Year: 2026

The question before the GST professional today is no longer whether to adopt Artificial Intelligence, but how to do so with rigour, responsibility, and an informed understanding of its limits. This article examines the distinction between rule-based automation and Generative AI, maps each significant practice area of indirect tax work to the appropriate technology, and offers a practitioner’s framework for adoption that keeps professional accountability intact.

I. INTRODUCTION

The Goods and Services Tax framework, by its very design, is a data-intensive, process-heavy, and interpretation-rich regime. Compliance timelines are unforgiving, the volume of transactions is enormous, and the legal landscape evolves continuously through notifications, circulars, advance rulings, and judicial pronouncements. Against this backdrop, the arrival of Artificial Intelligence (‘AI’) represents both a significant opportunity and a set of risks that demand careful navigation.

In common parlance, the term AI is often used generically, and without appropriate differentiation. A firm that deploys a Python script to automate GSTR-2B reconciliation, and a firm that uses ChatGPT to draft a reply to a show-cause notice, are both said to be ‘using AI’, but the technology involved, the risks assumed, and the oversight required are fundamentally different in each case.

The article is organised around the principal practice areas of an indirect tax firm: Compliance, Advisory, Litigation, and Service Delivery. For each, the article examines where rule-based automation is the appropriate tool, where Generative AI adds genuine value, and — critically — where human professional intervention remains non-negotiable. But, before a detailed discussion on these facets, it is important to appreciate the fundamental distinction between automation and Generative AI.

II. AUTOMATION AND GENERATIVE AI — A FUNDAMENTAL DISTINCTION

A. Rule-Based Automation

Rule-based automation operates on a deterministic logic. It executes pre-defined instructions, and the output for a given input is fixed and reproducible. There is no inference, no interpretation, and no element of probability.

In the context of GST practice, automation has been with us for years, even if we have not always labelled it as such. The GST offline utility that accepts an Excel template and generates a JSON for upload is automation. ASP/GSP platforms that pull data from accounting software, populate returns, and file them through API integrations are automation tools. An Excel macro that formats supplier invoices into the GSTR-1 template is automation. A Python script that matches the purchase register against GSTR-2B and generates a mismatch report is automation.

The defining characteristic of all these tools is predictability. The GSTR-2B reconciliation script that runs tonight will produce the same output as the one that ran last Tuesday, given the same input data.

This predictability is what makes automation trustworthy for compliance tasks, where the cost of an error is a wrong return and can bear serious legal consequences.

B. Generative AI — A Probabilistic Engine

Generative AI — represented by large language models (LLMs) such as ChatGPT (OpenAI), Claude (Anthropic), Gemini (Google), and domain-specific tools like TaxGPT — operates on an entirely different principle. These models do not execute pre-defined rules. They have been trained on vast corpora of text, and when queried, they generate outputs by predicting the most statistically probable sequence of words in response to the input.

This implies that the same query can produce different outputs in different sessions. The model does not look up a database. It generates, and what it generates is a function of its training data, the structure of the prompt, and an element of randomness built into the generation process itself.

This randomness is not a flaw in the technology, rather it is its fundamental nature. The same prompt can result in different responses in terms on end conclusion, depth of reasoning, usage of words, grammar or style of drafting.

The difference is not one of degree but of kind. Automation executes. Generative AI generates. The first is a tool. The second is a collaborator — and like all collaborators, it requires supervision.

III. THE RISKS OF GENERATIVE AI — WHAT EVERY PROFESSIONAL MUST UNDERSTAND

A. Hallucinations

The term ‘hallucination’ in the context of AI refers to the generation of factually incorrect information presented with complete confidence. In the context of GST practice, hallucinations can take several forms:

•  Fabricated CBIC circular numbers
• Wrong section references
• Non-existent AAR or AAAR rulings or Court decisions
• Overturned or irrelevant Court decisions
• Pre-amendment tax rates, thresholds, or compliance timelines presented as currently applicable

What makes hallucinations particularly dangerous in a professional advisory context is that they are indistinguishable from accurate output without independent verification. For professionals therefore, the rule should be: no AI-generated citation, whether of a section, a circular, a notification, or a judicial decision, should be included in any client communication, opinion, or legal submission without independent verification against the primary source.

B. Confidentiality — An Overlooked but Critical Dimension

The terms of service of most public-facing LLM platforms permit the use of user inputs for model training and improvement, unless the user has specifically opted out of such data sharing or is accessing the service under an enterprise agreement with explicit data privacy protections.

Professionals should therefore understand the data risk involved. Client GSTINs, turnover figures, ITC positions, outstanding demand details, the substance of notices received, and litigation strategy constitute confidential professional information. The ICAI Code of Ethics imposes a duty of confidentiality that extends to all forms of communication and, by necessary implication, to AI tools used in the course of professional work. The Digital Personal Data Protection Act, 2023 adds a further regulatory dimension to the handling of identifiable personal and commercial data.

A CA who pastes a client’s show-cause notice — with GSTIN, turnover, and transactional details intact — into a public LLM to generate a draft reply has shared client-privileged information with a third-party platform. The fact that the tool is useful does not make the disclosure permissible.

The mitigation is clear: establish a firm-level AI Data Usage Policy before any tool is deployed. At a minimum, all prompts involving client-specific facts must pass through a redaction protocol — client name replaced with ‘Assessee’, GSTIN with ‘GSTIN-XX’, specific financial figures with placeholders — before being submitted to any public AI tool.

A word of caution: Redaction can be done in various modes. Some redacted text can be retrieved through tools, and if the redaction is reversible, it does not serve any purpose. Further, if the redaction is carried out through an online tool (ILOVEPDF and the likes), the problem is really not resolved. It merely swaps position from a GenAI platform to the redaction platform

C. Unpredictability, Knowledge Cutoffs, and the Audit Trail Problem

The non-deterministic nature of LLM outputs means that the position a tool took on a query today may not be reproduced tomorrow. This creates an audit trail problem: if an AI-generated draft is challenged, the professional cannot reconstruct the basis for the output with the precision that professional workpapers typically require.

Secondly, all LLMs have a training cutoff date — a point beyond which their knowledge of events, legislation, and judicial developments is absent or incomplete. Finance Act amendments, fresh CBIC notifications, and significant AAR orders issued after the cutoff are simply unknown to the model. For a practice area that evolves as rapidly as GST, this is an limitation to be aware about.

IV. MAPPING THE RIGHT TOOL TO THE RIGHT TASK

With the distinction between automation and Generative AI clearly understood, the practitioner needs a framework for deciding which tool to use for which task. Essentially, any task which is rule or process based should be a subject matter of automation rather than Generative AI. Such tasks may involve high volume, but low judgement which can be pre-defined through flowcharts. There may be cluster of tasks in the form of a workflow. The benefits of automation are immense. Once a software is prepared and tested for reconciliation, the reports provided by the software do not need significant human oversight thereafter. However, if Generative AI is used for such tasks, the professional will have to factor the randomness of GenAI and have significant component of human verification of the output before the same can be sent back to the client or uploaded on the portal. Secondly, the professional also undertakes a risk of breach of data confidentiality. Most input data in compliance tasks is client specific and redacting that data would reduce the utility of the entire process. For example, to generate a GSTR1, proper sales register needs to be uploaded, redacted one cannot do the job. Therefore, most of the compliance tasks are amenable to automation rather than Generative AI.

The benefits of Generative AI are triggered when there is a genuine case of generation of content. For example, drafting a reply to a show cause notice. However, as stated earlier, Generative AI comes with significant risks of data confidentiality, hallucinations and unpredictability. Therefore, the draft output can only be considered as an assistant or ‘first
draft’ requiring significant human editing and intervention thereafter. Despite the limitations and need for significant human intervention, there is a clear role of Generative AI in advisory and litigation practices.

Interestingly most GenAI tools can write detailed codes and Agentic AI tools can even automate workflows. Several use cases in the compliance domain exist to use GenAI tools to not directly perform a compliance task but to write codes and develop and debug automation tools that will perform the compliance tasks predictably – essentially offering the best of both the worlds!

V. COMPLIANCE PRACTICE — AUTOMATION FIRST, GENERATIVE AI AS ENABLER

A. The Case for Automation

Returns filing, reconciliations, and portal-related tasks are the natural home of rule-based automation. GSTR-1, GSTR-3B, GSTR-9, and GSTR-9C all follow fixed structures, operate on deterministic rules, and produce outputs that must be identical given the same source data. Compliance software platforms have automated large parts of this workflow. Where customised integrations are required, tools ranging from Tally’s GST modules to Python-scripted API calls to the GSTN infrastructure can handle the job reliably.

The GSTR-2B reconciliation process, in particular, is a classic automation task. The logic is fixed: match supplier GSTINs, invoice numbers, and amounts between the purchase register and GSTR-2B; flag unmatched items; categorise by nature of mismatch; generate an exception report. A well-written Python script or Excel macro will perform this task with 100% consistency at any hour, on any day, without fatigue or error of omission. This is what automation promises, and in compliance work, it delivers.

B. Generative AI as Code Generator

As explained above, the role of Generative AI in the compliance practice should not be to perform compliance tasks but to build the tools that perform them. This is a distinction of considerable practical importance. A professional can describe a reconciliation requirement in plain English to GenAI tool — ‘I need a Python script that reads GSTR-2B data from an Excel file, matches it against our purchase register on the basis of GSTIN and invoice number, and generates a report of unmatched items with the reason for mismatch’. The script can be tested and post verification and debugging (which also can be assisted by the GenAI tool), can be deployed on an ongoing basis without much risk.

The same principle applies to Excel macro generation, SQL query construction, and browser automation scripts using tools such as Selenium, which can be directed to log into the GST portal, navigate to the notices section, download pending notices, and save them to a designated folder — all without human intervention. Platforms such as UiPath and Power Automate offer enterprise-grade Robotic Process Automation capabilities, while Python with the requests and BeautifulSoup libraries provides accessible, scriptable alternatives for technical teams.

It is important to reiterate that all AI-generated code must be tested and validated by a human professional on non-production data before deployment on live client data. The code is a draft. The professional is the reviewer. The accountability for the output remains with the firm.

VI. ADVISORY & LITIGATION PRACTICE — THE HIGHEST STAKES FOR HALLUCINATION

A. Risks and Benefits

Advisory and litigation work are classic examples where the firm generates customised client specific drafts and thus, these areas are prime candidates for usage of Generative AI.

Advisory work like classification opinions, ITC eligibility determinations, place of supply analyses, valuation under the GST Valuation Rules can benefit from the drafting generated by GenAI.

Similarly, the entire spectrum of litigation practice, from replies to demand notices, through appeals before the first appellate authority and the GST Appellate Tribunal, to High Court and Supreme Court proceedings can immensely benefit from usage of GenAI.

Despite the benefits of GenAI in these sectors, the risks of confidentiality and hallucinations continue. In fact, they get amplified immensely. A wrong legal opinion, issued to a client, acted upon, and later found to be based on a fabricated circular, exposes the professional to liability that no amendment can cure.

The ‘confident wrongness’ characteristic of large language models — their tendency to produce incorrect information with the same grammatical fluency and apparent authority as correct information — is the central challenge. Unlike a junior colleague who might hedge an uncertain answer, an LLM does not signal its own uncertainty. It generates the most probable response, whether or not that response is accurate.

