Due Diligence. Alert: FM on the black money trail

Finance Minister Arun Jaitley’s Budget has attempted to put in place a roadmap to track down and curb the generation and circulation of black money.

This is in line with the promise made by the government in its election manifesto.

The announcement also seeks to honour the commitments made to the G20 and the OECD in this regard.

Global Financial Integrity, a US-based think-tank, estimated that illicit money moving out of India over a 10-year period from 2003 to 2012 was about $434 billion (₹26 lakh crore).

Flows that are illegally earned or transferred constitute a major source of domestic resource leakage. These flows drain foreign exchange, reduce tax collections, restrict foreign investments and accentuate poverty.

With the increased international focus on tax evasion and initiatives such as OECD’s Common Reporting Standards, it is just a matter of time before jurisdictional arbitrage (money flowing from countries with higher enforcement capability to those with less mature tax framework) will reduce. This will help countries improve tax monitoring and collections.

Black money, though not legally defined, is understood to contain two broad elements. One, money generated through illegal activities, such as crime and corruption, which lead to ‘proceeds of crime’.

Money generated through legal activities, which is not accounted for or disclosed due to multiple factors, forms the second category of black money.

Let us take a look at some key initiatives mentioned in the Budget speech and the possible impact on transactions in the near future.

The Budget has sought, through various means, to deter creation of black money. The key consequence of the black money Bill is that concealment of income and assets as well as evasion of taxes on income from foreign assets can lead to a) imprisonment up to 10 years, b) penalty at 300 per cent of tax and c) offence is non-compoundable; that is, a compromise solution cannot be arrived at.

The beneficial owner of foreign assets has to compulsorily file a return, whether taxable or not. Non-filing of appropriate income tax return with details of foreign assets can lead to imprisonment up to seven years.

Prevention of Money Laundering Act, 2002 (PMLA) is to be amended, and a Bill is proposed to be introduced in the Budget session of Parliament, to include concealment of income and tax evasion as a ‘predicate offence’ (underlying criminal activity that gives rise to proceeds that may become the subject of a money laundering offence) .

Features of the proposed Bill include giving powers to the tax authorities to attach assets held abroad and launch prosecution against tax offenders.

Further, the definition of ‘proceeds of crime’ has been amended to ensure that in the absence of extra-territorial rights, the Indian Government can take steps to confiscate assets of tax offenders located in India. In addition, Foreign Exchange Management Act, 1999 (FEMA) is being amended to include seizure and eventual confiscation of assets of equivalent value situated in India. However, a key factor in ensuring the success of such provisions will be the identification of the location and ownership of assets for recovery proceedings.

Further, as abettors, banks or financial institutions will be liable for prosecution and penalty. This may lead to setting up of systemic procedures for additional due diligence by banks to gain a better understanding of the nature of the clients’ transactions.

The ‘Benami’ Transactions (Prohibition) Bill, which is on the cards, will be a key step towards tracking ownership and beneficial rights over assets. It will also provide a legal framework to confiscate ‘benami’ property and discourage generation and deployment of black money. Such a legislation will have an impact on the real estate and financial services sectors as the layering of proceeds of crime is expected to be through banks.

Quoting PAN has been made mandatory for purchase or sale exceeding ₹1 lakh. Although the modalities for reporting such information by merchant establishments are not yet clear, this move would lead to tracking of purchases and identifying transactions exceeding the threshold limit. It would be important to effectively utilise this data for better tax enforcement.

Effective information-sharing among various authorities to improve tax administration for identifying issues such as the splitting of transactions to remain below the threshold limits is yet another step taken.

A clear intent of co-operation between the Central Board of Direct Taxes (CBDT) and the Central Board of Excise and Customs (CBEC) is provided in the Budget speech. Linking this information with the data available with the Financial Intelligence Unit with regard to cash transactions and suspicious transaction reports, would further help identify black money.

All the above initiatives, coupled with effective enforcement, would be critical for widening the tax base and effectively targeting revenue leakages.

The government must enhance its capability to analyse information to identify and eventually take action against perpetrators.

Organisations would soon feel the need to invest resources to create effective anti-money laundering frameworks to enable information gathering and sharing with authorities.

(Vikram Doshi is Partner – Tax, KPMG and Suveer Khanna is Director – KPMG. The views are personal)