Section 98 of the Income-tax Act, 1961: Consequences of an Impermissible Avoidance Arrangement

What is Section 98 of the Income-tax Act, 1961?

Section 98 falls under Chapter X-A (General Anti-Avoidance Rule or GAAR). It does not, by itself, make every tax-efficient arrangement impermissible. First, the arrangement must be examined under Section 95 and the definition in Section 96, together with the commercial-substance rules in Section 97. If the arrangement is declared impermissible through the applicable statutory process, Section 98 provides the tools for determining its tax treatment.

Impermissible avoidance arrangement: Broadly, under Section 96, an arrangement whose main purpose is to obtain a tax benefit and which meets at least one specified statutory condition, such as misuse of the Act, lack of commercial substance, non-arm's-length rights or obligations, or non-bona-fide means.

Tax benefit: A benefit falling within the statutory definition, including relevant reductions, avoidance or deferrals of tax or increased refunds, as applicable to the facts. Tax treaty benefit: Relief otherwise claimed under an applicable double-taxation avoidance agreement; such a benefit can be denied where GAAR lawfully applies.

Tax consequences under Section 98(1)

The consequences are determined as appropriate to the circumstances, including denial of a tax benefit or treaty benefit. The statutory list is illustrative, not exhaustive:

1. Disregard, combine or recharacterise steps: One step, several steps or the entire arrangement may be considered differently for tax purposes.
2. Ignore the arrangement: Tax may be computed as though the impermissible arrangement had not been entered into or carried out.
3. Disregard an accommodating party: A conduit or accommodating party may be ignored, or treated together with another party as a single person.
4. Treat connected persons as one: Connected persons may be treated as the same person when determining the tax treatment of an amount.
5. Reallocate amounts: Capital or revenue accruals and receipts, as well as expenditure, deductions, reliefs or rebates, may be allocated among the parties.
6. Change the recognised residence or situs: The place of residence of a party or location (situs) of an asset or transaction may be treated differently from that stated in the arrangement.
7. Look through corporate structures: A corporate structure may be disregarded to identify the substance of the arrangement.

Additional recharacterisation under Section 98(2)

For determining consequences under Section 98(1), the law also expressly permits:

• Treating equity as debt, or debt as equity.
• Treating a capital receipt or accrual as revenue, or vice versa.
• Recharacterising an expenditure, deduction, relief or rebate.

These are possible statutory consequences, not automatic adjustments to every arrangement. Their application depends on the declaration, evidence, circumstances and relevant procedure.

Corresponding provision: Section 181 of the Income-tax Act, 2025

The Income-tax Act, 2025 took effect on 1 April 2026. Section 181, headed Consequences of impermissible avoidance arrangement, corresponds to Section 98 of the 1961 Act. It retains the core GAAR consequences while presenting them in a reorganised structure:

The relevant enactment depends on the tax year, transitional provisions and the facts of the case. Earlier assessment years may continue to involve the 1961 Act.

Illustrative example

Procedural safeguards and related provisions

The declaration of an arrangement and determination of its consequences are governed by the wider GAAR framework. Section 144BA of the 1961 Act provides for a reference by the Assessing Officer, consideration by the Principal Commissioner or Commissioner, objections by the taxpayer and, where required, reference to an Approving Panel. The corresponding procedural provision in the 2025 Act is Section 274.

Rule 10UA addresses situations where only a part of an arrangement is declared impermissible: tax consequences are determined with reference to that part. GAAR applicability and exclusions must also be assessed under the relevant rules and statutory provisions, rather than assuming Section 98 applies to every transaction.

Related reading: Section 99 - Connected persons and accommodating parties and Section 100 - Application of the chapter.

Official legislation and references

• Income Tax Department: Section 98, Income-tax Act, 1961
• Income Tax Department: Income-tax Act, 2025 (Section 181)
• Income Tax Department: Section 144BA, GAAR procedure
• Income Tax Department: Section 274, Income-tax Act, 2025
• Income Tax Department: Rule 10UA