B. The Choice of Tool — Open vs. Closed LLMs

The above risks suggest a conscious choice of an AI Tool. A public LLM would have the risks of both confidentiality as well as hallucinations. As compared to the use of such a public LLM, a private or a closed LLM can ensure ring-fencing of hallucination risk. If the LLM can be customised using Retrieval Augmented Generation (‘RAG’, discussed below), it could help in providing grounded realistic responses with verifiable citations based on uploading of all relevant source data like law, circulars, decisions, etc.

C. Retrieval Augmented Generation — The Practical Solution

Therefore, Retrieval Augmented Generation (RAG) represents the most practically accessible solution to the hallucination problem for advisory and litigation work. In a RAG architecture, the LLM does not generate answers purely from its training data. Instead, when a query is submitted, the system first retrieves the most relevant documents from a curated knowledge base — CBIC notifications, circulars, AAR and AAAR orders, High Court and Supreme Court judgments, CBIC FAQs — and provides these as context to the model before generating a response. The answer is therefore grounded in known, verifiable documents, and the citations produced can be checked against the retrieved source.

Building such a knowledge base is an investment, but not an insurmountable one. Most GST practices already maintain organised archives of CBIC circulars and relevant judicial pronouncements. The incremental step is to make these archives machine-readable and searchable in a format compatible with RAG-based deployment.

In the long term, developing a private LLM based on RAG architecture can present significant advantages to the firm. However, the investment and efforts would be huge. One may consider a public RAG based LLM (like Notebook LM from Google) to reap the benefit with reduced efforts and costs.

D. The Human-in-the-Loop Imperative

Regardless of the tool chosen, the advisory workflow with Generative AI must maintain human professional intervention at each critical stage. The model can identify relevant provisions, synthesise case law, and produce a structured first draft. The partner or senior manager must verify each citation, review the reasoning, and take professional ownership of the final opinion or appeal before it reaches the client. AI output issued directly to a client, without this intermediate step, is not professional advisory work — it is a liability waiting to materialise.

E. Some Use Cases: Where Generative AI Genuinely Helps

Within these constraints, Generative AI offers real productivity gains in litigation practice. The most significant is in summarisation. A senior practitioner reviewing a 150-page High Court order for its applicability to a pending matter can use a private LLM to generate a structured summary — identifying the principal issue, the ratio of the decision, the facts that were material to the outcome, and the observations that distinguish it from other cases — in a fraction of the time that manual reading would require. This is a genuine productivity gain.

Similarly, Generative AI can assist in structuring replies to show-cause notices, identifying the appropriate legal framework, drafting the preliminary objections, and organising the factual narrative. The professional then refines the draft, adds the specific client facts, verifies all legal references, and takes ownership of the final submission.

Judicial precedent research is another area of value. A query such as ‘What are the major High Court and tribunal decisions on the eligibility of ITC on construction of a factory building under Section 17(5)(d)?’ can yield a structured overview of the judicial landscape in seconds — a starting point for deeper research, not a substitute for it.

VII. SERVICE DELIVERY — THE VISIBLE FACE OF AI ADOPTION

Beyond the core practice areas, Generative AI offers significant opportunities for enhancing the service delivery infrastructure of a GST practice.

Website content and knowledge dissemination benefit from AI’s capacity to generate well-structured, readable explanations of GST developments rapidly. A GST update on a significant notification or circular — the kind of content that builds a firm’s reputation as a thought leader and drives client enquiries — can be produced in a fraction of the time that manual drafting requires. The firm’s editorial oversight, applied before publication, ensures accuracy.

Presentation and document generation is another area where AI tools provide meaningful productivity gains. First-draft slide decks for client presentations, seminar materials, and internal training programmes — structured around a brief or an outline provided by the professional — can be generated rapidly and refined.

Client-facing chatbots, trained on the firm’s FAQ content and standard CBIC reference material, can provide 24-hour first-level responses to routine queries — registration procedures, return due dates, e-invoicing thresholds, and similar matters that do not require professional judgment. The critical design requirement is a well-defined escalation trigger: queries that involve client-specific facts, interpretation, or any element of advisory judgment must route immediately to a human professional.

Social media communication — a dimension of practice development that has become increasingly important for professional visibility — benefits from AI’s ability to generate concise, accurate, and readable posts on GST updates, compliance reminders, and analytical content. The approval workflow — AI drafts, professional reviews and approves — must be maintained without exception.

Compliance dashboards with natural language query interfaces represent a more advanced application. Rather than requiring a manager to write or run a query to identify, say, all clients with an ITC mismatch exceeding a specified threshold, a natural language interface allows the question to be posed in plain English and the relevant data to be surfaced. This is an area where the boundary between automation and AI is at its most productive.

VIII. A ROADMAP FOR ADOPTION — WHERE TO BEGIN

For a practice considering structured AI adoption, the following phased approach balances risk management with practical progress:

• Phase 1 — Internal foundation (immediate): Establish a firm-wide AI Data Usage Policy defining which tools are approved, what data can be shared, and the mandatory redaction protocol for client-related prompts. Create a Custom GPT or Claude Project loaded with the firm’s standard FAQs, rate schedules, and reference materials. This provides an internal knowledge assistant at minimal cost.
• Phase 2 — Compliance automation (within three months): Identify the three to five most time-consuming manual compliance processes in the practice. Commission AI-generated automation scripts for each, with mandatory testing on non-production data before deployment. Build a prompt template library for common compliance research queries.
•  Phase 3 — Advisory and litigation support (three to twelve months): Implement a RAG-based private/public deployment — either through Azure OpenAI or NotebookLM or an open-source equivalent — with the firm’s curated knowledge base of CBIC circulars, AAR orders, and relevant judicial decisions. Establish a citation verification gate: all AI-sourced references checked against primary sources before use in any client communication.
• Phase 4 — Client-facing services (ongoing): Deploy a structured chatbot for routine client queries. Develop AI-assisted workflows for website content, presentations, and social media. Build natural language query interfaces for compliance dashboards where the client portfolio and data infrastructure support it.

IX. CONCLUSION

The GST professional who approaches Artificial Intelligence with neither uncritical enthusiasm nor reflexive resistance will find in it a genuinely powerful addition to his professional toolkit. The technology is not neutral, however. It carries risks that are specific to its probabilistic architecture, and those risks land squarely on the professional who deploys it.

As a conclusion, five broad principles can be tabulated as key takeaways:

The GST framework was built on the principle of technology-enabled compliance. The profession that built its competence around that framework is now presented with a second technological inflection point. The firms that navigate it well — that build AI literacy across their teams, that establish clear protocols, that invest in private and customised deployments for high-stakes work — will emerge with a structural competitive advantage. More importantly, they will have served their clients with the diligence that the profession demands.

BCAJ Admin

While Indian law grants individuals absolute freedom to bequeath self-acquired property, blindly dividing assets equally among children is often irrational and can spark decades of family litigation. “Equal” distribution rarely equates to “equitable” distribution. Testators must thoughtfully consider complex family dynamics, such as varying financial needs, unequal contributions to family wealth, and the caregiving responsibilities assumed by specific children or daughters-in-law. Chartered Accountants, acting as trusted family advisors, are uniquely positioned to guide this process. To prevent legal challenges, testators should distribute assets equitably and clearly document the rationale behind their distributions in the will.

INTRODUCTION

A Chartered Accountant is respected as a friend, philosopher and guide of his client families because he is well-positioned to know inter-se family relations, besides financial health of a family and all its members and is often called upon to guide a testator making his/ her WILL or while resolving family disputes.

WHAT IS INHERITANCE?

Inheritance, at its core, is transfer of assets, rights, obligations, or characteristics from one entity to another, typically spanning generations. While commonly understood as the passing of money or property upon death, true inheritance encompasses both tangible assets and intangible legacies. The intangibles are mostly imbibed since childhood and imbibing those values may vary amongst children depending on their aptitude and up-bringing.

We examine only inheritance of tangible assets in this write up. Wealth distribution between one’s children is always a sensitive topic for any parent, especially when it comes to handing over a self-made or multi-generation business and amounts invested in assets that are partly illiquid in nature like self-occupied residential house. Similar sensitivities also arise when all children are not equally well settled either in their careers (business, profession or jobs) and/ or in personal lives. These differences can be addressed by resorting to ‘equitable’ distribution factoring in families’ disparities and dynamics as against ‘equal’ distribution and ‘estate equalization’ concepts.

THE LEGAL POSITION IN INDIA:

Under the Indian Succession Act, 1925 (ISA), there is no restriction (absolute freedom) on giving away self-acquired property by Hindus, allowing a testator to bequeath his / her wealth in a disproportionate manner amongst legal heirs or anyone.

In contrast, Islamic law limits testamentary freedom to one-third of the estate, ensuring a balance between individual autonomy and maintenance rights of legitimate dependents. There are also laws in various other developed countries putting some restrictions on this absolute freedom. For instance, Ontario in Canada provides for two restrictions on this freedom – limit on the ability to exclude a spouse and limits to exclude dependents. There is no such restriction in India on Hindus.

Thankfully, in recent times, in an urban set –up, in most cases family size is limited to ‘Hum Do, Hamare Do’. Still, we often come across instances of family disputes while executing testamentary dispositions. Such disputes result in avoidable decades long (thankfully, not centuries long) litigations resulting in huge litigation costs, time involved and strained family and social relations. Many of such disputes may be on account of not being rational in making bequeaths.

Considering such possibilities, there is a need to examine the concept of – Rational Exercise of Testamentary Disposition Freedom. Before we examine the subject, it is necessary to deal with two concepts – Gender Equality and Family Wealth.

GENDER EQUALITY:

In India, a woman is called a Shakti. Unfortunately, the position of women in Indian society deteriorated significantly from an initially respected status in the Vedic period to a state of subordination and marginalization, driven by rising patriarchal norms, deplorable social practices and the diminishing of women’s educational and property rights. To dismantle this deep-rooted patriarchy and cultural norms, massive dose of gender equality was needed and off late, we have witnessed good progress in this direction.

FAMILY WEALTH:

However, unfortunately, women in India have suffered from high rate of sexual and domestic violence and massive burden of unpaid household work. Even though women almost work day in and day out doing household work and up-bringing of children, the society has failed to recognize the value of the work done by women in contributing towards nurturing family and social relations as well as in building-up the Family Wealth. At times, men continue to feel that the wealth generated is theirs only.

As a result, often it is observed that women neither get a share in their father’s (parents’) family wealth nor in their husband’s family wealth. Recently in April, 2025, in Angadi Chandranna v. Shankar & Ors. (2025 INSC 532), the Hon’ble Supreme Court held that post-partition, an individual’s share becomes his self-acquired property, making him its absolute owner.

Even though the laws have been amended (supported by certain judicial pronouncements) giving women their well-deserved rights in Family Wealth, these legal positions are subject to what is known as absolute freedom granted by ISA to dispose of self-acquired properties. Possibly, there would be numerous instances where women are requested to give-up (relinquish) their rights under Hindu Succession Act and also in joint family properties.

Thankfully, there is significant amount of awakening noticed on these issues and many parents at least while exercising the freedom granted by ISA, try their best to address the same.

A NOTE OF CAUTION

There is a possibility that a testator may blindly (without appreciating the factors like few illustrated herein) say: “for me all my children are equal”. Though, no doubt, gender equality is highly desirable, particularly in up-bringing of the children, situations may change as children grow up and settle-down in their own lives necessitating rational/ logical application of concept of gender equality while bequeathing the family wealth. If applied routinely and in casual manner, it is bound to lead to major misunderstandings and injustice resulting in avoidable litigation which can bleed all the concerned family members heavily in terms of money, time and strained family & social relations. It is therefore recommended that every testator attempts to be rational while exercising the freedom granted by ISA and his actions are justifiable.

