree of separation: 
  • To insulate the assets from creditors, businesspersons set up private offshore trusts from their personal assets. 
  • A ‘settlor’ of trust no longer owns the assets he places or ‘settles’ in the trust.
• Hunt for enhanced secrecy from Offshore Trusts: 
  • The Income-Tax Department in India can get to the ultimate beneficial owners only by requesting information from the financial investigation agency or international tax authority in offshore jurisdictions.
  • The exchange of information can take months.
• Avoid tax in the guise of planning: 
  • Businesspersons avoid their NRI children being taxed on income from their assets by transferring all the assets to a trust.
  • The ownership of the assets rests with the trust.
    • Thus, the son/ daughter is only a ‘beneficiary’, is not liable to any tax on income from the trust.
• Prepare for estate duty eventuality:
  • There is a pervasive fear that estate duty, which was abolished back in 1985 will likely be re-introduced soon.
  • Setting up trusts in advance will protect the next generation from paying the death/ inheritance tax.
    • It was as high as 85 per cent in the more than three decades after its enactment (The Estate Duty Act, 1953).
  • Although India does not have a wealth tax now, most developed countries including the US, UK, France, Canada, and Japan have such an inheritance tax.
• Flexibility in a capital-controlled economy like India: 
  • Individuals can invest only $250,000 a year under the Reserve Bank of India’s Liberalised Remittance Scheme (LRS).
  • To get over this, businesspersons have turned to NRIs. 
    • Under FEMA, NRIs can remit $1 million a year in addition to their current annual income, outside India.
  • Further, the tax rates in overseas jurisdictions are much lower than the 30% personal IT rate in India plus surcharges.
• The NRI angle: 
  • Offshore trusts are recognised under Indian laws, but legally, it is the trustees who are the owners of the properties and income of the trust.
  • An NRI trustee or offshore trustee taking instructions from another overseas ‘protector’ ensures they are taxed in India only on their total income from India.
  • Of late, NRIs are under greater scrutiny of the IT Department to prove their non-resident status of past years.

Offshore Trusts to be seen as resident Indian for tax purposes: A Grey Area

• There are certain grey areas of taxation where the Income-Tax Department is in the contest with offshore trusts.
  • After The Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act, 2015, came into existence, resident Indians have to report their foreign financial interests and assets.
  • NRIs are not required to do so- even though, as mentioned above, the I-T Department has been sending notices to NRIs in certain cases.
• The IT Department may consider an offshore trust to be a resident of India for taxation purposes if the trustee is an Indian resident. 
  • In cases where the trustee is an offshore entity or an NRI, if the tax department establishes the trustee is taking instructions from a resident Indian,
    • then too the trust may be considered a resident of India for taxation purposes.

Conclusion and Way ahead

• No Retrospective Taxation
  • India learning from Vodafone and Cairn India cases should not impose retrospective taxation.
• Thorough Investigation and amendment of Rules
  • Investigations must be thoroughly undertaken and modus operandi must be understood.
  • New rules for plugging leakages must be rolled out.

Source: IE