What is – Rational Exercise of Testamentary Disposition Freedom?

An equal distribution of assets in many cases may be neither fair nor rational. Responsible or rational exercise of the freedom of testamentary disposition involves balancing one’s legal right to dispose of self-acquired property with moral, social, and familial obligations, ensuring clarity, fairness, and compliance with the law to prevent future disputes. While ISA allows broad freedom to bequeath property, responsible testamentary planning focuses on providing for dependents, ensuring the validity of the actions and avoiding either misunderstanding or malicious disinheritance.

In view of numerous such factors, generality is difficult. Each family set-up is bound to have its own peculiar facts necessitating proper understanding thereof. The concept may also be termed as distributing assets in an equitable and fair manner rather than merely equal distribution of bequeaths.

In conclusion, the concept demands:

• Equitable distribution rather than mere equal distribution,
• Take into account and consider family disparities/ dynamics,
• The concept of ‘equalisation’ doesn’t necessarily imply impartiality,
• The testator needs to factor in substantial sums given as bequests during lifetime to meet certain contingencies,
• If family harmony so permits, have transparent discussion with family members/ heirs about the reasons for specific distribution.

Factors suggesting need for Rational Exercise of Testamentary Disposition Freedom

• Out of two sons, one stays with parents and he and his wife shoulder all family social and parental obligations and responsibilities. Such a son may join family business and runs the same for joint benefits of his and his parents’ families. The other son may settle abroad or financially remain independent from the family all through with occasional family visits.
• In a case where there is a son and a daughter, the son takes over father’s family business and runs the same for joint benefits of his and his parents’ families. He and his wife shoulder all family social and parental obligations. Whereas, the daughter gets married and plays mere passive role in supporting the parents.
• In both the above instances, son with his family may continue to stay with parents in the family residential house for various reasons including substantial amount required to buy a separate house, especially in metropolis cities.

In all the above three instances, rational exercise required is proper consideration as regards business assets as well as the residential house.

• There may be instances where a son (or one of the two sons) while working on his career or while running his business/ profession, continues to handle parents’ savings (investments) and his savings and makes them grow with his efforts and treat it as his and his parents income and wealth, whereas the other son or married daughter plays no role in earning this income and growth of income and wealth. In such or similar scenarios, rational application requires proper appreciation of efforts put in by the son to augment family’s wealth including that of his parents.
• At times, in any of the above instances, if the original family house is sold and a bigger residential house is bought with joint family income and wealth, whereas, the other son or married daughter has not contributed to the amount invested in buying a bigger house. In such a case, rational application can segregate the value of parents’ share in the bigger house as the value of original house when sold as family’s wealth.
• There is also a possibility of one of the children suffering from a physical or a mental limitation while the other child is normal in all respects. A rational approach is required here for appropriate provision for the investment required for maintenance for taking care of physically/ mentally challenged child – son or daughter.
• There is also possibility of daughter’s marriage being in trouble – financially and/ or otherwise, whereas son or second daughter is enjoying good family life. The parents have to make specific additional provision for such a daughter for yearly maintenance and also for the need of a suitable house for her and her children, depending on the available of total family wealth. Similar consideration is required in case where one daughter is not married and who is dependent on the parents.
• In most cases it happens that the responsibility (not burden) of taking care of parents in their old age mainly falls on son’s wife. Unfortunately, a social media message says – ‘My Son is My Son till he gets a wife, but My Daughter is My Daughter till the end of life.’ Such misconceptions create undesirable situations including in the matter of testamentary bequests. The parents need to recognize daughter-in-law as integral part of the family rather than an outsider.
• Considering that all children are not born with equal intelligence, skills or other traits (including what most people believe in – destiny), their upbringing, academic studies, careers and personal family growth may be at variance – at times material variance. The parents need to recognise this issue and provide for testamentary bequests accordingly.
• Also, there are various family obligations – social as well as parental care (physically and if required, financially) during their advanced age. The children (including daughters-in-law) need to keep in mind that taking care of parents during their old age is a moral obligation and there can’t be and they shouldn’t expect quid-pro-quo for discharging this moral obligation. Often, married daughters or children staying abroad play a passive or little role in taking care of these aspects. Hence, the parents ought to consider this fact as to who has held the fort in their advanced ages while making testamentary bequests.

Legal Basis for fair and equitable distribution:

In India, a will is not inherently invalid merely because it is unfair, unreasonable, or inequitable, even if it divides property unequally among heirs who might otherwise be entitled to equal shares under intestate situation. The Supreme Court has clarified that in matters of testamentary disposition (wills), there is no requirement for the distribution to be “fair and equitable” to all children. However, Indian courts will invalidate or look closely at such wills under specific, well-defined “suspicious circumstances” that suggest the document does not truly reflect the testator’s intentions. A will is valid even if unfair, unless the beneficiary cannot explain the unnatural distribution (the “suspicious circumstances”) to the satisfaction of the court.

Considering the stated legal position in India, a testator should narrate the rationale (justification) for the equitable bequeaths to ensure that the testamentary disposition is moral, ethical as well as legally justifiable.

Major pitfall in drawing up a fair and equitable testamentary disposition:

As stated earlier, each family set-up is bound to have its own peculiar facts necessitating proper understanding thereof and this set-up is at times fluid i.e. changing over a period of time. This is likely to disturb the understanding thereof and as a consequence, actions taken based on such an understanding. The writer is of the view that in most such cases, changes are minor in nature and should not disturb the actions taken. In cases where there is any major event happening, the testator may have to consider making suitable changes in the Will.

CONCLUSION:

A Chartered Accountant is respected as a friend, philosopher and guide of his client families because he is well-positioned to know inter-se family relations, besides financial health of a family and all its members and is often called upon to guide.

The testator making his/ her WILL and the Chartered Accountant guiding his client should keep in mind these facts and probably many others, depending on the peculiar circumstances of each case. More importantly, enough thought should be applied while applying the said two concepts – Gender Equality and Family Wealth, and also while drawing up a testamentary document for an equitable and not equal bequeaths with a narrated rationale as preamble.

BCAJ Admin

The FAST-DS 2026 allows individuals to regularize undisclosed foreign assets (up to ₹5 crore) and reporting lapses (up to ₹1 crore) to gain immunity under the Income-tax and Black Money Acts. Crucially, this tax immunity does not automatically extend to FEMA contraventions.

Taxpayers must independently evaluate potential FEMA violations before disclosure. Common breaches include retaining foreign exchange beyond 180 days, making overseas direct investments in entities with step-down subsidiaries or financial services, using non-compliant remittance routes, or acquiring overseas property through unapproved funding. Taxpayers must adopt a holistic approach, regularizing any FEMA breaches separately through mechanisms like Late Submission Fees or compounding.

The Union Budget 2026 introduced a one-time Foreign Assets Disclosure Scheme (FAST-DS 2026) to provide a compliance window to individual taxpayers for regularising past non-disclosures of overseas income and assets. The scheme permits voluntary disclosure of undisclosed foreign income and foreign assets up to ₹5 crore and cases involving mere reporting lapses, where income has already been offered to tax in India but the corresponding foreign assets were not disclosed, up to ₹1 crore. Eligible individuals can regularise such defaults by paying the prescribed tax and penalty and obtain immunity from prosecution and penal consequences under the Income-tax Act and the Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act, 2015. The scheme is strictly restricted to individuals and does not extend to companies, LLPs, firms, trusts, or other non-individual entities.

While the scheme offers significant relief from an income-tax standpoint, tax regularisation does not automatically translate into regulatory regularisation, particularly under the Foreign Exchange Management Act, 1999 (FEMA). The framework for tax regularisation and that of exchange-control compliance operate in distinct, albeit intersecting, domains.

It therefore becomes crucial prior to opting for disclosure, that taxpayers carefully assess whether the transactions leading to the acquisition, holding or transfer of such foreign income and assets are compliant with FEMA and the rules and regulations framed thereunder, as immunity granted under the scheme does not extend to FEMA contraventions.

In this article the authors have attempted to address potential violations that may arise in connection with acquisition, holding, or transfer of such foreign assets, along with the possible remedies under FEMA. In the concluding segment, the article briefly examines the avenues available for regularisation of such breaches.

A. FOREIGN BANK ACCOUNT AND DEPOSITS

An individual disclosing balances lying in foreign bank accounts or fixed deposits abroad, triggers critical examination under Regulation 7 of the Foreign Exchange Management (Realisation, Repatriation and Surrender of Foreign Exchange) Regulations, 2015 and, Paragraph 17 of the Master Direction on Liberalised Remittance Scheme (LRS), which delineate the obligations in relation to repatriation and surrender of foreign exchange imposed on persons resident in India.

The provisions mandate that a person resident in India is required to surrender any foreign exchange received, realised, unspent or unused, to an authorised person within 180 days from the date of such receipt, realisation, purchase, acquisition or from the date of his return to India, as applicable.

Where a resident individual parks funds in a foreign bank account or fixed deposit beyond the stipulated period, such continued retention of funds, would constitute a contravention of FEMA. The provision also extends to incomes earned from investments; and such income would need to be re-invested or repatriated within this period of 180 days, in accordance with applicable guidelines.

B. OVERSEAS INVESTMENT

Overseas Direct Investment in Foreign Entities having Step-Down Subsidiaries

Under Paragraph 1 of Schedule III of the Foreign Exchange Management (Overseas Investment) Rules, 2022 (OI Rules), a resident individual is permitted to make ODI (ODI) in a foreign entity, with a caveat that such foreign entity must not have any step-down subsidiary (SDS).

In other words, whilst individuals are permitted to acquire control in a foreign entity, permission is expressly denied where such foreign investee entity itself acquires control in another foreign entity, thereby creating a layered corporate structure. That said, the rules carve out specific exceptions for acquisition by way of inheritance, qualification shares, sweat equity shares, shares under employee stock ownership plans or employee benefit schemes.

Thus, resident individuals who have utilized their own funds for investment in foreign start-ups or have invested in offshore holding companies operating through multi-layered structures may inadvertently violate India’s exchange control regime. Such structures, while globally accepted as commercial practice, breach the restriction on step-down subsidiaries, thereby rendering the ODI transaction non-compliant ab initio.

Overseas Direct Investment in Foreign Entities engaged in Financial Services Activity

Paragraph 1 of Schedule III of the OI Rules places an embargo on ODI by resident individuals in foreign entities engaged in financial services activity.

A foreign entity will be considered as engaged in the business of financial services activity if it undertakes an activity, which if carried out by an entity in India, would necessitate registration with or regulation by a financial sector regulator in India (such as Reserve Bank of India, Securities and Exchange Board of India, Insurance Regulatory and Development Authority of India, etc.).

Notwithstanding the foregoing, acquisition by way of inheritance, qualification shares, sweat equity shares, shares under employee stock ownership plans or employee benefit schemes is expressly permitted, even if the foreign entity is engaged in the financial service activity.
Individuals often invest in overseas fintech platforms, lending start-ups, trading applications, investment advisory ventures and crypto exchanges, without recognising their classification as financial service entities under FEMA. Consequently, what may appear to be commercially viable investments legally permitted in the host country, may result in a contravention of the ODI framework.

MODE OF FUNDING – NON-COMPLIANT REMITTANCE ROUTES

Regulation 8 of the Foreign Exchange Management (Overseas Investment) Regulations, 2022 (OI Regulations) mandates that overseas investment be made only through permitted routes, including inter-alia banking channels, swap of securities or debits to accounts maintained in accordance with FEMA. The framework strictly precludes funding transactions through cash payments, informal settlement mechanisms or non-banking routes.

Common non-compliances that have surfaced in the context of ODI funding include:

• Cash funding through overseas associates, friends or relatives
• Third-party funding structures
• Informal fund transfers through hawala arrangements
• Personal overseas account transfers outside the recognised banking system, including transfers made through fintech platforms

Such funding structures, often adopted in the interest of speed or operational convenience, can result not only in procedural lapses, but also substantive contraventions of the governing regime.

FAILURE TO COMPLY WITH REPORTING OBLIGATIONS AND SUBMISSIONS FOR ODI

As per Regulation 9 of the OI Regulations, a person resident in India making ODI shall obtain a Unique Identification Number (UIN) before sending outward remittance or acquisition of equity capital in a foreign entity, whichever is earlier, by submitting Form FC along with prescribed supporting documentation to the Authorised Dealer (AD) bank.

The Regulation also prescribes submission of share certificates or other documentary evidence as proof of ODI to the designated AD bank within 6 months from the date of remittance/investment.
A recurrent compliance lapse arises in the delayed filing of Form FC, particularly in cases involving newly incorporated entities. Under the ODI regime, investment / financial commitment is consummated upon incorporation itself, on subscription to the charter documents of the foreign entity, and Form FC is required to be filed contemporaneously with such incorporation. In practice, however, opening of the overseas bank account may take time. As a result, filings are typically deferred until the remittance of funds, when the bank account is operational, resulting in inadvertent delay in submission of Form FC and generation of UIN.

Another common procedural oversight pertains to delay in furnishing share certificates or other documentary evidence of investment within the prescribed timeline to the AD Bank; thereby tainting an otherwise compliant capital transaction with procedural non-compliance.

C. ACQUISITION OF OVERSEAS IMMOVABLE PROPERTY

Mode of Funding – Funding through channels not specified

Regulation 21 of the OI Rules states that overseas immovable property may be acquired:

•  From a person resident in India: By way of inheritance, gift or purchase
•  From a person resident outside India: By way of inheritance, purchase out of foreign exchange held in Resident Foreign Currency (RFC) Account, remittances under LRS, joint acquisition with a relative who is a person resident outside India or income/proceeds of assets (other than ODI) acquired as per law.

In this context, borrowings from overseas banks/foreign entities or funds mobilised through friends, associates, third parties or informal non-banking channels do not qualify as legitimate routes for funding and could have ramifications under FEMA.

ACQUISITION OF OVERSEAS IMMOVABLE PROPERTY ON DEFERRED PAYMENT / INSTALMENT BASIS

Transactions involving acquisition of property on a deferred payment / instalment basis may be construed as financing arrangements creating an obligation outside India for the resident individual and being a capital account transaction is therefore not permitted without prior RBI approval. One would need to examine whether setting out clear construction milestones linked to payment of instalments could mitigate the characterisation of the transaction as a financing arrangement.

CONCLUDING REMARKS

The instances discussed above are only illustrative and not exhaustive, and potential FEMA non-compliances arising from foreign asset disclosures may vary widely depending upon the structure and regulatory classification of overseas transactions. While the existence of a FEMA contravention does not restrict or bar disclosure under the FAST-DS 2026, such disclosure invariably necessitates a parallel evaluation of FEMA compliance exposure.

It is pertinent to note that relief under Section 6(4) of FEMA is granted to residents to hold, own, transfer or invest in foreign currency, foreign security or overseas immovable property, if the same was acquired when the individual was a person resident outside India or inherited from a person resident outside India.

Taxpayers proposing to avail the scheme should adopt a holistic compliance approach, viewing disclosures not only from an income-tax lens, but also from a FEMA perspective. Where gaps are identified and concerns arise, FEMA provides mechanisms and avenues for regularisation, such as payment of Late Submission Fees (LSF) and compounding of contraventions. It is also relevant to note that FEMA and income tax law operate independently; and non-participation in the FAST-DS 2026 does not, in itself, resolve contraventions under FEMA. Accordingly, while a coordinated review may be advisable, the existence of potential FEMA considerations should not be viewed as a deterrent to making a bona fide disclosure under the scheme.

BCAJ Admin

Every quarter, Indian NBFCs and housing finance companies announce securitisation transactions that improve capital ratios, unlock liquidity, and signal disciplined balance sheet management. Yet some of those same transactions are later revisited and, in certain cases, restated as secured borrowings. The issue is rarely legal or structural. It is accounting; specifically, the misapplication of the derecognition requirements under Ind AS 109.

This article walks through where Indian structures most often fail: cumulative credit enhancements that leave economic risk with the originator, servicing arrangements that go well beyond administration, pass-through mechanics that look compliant on paper but are not, and a persistent under-appreciation of partial derecognition and continuing involvement. It also sets those requirements against the parallel; and sometimes divergent; framework under the RBI’s 2021 Master Directions. The aim is to give practising CAs a clear, working framework grounded in the actual decision tree in Ind AS 109.

1. GETTING THE SEQUENCE RIGHT: WHAT IND AS 109 ACTUALLY DOES

The derecognition model in Ind AS 109 is more structured than the familiar “cash flows – risks and rewards – control” shorthand suggests. In practice, five questions have to be answered in the right order.

Step 0: Consolidate First (Ind AS 109 para 3.2.1 read with Ind AS 110)

Derecognition is assessed only after all subsidiaries, including securitisation SPVs and other structured entities, are consolidated under Ind AS 110. If the originator controls the SPV, the loans stay on the consolidated balance sheet regardless of how clean the transfer looks at the SPV level.

This is not a theoretical nicety. Many Indian securitisation SPVs are thinly capitalised, bankruptcy-remote entities with activities narrowly defined by trust deeds and transaction documents. Depending on how decision-making, exposure to variable returns, and key rights are structured, an originator may well have to consolidate such an SPV. Once it does, derecognition at the consolidated level is off the table, even if the SPV itself would have met all the tests.

Step 1: Whole Asset or Component? (para 3.2.2)

The standard next asks whether derecognition should be applied to:

•  The entire financial asset (or pool); or
•  Only to a part of it.

A part qualifies only if it is:

1. A specifically identified stream of cash flows (for example, only the interest cash flows); or

2. A fully pro-rata share of all cash flows (for example, a vertical 60% interest in every rupee of principal and interest); or

3. A fully pro-rata share of specifically identified cash flows.

Many Indian direct assignment deals and tranche structures sit exactly here: the originator may be transferring, say, the senior 80% of principal cash flows but retaining all excess spread and certain loss-absorbing pieces. If the structure does not fit one of the three categories above, the derecognition analysis applies to the entire asset, not just to the “sold” slice.

Step 2: Have the Rights Expired? (para 3.2.3)

If contractual rights to the cash flows have simply expired; because the loan has been repaid, cancelled, or written off; derecognition follows without further analysis. In securitisation, this is rarely the path; most transactions involve transfers rather than expiries.

Step 3: Has There Been a “Transfer” at All? (paras 3.2.4–3.2.5)

Only now does the standard ask whether the entity has transferred the asset. This can happen in two ways:

1. Transfer of contractual rights to receive cash flows; or

2. Pass-through arrangements, where the originator retains legal title and the right to collect cash flows, but is contractually obliged to pass them on.

The three well-known pass-through conditions (no obligation to pay unless collected; no ability to sell/pledge the asset except as security; remittance without material delay and without reinvestment) sit here in the decision tree. They answer a narrow gateway question: has a transfer occurred at all?

They are not an alternative route that can be invoked when the risks-and-rewards analysis is uncomfortably close. In other words, an originator does not get to say: “The risks and rewards outcome is borderline, so we will instead rely on the pass-through test.” If the contractual rights have been transferred outright, the pass-through limb is simply not engaged.

Step 4: Have Substantially All Risks and Rewards Moved? (paras 3.2.6–3.2.8, B3.2.4–B3.2.5)

Once a transfer is established, the core question is whether the originator has:

•  Transferred substantially all risks and rewards of ownership;
• Retained substantially all of them; or
• Landed in the middle, having transferred some but not most.

The standard is deliberately silent on a numeric threshold. The task is to look at the variability of the asset’s future net cash flows before and after the transfer, across reasonably possible scenarios, and to ask who is bearing that variability.

Crucially, “variability” under Ind AS 109 is not a synonym for “credit loss”. The application guidance identifies a broader set of risks and rewards that have to be considered to the extent they are applicable to the specific asset — including credit risk, interest rate risk, prepayment risk, late payment risk, foreign exchange risk, and equity price risk. For a typical Indian retail loan pool — home loans, vehicle finance, unsecured consumer lending — credit and prepayment risk are usually the two dominant drivers of net cash flow variability, and interest rate risk can become material in longer-tenor floating-rate pools. A scenario framework that tests only credit loss paths will, by construction, miss the prepayment and interest-rate channels through which risk is often retained.

In practice, a convention has developed:

•  If the originator bears more than around 90% of the expected variability in cash flows, it is viewed as having retained substantially all risks and rewards.
•  If it bears less than about 10%, it is generally seen as having transferred substantially all risks and rewards.

That convention draws on IASB implementation guidance and market practice; it is not a safe harbour in the standard. Two cautions follow.

First, the convention should be applied to total variability across all applicable risks, not to credit losses alone. A structure where a senior investor bears material prepayment or interest rate risk but minimal credit risk may show a very different overall variability picture from what a credit-loss-only scenario would suggest — in either direction.

Second, applying the convention mechanically, without examining which risks are being retained, can itself produce wrong answers. A structure where an originator keeps a small, deeply subordinated tranche that absorbs virtually all default losses may fail derecognition even if that tranche is “only” 10–15% of the pool. Conversely, a structure that appears to leave significant residual loss exposure with the originator may, once prepayment and interest rate risk are modelled alongside credit risk, land in the middle zone rather than in outright failure.

Step 5: Control and Continuing Involvement (paras 3.2.9, 3.2.16–3.2.21)

If the risks-and-rewards analysis is clearly one-sided, the answer is simple:

•  Substantially all transferred → derecognise.
• Substantially all retained → continue to recognise and treat proceeds as a secured borrowing.

The interesting cases sit in the middle zone, where the originator has neither transferred nor retained substantially all risks and rewards. Here, the standard asks: has control been retained?

•  If the transferee has the practical ability to sell the asset in its entirety to an unrelated third party, unilaterally and without further restrictions, the originator has not retained control and derecognition of the entire asset follows, with separate recognition of any continuing involvement (for example, guarantees or options).
•  If that ability is missing, the originator is deemed to have retained control and must apply the continuing involvement approach: it keeps the asset on the balance sheet to the extent of its continuing involvement, with the remainder derecognised.

This is an important nuance that tends to be glossed over. Derecognition is not always all or nothing. For guarantees, written or purchased options, or limited credit support, the standard requires
a partial derecognition outcome where the carrying amount of the asset is split between the transferred and retained exposures with reference to the originator’s exposure to changes in the asset’s value.

In the Indian context, this matters for structures with limited first-loss pieces, restricted clean-up calls, or specific loss guarantees: they may support partial derecognition combined with a continuing involvement balance, rather than a simple “keep the whole pool on the books” answer.

2. WHAT A DEFENSIBLE DERECOGNITION FILE LOOKS LIKE

Before getting into the failure points, it is worth front-loading the one thing that tends to be an afterthought in busy closings: documentation. A derecognition conclusion that cannot be traced back to contemporaneous analysis is, in practical terms, a weak conclusion.

At a minimum, a robust file should contain:

1. Scope and consolidation analysis

• Why the SPV or trust is, or is not, consolidated under Ind AS 110.
• Whether derecognition is being assessed for the entire asset or a qualifying component under para 3.2.2

2. Comprehensive enhancement and support inventory

• All contractual credit enhancements (first-loss pieces, cash collateral, sub-loans, guarantees, liquidity or timing facilities, over-collateralisation, excess spread traps).
• Any implicit or reputational support that management regards as likely in stress scenarios.

3. Probability-weighted scenario analysis

•  Base, stress, and severe stress scenarios modelled across all material risks — credit loss, prepayment, and, where relevant, interest rate and foreign exchange risk. A credit-loss-only model is not sufficient evidence of who bears variability.
• Who absorbs what share of losses and upside across those scenarios; how much of the overall variability, aggregated across risks, the originator still bears.

4. Cash flow routing and pass-through mechanics

•  Actual collection account structures, sweep instructions, and timing.
• Assessment of commingling, reinvestment rights, and any timing mismatches between collections and investor payouts.

5. Control and continuing involvement analysis

•  Whether transferees can sell or refinance their positions without originator consent.
• Treatment of options, guarantees, and limited recourse clauses and their impact on continuing involvement and partial derecognition.

6. Legal and regulatory overlay

•  True sale and bankruptcy-remoteness opinion under Indian insolvency law, including learnings from cases such as DHFL.
•  Interaction with the RBI’s Master Direction on Securitisation of Standard Assets; especially where regulatory capital treatment diverges from accounting derecognition.

7. Conclusion memorandum

• A clear statement of the derecognition conclusion (full, partial with continuing involvement, or none) and, where applicable, the gain or loss on derecognition and servicing asset/liability treatment.

This is not gold-plating. For a judgement that can move capital ratios, headline profit, and regulatory perceptions, it is the bare minimum.

3. WHERE INDIAN STRUCTURES ACTUALLY BREAK

With that framework in place, it becomes easier to see where Indian securitisations most often run into trouble.

This is not a theoretical concern. RBI inspection findings and supervisory communications over the past several years have documented instances where securitisation transactions; including those by prominent NBFCs; were reclassified as secured borrowings following regulatory review, with consequential impact on reported capital ratios and profit.

3.1 The Credit Enhancement Trap

Consider a vehicle finance company securitising a ₹1,000 crore retail pool. The AAA-rated senior tranche; 75% of the pool; is placed with investors. The originator retains a 10% first-loss piece plus several other forms of support. On paper, investors hold the majority. In substance, the risk picture can be very different.

Suppose a simplified probability-weighted loss analysis looks like this (losses as a percentage of the pool):

• 0.50 × 20 + 0.40 × 60 + 0.10 × 100 = ₹44.

• 0.50 × 20 + 0.40 × 60 + 0.10 × 150 = ₹49.

The problem is compounded when enhancements are reviewed one at a time and signed off in isolation:

•  First-loss tranche? Market standard.
• Cash collateral? Rating-driven and prudent.
• Subordinated loan to the SPV? Necessary capital structure.
• Corporate guarantee on senior notes? Investor comfort.

Ind AS 109 does not permit this piecemeal lens. Enhancements have to be viewed cumulatively. A stylised snapshot of typical features makes the point:

In one consumer finance deal I observed, there was no explicit first-loss tranche at all; a fact the treasury team leaned on heavily in conversations. On closer reading, the structure featured a sizeable cash collateral account, a subordinated loan to the SPV, a mechanism to trap excess spread, and a timing guarantee. Individually, none of those elements was outside what the market would consider normal. Taken together, they left investors with very little exposure to the pool’s everyday credit risk.

When the numbers were run, the originator’s exposure to variability easily crossed the 90% line. Derecognition failed. The genuine surprise within the deal team at that conclusion says something about how strongly “form” still dominates “substance” in many structuring discussions.

3.2 Servicing: When Administration Turns into Ownership

In India, it is almost a given that the originator continues as servicer. Changing EMI mandates for hundreds of thousands of borrowers, re-documenting security, and altering customer communication flows is expensive and often undesirable. The question is not whether the originator services. It is how.

In one mortgage securitisation, the core sale documents were clean. The real issues lived in the 50-page servicing agreement. Three provisions, taken together, changed the analysis from “agent” to “principal”:

1. Advance servicing fee: the servicer was paid, upfront, the present value of three years of expected servicing fees. If the pool performed poorly, its future workload would fall, but its remuneration would not. That is not a straightforward fee; it is an exposure to pool performance.

2. Clean-up call: the servicer had the right to repurchase the residual pool once it fell below a fixed percentage of original balance. Clean-up calls are common globally, but when combined with local court practice and insolvency risks, an option that can be exercised precisely when the remaining loans are the most distressed has to be examined as a potential continuation of risk.

3. Delinquency repurchase right: any loan hitting 90 DPD could be repurchased at par “for administrative convenience”. Economically, this looked very much like a guarantee on early defaults; the riskiest part of the curve.

The derecognition conclusion was not difficult. This was not a neutral servicing mandate. It was a bundle of rights and obligations that left the bank materially exposed to the same credit risk it claimed to have sold.

Where derecognition does succeed and servicing is retained, there is a further accounting step that is often overlooked:

• If the expected fees for servicing are higher than the consideration the market would require for such services, a servicing asset is recognised.
• If the expected fees are lower, a servicing liability arises.

In both cases, Ind AS 109 requires that the original carrying amount of the asset be allocated between:

•  The portion derecognised; and
•  The retained servicing right (asset or liability);using their relative fair values at the date of transfer. This “splitting” is not an optional nicety; it is part of the derecognition mechanics.

3.3 Pass-Through: Why the Gateway Test Often Fails in Practice

Where the originator has not transferred the contractual rights to receive cash flows, derecognition is only possible if the arrangement qualifies as a pass-through transfer. That requires all three conditions in para 3.2.5 to be met:

1. No obligation to pay the eventual recipients unless equivalent amounts are collected from the asset;

2. No ability to sell or pledge the asset other than as security for the obligation to pay the recipients;

3. An obligation to remit cash flows without material delay and without reinvestment except in cash or cash equivalents during the settlement period.

In one direct assignment, for operational reasons, borrower EMIs continued to hit originator-controlled accounts. The originator swept funds to the SPV monthly, retained any excess as a “performance incentive”, and advanced shortfalls to ensure investors were paid on schedule; recovering those advances from future excess collections.

Every feature had a commercial explanation. Taken together:

• EMIs were commingled in originator accounts for the better part of the month.
• The “performance incentive” created a continuing residual interest well beyond a pure servicing fee.
• Investor cash flows followed a predetermined schedule, not the actual timing pattern of underlying collections.

From an Ind AS 109 standpoint, the originator had not passed cash flows through. It was managing timing differences, bearing gaps, and sharing upside. The gateway “transfer” test failed; the risks-and-rewards and control tests never even properly arose.

This is not an isolated pattern. Monthly waterfalls; standard in Indian securitisation; are not automatically fatal, but they do create timing differences that need to be weighed against the “no material delay” requirement. Where the originator is, in substance, smoothing and reshaping cash flows, a pass-through conclusion is difficult to sustain.

4. PARTIAL DERECOGNITION AND CONTINUING INVOLVEMENT: THE MIDDLE GROUND

Indian practice often treats derecognition as a binary choice: either the pool is off the books or it is not. Ind AS 109 is more nuanced.

Where:

•  The originator has transferred the asset (or a qualifying part under para 3.2.2);
• It has neither transferred nor retained substantially all risks and rewards; and
• It has retained control; the standard requires recognition of the asset to the extent of continuing involvement.

The most common forms are:

• A limited credit guarantee on transferred receivables;
• Written or purchased put and call options;
• Deeply subordinated residual interests or credit-enhancing interest-only strips.

In such cases, the carrying amount of the asset is split into:

•  A portion that is derecognised; and
• A portion that continues to be recognised, measured by reference to the originator’s maximum exposure to changes in the asset’s value.

The associated liability or derivative is measured separately. This approach is particularly relevant where the originator’s support is capped (for example, a guarantee limited to 10% of principal). Treating such structures as a complete failure of derecognition over-states the asset on the originator’s balance sheet and understates the transfer that has actually occurred.

5. IMPLICIT SUPPORT: THE PRESENT AND THE FUTURE

Ind AS 109 and Ind AS 107 both address implicit support; situations where the originator, though not contractually obliged, steps in to support a securitised pool. The standard is clear on two fronts.

First, for the current transaction:

•     If assets have been derecognised and the originator later provides non-contractual support; by making good shortfalls, waiving fees, or absorbing losses; the derecognition conclusion must be revisited. Depending on the nature and extent of support, the originator may have to recognise:

• A new financial asset;
• A guarantee or other liability; or
• In some cases, a renewed continuing involvement in previously derecognised assets.

Second, for future transactions:

• Once an originator has demonstrated a pattern of stepping in to protect investors beyond contractual terms, users of the financial statements; and, importantly, auditors and regulators; are entitled to assume that similar support is likely in future deals.
• IFRS 7 (Ind AS 107) explicitly contemplates this forward-looking dimension: disclosures are required that enable users to understand both the support actually provided and the extent to which derecognition conclusions on future transfers may be affected by that history.

For practitioners, the practical takeaway is uncomfortable but unavoidable: a one-off “reputational” support decision can cast a long shadow. It not only creates an immediate accounting event; it also colours the derecognition analysis for every subsequent securitisation the originator undertakes.

6. A WORKED NUMERICAL EXAMPLE

An end-to-end illustration helps to see how the pieces fit together.

6.1 Structure and Assumptions

• Originator holds a homogeneous retail loan pool:

• Gross carrying amount: ₹1,000
• Loss allowance (ECL): ₹20
• Net carrying amount: ₹980

• The originator transfers the pool into an SPV, which issues notes as follows:

• Senior notes of ₹900 sold to investors.
• Subordinated notes of ₹100 retained by the originator.
• The originator also acts as servicer, receiving an annual fee equal to 0.75% of outstanding principal.

Assume:

• The fair value of the entire pool at the date of transfer is ₹1,020.
• Fair value of the senior notes issued is ₹918.
• Fair value of the subordinated notes retained is ₹94.
• Fair value of the servicing right (based on expected fee flows versus market servicing fee) is ₹8.

Total fair value of the pieces (₹918 + ₹94 + ₹8 = ₹1,020) matches the fair value of the pool.

6.2 Risk and Reward Analysis

A probability-weighted loss analysis similar to the earlier example suggests:

Total expected credit loss on the pool: ₹49.

Expected loss absorbed by the subordinated tranche: ₹44.

The originator therefore bears about 90% of expected credit loss through its subordinated notes. There is no other credit enhancement beyond this tranche. On these numbers alone, and looking only at credit loss, most audit and regulatory reviewers would conclude that substantially all credit risk has been retained. A 90% absorption of expected credit loss sits squarely in the territory where, in practice, the risk-and-reward test is treated as failing — not as an ambiguous middle-zone outcome. The reader should not take 90% as a number that supports derecognition with continuing involvement; in isolation, it does not.

Two considerations, however, are worth running through before closing the analysis:

The subordinated tranche is capped at ₹100. In a truly severe tail scenario, losses above that cap flow through to investors. The absolute ceiling on originator loss is a relevant data point even if the expected-loss share is heavily skewed.

Credit loss is only one dimension of variability. Prepayment risk, interest rate risk, and — where relevant — foreign exchange risk have to be brought into the same calculation. In this example, those risks are borne broadly pro-rata by senior and subordinated holders, so they do not shift the conclusion. In a mortgage pool, they typically would.

Two treatment paths therefore need to be illustrated.

Path A — Risk-and-reward test fails (the likely conclusion on these numbers). The originator has retained substantially all risks and rewards. The pool continues to be recognised on the balance sheet in full. The proceeds of ₹918 received on the senior notes are accounted for as a secured borrowing. No gain on derecognition arises. Interest income on the pool continues to be recognised; interest expense on the borrowing is recognised separately. This is the outcome practitioners should expect to reach on facts of this kind.

Path B — Risk-and-reward outcome is genuinely inconclusive. The numbers above, combined with a fuller scenario model that brings prepayment and interest-rate variability into the frame, may in some structures produce an overall variability share for the originator that is materially below the 90% credit-loss figure — for example, where heavy prepayment optionality in the underlying loans is in substance passed through to investors. Where that fuller modelling pushes the overall variability share into the 40–60% range across the full risk spectrum, the transaction sits in the middle zone and control has to be tested. If the transferee has the practical ability to sell the senior notes freely to an unrelated third party, control has not been retained, and the pool qualifies for derecognition in full with separate recognition of continuing involvement (the subordinated notes and the servicing right). Section 6.3 works through the mechanics for this path, so that the allocation methodology under Ind AS 109 is visible end-to-end.

6.3 Allocation of Carrying Amount and Gain Recognition

The mechanics that follow assume Path B has been reached — that is, that fuller modelling of credit, prepayment and interest rate risk together has placed the originator’s overall variability share within the middle zone, and that the control test (free saleability of the senior notes by the transferee) is satisfied. The allocation and gain computation below then follows.

Ind AS 109 now requires the originator to allocate the net carrying amount of ₹980 between:

• The portion derecognised (cash flow rights sold via the senior notes);
• The retained subordinated interest; and
• The servicing right.

Using relative fair values:

• Senior notes: 918 / 1,020 = 90%
• Subordinated notes: 94 / 1,020 ≈ 9.2%
• Servicing right: 8 / 1,020 ≈ 0.8%

Allocated carrying amounts:

• To derecognised portion: 90% × 980 ≈ ₹882
• To retained subordinated interest: 9.2% × 980 ≈ ₹90
• To servicing asset: 0.8% × 980 ≈ ₹8

(rounded totals reconcile to ₹980).

Accounting entries at the originator level, assuming the transaction falls within Path B of Section 6.2, would be, in simplified form:

• Dr Cash: ₹918 (proceeds for senior notes)
• Dr Investment in subordinated notes: ₹94 (initial recognition at fair value — see classification note below)
• Dr Servicing asset: ₹8
• Cr Loans (pool): ₹980 (derecognition of carrying amount)
• Cr Gain on derecognition: ₹40 (balancing figure in this simplified illustration)

Two points on the mechanics are important, because the entry above is easily misread.

Classification of the retained subordinated notes.

The debit of ₹94 is the fair value at the date of transfer. The allocated carrying amount of the retained interest is ₹90 (9.2% × ₹980, per the allocation above). The subordinated notes can be recorded at fair value at inception only if their classification under Ind AS 109 supports that measurement basis. In a typical securitisation structure, the subordinated tranche is designed to absorb credit losses before the senior tranche is touched. Its contractual cash flows are therefore unlikely to represent solely payments of principal and interest on the principal amount outstanding — the subordination feature itself introduces exposure going beyond basic lending risk. In most Indian structures, a subordinated tranche of this kind will fail the SPPI test and be classified at fair value through profit or loss. If the instrument is at FVTPL, the ₹4 difference between the allocated carrying amount (₹90) and the fair value (₹94) flows through P&L on Day 1 alongside the derecognition gain. If, on the specific facts of a transaction, the retained interest does satisfy SPPI and the relevant business model, it would be carried at amortised cost at the allocated carrying amount of ₹90, and the ₹4 gap would not be recognised up front. The classification analysis is therefore not a footnote — it drives the numbers.

The ₹40 gain as a balancing figure.

The gain of ₹40 is shown here as the residual that makes the entry balance under Path B assumptions. The formal computation under Ind AS 109 is prescribed by paragraph 3.2.12 (difference between the carrying amount measured at the date of derecognition and the consideration received, including any new asset obtained less any new liability assumed), and the application methodology for structures of this kind — allocating the carrying amount of the larger financial asset between the part derecognised and the parts retained, based on relative fair values — is worked through in paragraph 3.2.13 and the application example at B3.2.17. Practitioners applying the framework to their own transactions should work from those paragraphs rather than from the stylised entries above; the actual gain will depend on the classification of each retained component and on the relative-fair-value inputs at the date of transfer.

The conceptual takeaway remains:

• The gain or loss on derecognition is recognised immediately in profit or loss under Ind AS 109.
• The originator recognises a servicing asset and a retained investment, both measured and tracked separately going forward — the retained investment in accordance with the classification and measurement requirements applicable to it.

6.4 RBI Guidelines: Why the Gain May Still Not “Count”

Under the RBI’s 2021 Master Direction on Securitisation of Standard Assets, gains arising from securitisation are typically not available for immediate distribution or unrestricted capital recognition. They are required to be amortised over the life of the transaction or appropriated to a separate reserve.

This creates an explicit and deliberate tension:

• Ind AS 109 wants the full derecognition gain in profit or loss on Day 1.
• The RBI wants the economic benefit of that gain to emerge in regulatory capital and distributable profits only over time.

NBFCs and HFCs have addressed this in practice by:

• Recognising the full gain in P&L in accordance with Ind AS 109; and
• Creating a corresponding appropriation; often styled as a “securitisation reserve”; to align with the RBI’s requirement that gains be spread over the life of the transaction.

From a practitioner’s standpoint, this means that a transaction can pass the derecognition tests robustly and yet leave management explaining why the large headline gain it produced does not translate into immediate regulatory capital relief.

7. REGULATORY CAPITAL VS ACCOUNTING DERECOGNITION

The RBI’s Master Direction on Securitisation of Standard Assets sits alongside Ind AS 109 and often answers a different question: how much regulatory capital relief does this transaction justify?

Two points are worth underlining.

1. The RBI’s framework focuses on:

• Minimum Retention Requirement (MRR);
• Minimum Holding Period (MHP);
• True sale and bankruptcy remoteness;
• Limits on total retained exposures (for example, the 20% cap on total exposure to a securitisation structure, excluding certain interest-only strips).

A transaction that fails accounting derecognition because the originator still bears, say, 80% of the expected credit loss may still satisfy the RBI’s conditions for regulatory capital relief, provided the formal criteria around MRR, MHP and true sale are met.

2. The reverse is also possible. A structure might satisfy Ind AS 109’s derecognition tests; particularly in synthetic arrangements or highly tailored tranche designs; but not qualify for capital relief under the Directions.

The practical implication is that “failed derecognition” in accounting terms is not automatically a failure in regulatory terms. CAs advising boards and audit committees need to keep those frameworks separate in their analysis and in their explanations.

8. PARTIAL TRANSFERS IN INDIAN STRUCTURES (PARA 3.2.2 IN PRACTICE)

Partial derecognition is not merely a theoretical corner case; it is directly relevant to common Indian structures:

• Direct assignments where only specific interest cash flows or a pro-rata share of all cash flows are sold;
• Transactions where senior tranches are sold but junior tranches and excess spread are retained;
• Deals involving interest-only or principal-only strips.

Where the part transferred is:

• A specifically identified cash flow stream (for example, only interest), or
• A fixed pro-rata slice of all cash flows,

Ind AS 109 allows derecognition of that part, provided the rest of the decision tree is satisfied for that component. The remaining part of the asset continues to be recognised.

This matters in practice because it prevents an originator from packaging a subordinated tranche and a residual spread into a single amorphous “retained interest” and then treating the sold tranche as if it were the whole asset for derecognition purposes. Paragraph 3.2.2 forces an explicit analysis of what exactly is being sold and what is being retained.

9. CO-ORIGINATION, IBC, AND TRUE SALE: LEARNING FROM DHFL

Co-origination structures; where NBFCs and larger banks jointly originate loans and then one party seeks to securitise or assign its share; raise questions that go beyond pure credit analysis.

The DHFL proceedings brought that into sharp relief. In that case, receivables that had been assigned to third parties came under a court-ordered freeze when DHFL entered insolvency, at least in the initial stages of litigation. Although the legal position was later clarified and reinforced in favour of bankruptcy remoteness, the episode highlighted two uncomfortable facts:

• A transaction that looks like a clean assignment on paper can still be caught in the slipstream of an originator insolvency, at least temporarily, if courts or resolution professionals take a broad view of the estate.
• For Ind AS 109 purposes, the question of whether contractual rights to cash flows have truly been transferred; and whether the transferee has the practical ability to enforce and sell those rights; cannot be answered by reading the transaction documents in isolation from the insolvency framework and enforcement practice.

In co-origination and similar structures, the continuing relationship between the parties, the way security interests are perfected, and how courts have behaved in stress cases all feed into the derecognition analysis. The DHFL experience should, at a minimum, find its way into the legal and risk sections of any serious derecognition file involving Indian receivables.

10. NEW STRUCTURES, SAME UNDERLYING QUESTIONS

The market is experimenting with forms that did not exist when the early Ind AS 109 guidance for India was written. The decision tree, however, has not changed.

• Synthetic securitisation: credit risk is transferred through credit derivatives or guarantees, while the loans stay on the originator’s balance sheet. Regulatory capital relief may be available if the RBI’s conditions are met. Accounting derecognition is generally not, because contractual cash flow rights remain with the originator and pass-through conditions are not satisfied.
• Co-origination and loan-by-loan assignments: intertwined underwriting, cross-default arrangements, and shared security require careful unpacking before any conclusion can be drawn on whether a qualifying “part” has been transferred and whether risks and rewards have genuinely shifted.
• Portfolio sales to ARCs and private credit funds: earn-outs, upside-sharing arrangements, and minimum return guarantees often create continuing involvement. Those features may block full derecognition at inception or require a continuing involvement model that recognises only partial derecognition.

The questions remain the same:

• Has the right entity been consolidated?
• Is derecognition being applied to the right unit of account; the whole asset or a qualifying component?
• Have contractual rights been transferred or is this merely a funding arrangement?
• Who still bears the real economic variability in cash flows?
• Does the transferee truly control the asset?
• What is the extent of continuing involvement?

11. THE PROFESSION’S ROLE

There is a version of securitisation that works well under Ind AS 109 and under the RBI’s Directions:

• Risk is meaningfully transferred.
• Enhancements are proportionate rather than overwhelming.
• Pass-through mechanisms are clean, operationally as well as legally.
• Servicing arrangements pay for work done without smuggling credit exposure back onto the originator.
• Any residual exposures are transparent, capped, and accounted for under the continuing involvement model.

That version is achievable. The difficulty is that it often conflicts with the instinct to retain upside, protect investor relationships at all costs, and squeeze capital benefits from structures that, in substance, leave the originator still holding the risk.

For CAs in audit, advisory, and industry roles, the obligation is two-fold:

• To understand and apply the full decision tree of Ind AS 109; including consolidation, partial derecognition, pass-through gateways, continuing involvement, and implicit support; rather than relying on a simplified three-question checklist;

and

• To be clear with boards and management teams that accounting conclusions should follow the economic design of the transaction, not the other way around.

Substance, as Ind AS 109 has insisted from the start, is not negotiable.

BCAJ Admin

Section 56(2)(x) of the Income Tax Act taxes the receipt of “specified property” for inadequate consideration. However, this provision does not apply to the transfer of a beneficial interest in a trust. Under the Indian Trusts Act and affirmed by Supreme Court precedents, a beneficiary holds only a right against the trustee, not legal ownership of the trust property. Since “specified property” enumerates assets like real estate and shares—excluding mere “interests” or “rights”—beneficial interests fall outside its scope. Furthermore, conflating the two would trigger severe unintended tax consequences for Mutual Funds and REITs.

1. BACKGROUND

Section 56(2)(x) of ITA, often referred to as the ‘gift-tax’ provision, seeks to bring to tax under the head ‘Income from Other Sources’ any sum or specified property received by a person without consideration or for inadequate consideration. Specifically, section 56(2)(x)(c) provides that where any person receives any specified property (other than immovable property) for a consideration less than its fair market value (“FMV”) determined in accordance with Rule 11UA, the difference between the FMV and the consideration actually paid (if any) shall be deemed to be the income of the recipient.

The legislative history of this provision tracing its lineage from sections 56(2)(vii) and 56(2)(viia) of ITA and the Explanatory Memorandum to Finance Bill, 2010 along with subsequent CBDT Circulars make it clear that section 56(2)(x) was introduced primarily as an anti-abuse measure, intended to curb the laundering and circulation of unaccounted money through the guise of gifts or under-valued transfers. This legislative intent has also found judicial affirmation.

Notwithstanding the above, in practical administration, the operation of section 56(2)(x) has increasingly been extended beyond its intended anti-abuse scope. Rather than being confined to cases of tax evasion or money laundering, it has been invoked as a revenue-generating provision, resulting in unintended taxation of legitimate and bona fide transactions.

The question that is considered in this article is whether the receipt of beneficial interest in a trust, as distinct from trust property itself, constitutes the receipt of ‘specified property’ for the purposes of section 56(2)(x) of ITA. To answer this question, it is necessary to understand the architecture of section 56(2)(x), the nature of beneficial interest under Indian trust law, and the judicial precedents that have conclusively held that beneficial interest and trust property are distinct and separate concepts.

2. ARCHITECTURE OF SECTION 56(2)(X)

Section 56(2)(x) of ITA is a receipt-based provision. It is attracted only where a person receives ‘specified property’ either without consideration or for inadequate consideration. The definition of ‘property’ for the purposes of section 56(2)(x) is imported from the Explanation to section 56(2)(vii) of ITA. This definition is exhaustive and enumerates specific categories of property – immovable property, shares and securities, jewellery, archaeological collections, drawings, paintings, sculptures, any work of art, and bullion. The Explanation does not include ‘interest’ or ‘rights’ per se within its ambit. Undeniably, a beneficial interest in property may constitute a ‘capital asset’ under section 2(14) of ITA.

3. NATURE OF BENEFICIAL INTEREST UNDER THE INDIAN TRUSTS ACT, 1882

3.1 Statutory definition

Section 3 of the Indian Trusts Act, 1882 (“Trust Act”) defines the ‘beneficial interest’ or ‘interest’ of a beneficiary in the following terms:

“The ‘beneficial interest’ or ‘interest’ of the beneficiary is his right against the trustee as owner of the trust-property.”

The commentary on this definition by J. N. Bagchi in ‘Trusts in Taxation and Tax Planning’ elucidates as follows:

“In this definition the interest of the beneficiary has been defined to be his right against the trustee as owner of the property. The beneficiary has no estate or interest in the subject matter of the trust according to the definition above. The beneficiary has only the legal right to enforce the benefit conferred by the trust on him and no other interest.”

From the plain language of section 3 of the Trust Act and its authoritative commentary, several propositions of fundamental importance emerge. First, upon settlement of a trust, the trust property vests with the trustee. Second, the trustee is the legal owner of the trust property. Third, the beneficiary has only a legal right to enforce the benefit from the trust property and critically, has no estate or interest in the subject matter of the trust.

The inescapable corollary is that by its very definition, beneficial interest in a trust cannot be equated with the trust property itself.

3.2 Sections 56 and 58 of the Trust Act

Section 56 of the Trust Act confers upon the beneficiary a statutory right to ask for specific execution of the trust and, in specified circumstances, to require the trustee to transfer the trust property to him or to such persons as he may direct. This provision is a statutory acknowledgement that the trust properties economically belong to the beneficiaries. However, the right of the beneficiary under section 56 is a right against the trustee to enforce the terms of the trust — it is not an ownership right in specie in the trust property.

If one were to contend that beneficial interest in a trust is equivalent to the trust property itself, the operation of section 56 of the Trust Act would become redundant. The trust property would always be said to be under the ownership of the beneficiaries, requiring no separate act of transfer. The very existence of section 56 as a mechanism to compel transfer of trust property from trustee to beneficiary belies any such equivalence.

Section 58 of the Trust Act expressly provides that a beneficiary, if competent to contract, may transfer his beneficial interest to any other person. The significance of this provision for the present analysis is twofold. First, it confirms that beneficial interest is a transferable property right. Second, and more fundamentally, it makes clear that on such transfer, what changes hands is only the beneficial interest — the trust property itself continues to remain within the coffers of the trust, and the trustee continues to be the legal owner of such property. There is no transfer of trust property on a transfer of beneficial interest.

Once notice of the transfer of beneficial interest is given to the trustee, the trustee will make distribution of profits and income from the trust property to the transferee. This further confirms that the trust property remains within the trust despite the transfer of beneficial interest by the beneficiary.

3.3 Recommendation of the Indian Law Commission

The term ‘beneficial interest’ was introduced in Indian law on the recommendation of the Indian Law Commission, which observed with the express purpose of departing from the English concept of dual ownership of trust as follows:

“And in order to prevent the possible introduction by pedantic lawyers of conceptions resembling the English ‘legal estate’ and ‘equitable ownership’ we would define the ‘beneficial interest’ of the beneficiary as his right against the trustee as owner of trust property. The beneficiary should, in our opinion, have no estate or interest in the subject matter of the trust.”

The Statement of Objects and Reasons of the Trust Bill further stated that the beneficiary has, under the Bill, ‘no estate, or interest in the subject matter of the Trust’. This legislative history makes it pellucidly clear that the term ‘beneficial interest’ was deliberately crafted to eliminate any possibility of introducing the English concept of the beneficiary having an ‘equitable interest’ in the trust property. The beneficiary has a ‘beneficial interest’ — a right against the trustee as owner of the property — but no estate or interest in the subject matter of the trust.

3.4 Dictionary meaning

The Black’s Law Dictionary (6th edition, page 156) defines ‘beneficial interest’ as:

“Profit, benefit or advantage resulting from a contract, or the ownership of an estate as distinct from the legal ownership or control.”

The Black’s Law Dictionary (9th edition, page 913) defines ‘beneficial interest’ as:

“A right or expectancy in something (such as a trust or an estate), as opposed to legal title to that thing.”

These dictionary meanings reinforce the position under the Trust Act: a beneficiary has a right in the trust, but such right is not equivalent to the ownership of the trust property. The beneficial interest is the right; the trust property is the subject matter. They are distinct.

4. JUDICIAL PRECEDENTS AFFIRMING THE DISTINCTION BETWEEN BENEFICIAL INTEREST AND TRUST PROPERTY

4.1 W.O. Holdsworth v. State of Uttar Pradesh [1957] 33 ITR 472 (SC)

The taxpayers in this case were trustees of an estate settled under a will, who were called upon to pay agricultural income-tax under section 11(1) of the U.P. Agricultural Income-tax Act, 1948. The question was whether the trustees held the land ‘on behalf of’ the beneficiary-annuitants within the meaning of that provision.

The Supreme Court, in a landmark pronouncement, definitively articulated the nature of the trust relationship under Indian law:

“A trustee is the legal owner of the trust property and the property vests in him as such and the beneficiary has only a right against the trustee as owner of the trust property. The trustee holds the trust property for the benefit of the beneficiaries but he does not hold it on their behalf. The expressions ‘for the benefit of’ and ‘on behalf of’ are not synonymous and convey different meanings. The former connotes a benefit which is enjoyed by another thus bringing in a relationship as between a trustee and a beneficiary or cestui que trust; the latter connotes an agency which brings about a relationship as between principal and agent between the parties.”

The Supreme Court thus categorically held that a trustee does not hold property on behalf of beneficiaries — he holds it for the benefit of beneficiaries. The beneficiary has a right against the trustee, and nothing more.

4.2 CWT v. Kripashankar Dayashanker Worah [1971] 81 ITR 763 (SC)

This ruling arose under the Wealth Tax Act, 1957 (“WTA”). Section 21(1) of the WTA provided for levy and recovery of wealth tax from trustees, referring to trustees as holding trust property ‘on behalf of’ beneficiaries. The taxpayer, relying on the ruling in W.O. Holdsworth, argued that since a trustee holds property for the benefit of and not on behalf of beneficiaries, the inartistic language of section 21(1) rendered the provision unworkable.

While the Supreme Court upheld the application of section 21(1) of the WTA, it explicitly acknowledged the legal position under the Trust Act:

“It is well established that a trustee does not hold the trust property on behalf of the beneficiaries but he holds it only for their benefit. Under the Trusts Act, it is indisputable that a trustee is the legal owner of the trust property. He holds the trust property on his own right and not on behalf of someone else though he holds it for the benefit of the beneficiaries.”

The Court proceeded to hold that since Parliament had specifically included trustees in section 21(1) of the WTA, and since the legislative intent was clear, the provision had to be given effect notwithstanding its inartistic drafting. The Court read down the provision to give it meaning in light of the legislative intent.

It is submitted that the ratio of the Kripashankar ruling is restricted to the specific context of section 21(1) of the WTA, where the legislature had made a deliberate, albeit inartistically worded, provision to assess wealth tax in the hands of trustees. The ruling does not, in any sense, hold that under the Trust Act, trustees hold property on behalf of beneficiaries.

4.3 CWT v. Trustees of H.E.H. Nizam’s Family (Remainder Wealth Trust) [1977] 108 ITR 555 (SC)

In this case, the Supreme Court was concerned with the extent of wealth tax liability of a trustee under section 21 of the WTA. A trust had been created with a corpus of Rs. 9 crores divided into 175 notional units, of which 161.5 units were allocated amongst relatives mentioned in the trust deed.

The Supreme Court made the following seminal observations regarding the nature of what is taxable in a trust:

“What is important to note is that in either case what is taxed is the interest of the beneficiary in the trust properties and not the corpus of the trust properties… This position becomes abundantly clear if we look at sub-section (5) which clearly postulates that where a trustee is assessed under sub-section (1) or sub-section (4), the assessment is made on him ‘in respect of the net wealth’ of the beneficiary, that is, the beneficial interest belonging to him.”

The Court illustrated this by a numerical example: where trust property was worth Rs. 10 lacs held for a life beneficiary A and two remaindermen B and C, the total wealth tax assessable on the trustee (or the beneficiaries directly) would be only the actuarial value of A’s life interest plus the present value of B’s and C’s remaindermen interests — which would together amount to less than Rs. 10 lacs. The balance would not be subject to wealth tax.

The Supreme Court expressly acknowledged:

“In fact in most cases, if not all, the aggregate of the values of the life interest and the remaindermen’s interest would be less than the value of the total corpus of the trust property, since the value of the remaindermen’s interest would be the present value of his right to receive the corpus of the trust property at an uncertain future date and this would almost invariably be less than the value of the corpus of the trust property after deducting the value of the preceding life interest.”

The very fact that beneficial interest (as taxable in the hands of beneficiaries or the trustee) is valued differently and typically at a lower amount than the corpus of the trust property is a conclusive illustration that the two are distinct assets. Had beneficial interest been merely another name for trust property, the valuation would have been identical.

4.4 CWT v. Mrs. O.M.M. Kinnison [1986] 161 ITR 824 (SC)

The question in this case was whether the beneficial interest of a non-resident beneficiary under an English will trust where the corpus included Indian shares and managing agency rights constituted an asset ‘located in India’ for purposes of section 6(i) of the WTA.

The Supreme Court affirmed the High Court’s finding that the beneficial interest of the taxpayer was a right in the nature of a chose-in-action enforceable in England, and therefore constituted a foreign asset not subject to wealth tax in India. The Court observed:

“All that the assessee was entitled to on the valuation dates was the right to have the trust administered and… the right of the assessee was a right enforceable in that Court and, therefore, must be regarded as a foreign asset, an asset not located in India.”

Several propositions of significant relevance flow from this ruling. The legal ownership of the trust properties vested with the trustees. The beneficial interest of the taxpayer did not extend to any right of ownership in any of the trust properties in specie. The right which the taxpayer acquired under the trust was a right to have the trust administered in accordance with the provisions of the will. The character of the beneficial interest as a separate, distinct asset — different from the trust property — was affirmed.

4.5 Indian Oil Corporation v. NEPC India Ltd. [2006] AIR 2780 (SC)

In this case, the Supreme Court was called upon to consider whether the right of a creditor-hypothecatee could be equated with the beneficial interest of a beneficiary in trust property. The Court
categorically rejected this equation and, in doing so, provided an authoritative definition of ‘beneficial interest’:

“The term ‘beneficial interest’ has a specific meaning and connotation. When a trust is created vesting a property in the trustee, the right of the beneficiary against the trustee (who is the owner of the trust property) is known as the ‘beneficial interest’. The trustee has the power of management and the beneficiary has the right of enjoyment. Whenever there is a breach of any duty imposed on the trustee with reference to the trust property or the beneficiary, he commits a breach of trust.”

This ruling unequivocally establishes that ‘beneficial interest’ is the beneficiary’s right against the trustee not ownership of or an interest in the trust property itself.

4.6 Yasmin Properties (P) Ltd. v. ACIT [1993] 46 ITD 331 (Mumbai Tribunal)

The Mumbai Tribunal in this case was concerned with the computation of capital gains on the transfer of beneficial interest held in a trust. The Tribunal held that the cost of acquisition of beneficial interest is determinable, and computed it as the proportionate share of the Taxpayer in the corpus.

While arriving at this conclusion, the Tribunal explained the nature of trust ownership as follows:

“When a trust is created, the ownership over the property is split into two: (i) the legal ownership which is acquired by and rests with the trustee; and (ii) the beneficial ownership which is acquired by the beneficiary by virtue of transfer under the trust and which is enjoyed by him. It is very important and curious instance of dual ownership which allows the separation of power of management and the rights of enjoyment. The trust ownership and beneficial ownership are separate and independent of each other in their destination and disposition both. Either of the two may be transferred or encumbered without affecting the other in any way.”

The Tribunal’s ruling, while dealing with the capital gains chapter, is an important recognition that trust ownership and beneficial ownership are separate and independent assets. A transfer of one does not affect the other. This principle is directly relevant to the present controversy: a transfer of beneficial interest does not result in a transfer of the specified property (i.e., the trust property itself) held by the trust.

4.7 Bombay High Court decisions: G.G. Morarji v. CIT [1958] 58 ITR 505 and Dr. R.B. Kamdin [1974] 95 ITR 476

In G.G. Morarji’s case, the Bombay High Court held, under the erstwhile Gift Tax Act, that a beneficiary has an equitable title to the trust property. However, this ruling was expressly overruled by the same Court in Dr. R.B. Kamdin’s case, where it was held that in a case of trust, the property is vested with the trustee and there can be only one owner of the property, i.e., the trustee. The Bombay High Court, in the latter ruling, relied upon the Privy Council ruling in Chhatra Kumari Devi v. Mohan Bikram Shah [1931] LR 58 IA 279 (PC), which had observed:

“The Indian law does not recognise legal and equitable estates… By that law, therefore, there can be but one ‘owner’, and where the property is vested in a trustee, the ‘owner’ must, their Lordships think, be the trustee.”

Importantly, rulings of the Privy Council retain binding force on all High Courts unless overruled by the Supreme Court, as confirmed by the Supreme Court in Shrinivas Krishnarao Kango v. Narayan Devji Kango and Others [1954] AIR 379 (SC) and Delhi Judicial Service Association v. State of Gujarat [1991] AIR 2176 (SC). The Privy Council ruling in Webb v. Macpherson [1903] LR 30 IA 238 (PC) further holds that Indian law knows nothing of the distinction between legal and equitable property. Accordingly, the view in G.G. Morarji’s case is not good law and must give way to the ruling in Dr. R.B. Kamdin.

4.8 Vanraj Ranchhoddas Merchant (through Legal Heir) v. ITO [ITA No. 5234/Mum/2025, AY 2011-12] (Mumbai Tribunal)

In Vanraj Merchant, an individual, held a 20% undivided share along with his four brothers in an ancestral family trust property situated at Colaba, Mumbai, since 10.02.1977. Out of his 20% share, the assessee assigned 10% undivided share in the said trust to his nephew for a consideration of Rs. 28,00,000/- vide registered deed dated 09.01.2010. The Assessing Officer, invoking section 50C of ITA, proposed to substitute the stamp duty valuation of Rs. 1,11,06,716/- as the full value of consideration. The Tribunal, on a careful examination of the registered assignment deed, found that the assessee had not transferred land or building in his own right. The operative clauses consistently described the subject matter of transfer as the life interest of the assessee in the trust property. The Tribunal held:

“The deed does not convey the corpus of the immovable property nor does it divest the trust of its ownership in the land or building. The ownership of the immovable property continued to vest in the trust at all material times, and the assessee merely assigned a limited, determinable and beneficial interest arising therefrom.”

The Tribunal proceeded to explain the nature of a life interest in law with considerable precision:

“In law, a life interest represents a limited estate, the duration of which is co-terminus with the life of the holder and which stands extinguished upon his death… Such an interest does not confer absolute ownership in the immovable property, nor does it vest in the holder the power to deal with the corpus of the property as an owner… Where such life interest arises under a trust arrangement, the position is even more restrictive. Under the Indian Trusts Act, 1882, the legal title vests in the trustee, and the beneficiary’s enjoyment is circumscribed by fiduciary and preservative obligations imposed on the trustee for the benefit of all beneficiaries, including remainder men. The beneficiary holding a life interest acquires only a beneficial interest and not ownership of the trust property.”

Applying the principle that deeming fictions must be strictly construed, Tribunal held that the subject matter of transfer was not an immovable property but beneficial interest, and such transfer of beneficial interest did not trigger section 50C of ITA.

While this ruling arises in the context of section 50C of ITA rather than section 56(2)(x), the principles enunciated are of direct and compelling relevance. The Tribunal has unequivocally affirmed that a beneficiary holding a life interest in trust property “acquires only a beneficial interest and not ownership of the trust property”. The legal title vests in the trustee; the beneficiary holds only a limited, determinable right against the trustee. This is precisely the distinction that underpins the argument that beneficial interest does not constitute ‘specified property’ under section 56(2)(x) of ITA. The Tribunal’s recognition that the nature of the interest transferred and not merely the character of the underlying property must govern the tax analysis, is a principle that applies with equal force in the context of section 56(2)(x).

4.9 Partnership firm analogy

The nature of a beneficiary’s interest in a trust is remarkably analogous to a partner’s interest in a partnership firm, both being unincorporated entities not recognised as distinct legal entities under law.

The Supreme Court, in Addanki Narayanappa v. Bhaskara Krishnappa [1966] AIR 1300 (SC), held in the context of partnership firms:

“Whatever may be the character of the property which is brought in by the partners when the partnership is formed or which may be acquired in the course of the business of the partnership it becomes the property of the firm and what a partner is entitled to is his share of profits, if any, accruing to the partnership from the realisation of this property, and upon dissolution of the partnership to a share in the money representing the value of the property… no partner can deal with any portion of the property as his own. Nor can he assign his interest in a specific item of the partnership property to anyone.”

Just as a partner has a right to receive profits from the partnership property but not ownership of any specific item of partnership property, a beneficiary has a right to receive income and distributions from the trust property but not ownership of any specific trust asset. In both cases, the interest of the co-owner (partner or beneficiary) is a distinct asset from the underlying property of the entity.

During the subsistence of a partnership, a partner may assign his interest but what he assigns is the right to receive the share of profits which the assignor had. Similarly, during the subsistence of a trust, if a beneficiary transfers his beneficial interest under section 58 of the Trust Act, what he transfers are the rights attached to that beneficial interest (right to income, right to corpus on dissolution, right to specific execution etc.), but not the trust property itself, which remains with the trustee.

5. INAPPLICABILITY OF SECTION 56(2)(X) TO TRANSFER OF BENEFICIAL INTEREST

5.1 Beneficial interest is not ‘Specified Property’

As discussed, section 56(2)(x) of ITA is triggered only on the receipt of ‘specified property’ as defined in the Explanation to section 56(2)(vii) of ITA. The specified property does not include ‘interest’ or ‘rights’ per se. Beneficial interest being a right against the trustee as owner of the trust property, and not the trust property itself, is not a specified property. Its receipt by transfer is therefore beyond the scope of section 56(2)(x) of ITA.

Equally, while a mere transfer of legal title to property (without beneficial interest) is not covered by section 56(2)(x), a transfer of beneficial interest without a transfer of the legal title to the specified property should also not be covered. The provision is aimed at the transfer of the property itself, not rights attached to or arising from that property.

5.2 No transfer of trust property on transfer of beneficial interest

A transfer of beneficial interest under section 58 of the Trust Act does not result in any transfer of the trust property. The trust property continues to remain with the trustee, who remains the legal owner. The transferee of the beneficial interest steps into the shoes of the transferor-beneficiary in terms of the rights to income and corpus distribution, but acquires no ownership of the trust property.

Section 56(2)(x) of ITA contemplates a receipt-based charge, i.e. a person ‘receives’ the specified property. In the context of a transfer of beneficial interest, the transferee does not receive the underlying trust property. He receives only the rights constituting the beneficial interest. In the absence of a receipt of the specified property, the foundational requirement for invocation of section 56(2)(x) is absent.

5.3 Role of section 161 of ITA

It may be argued that section 161 of ITA which provides that trustees shall be assessed to income in a representative capacity in respect of beneficiaries — implies that beneficiaries are to be treated as owners of trust property. This argument must be rejected for the following reasons.

Section 161 of ITA is a fiction limited to the taxability of income. It provides a methodology by which income may be taxed in the hands of trustees as representative assessees of the beneficiaries. It does not purport to determine the ownership of the underlying asset. Income may be taxed in the hands of trustees without altering the nature of the property right held by the beneficiaries.

It is a well-settled principle that a statutory fiction must be construed strictly and cannot be extended beyond the purpose for which it is created — see State Bank of India v. D. Hanumantha Rao [1998] 6 SCC 183 (SC) and CIT v. V.S. Dempo Company Ltd. [2016] 387 ITR 354 (SC). The fiction created by section 161 of ITA is restricted to the assessment of income and cannot be extended to determine ownership of the underlying asset for the purposes of section 56(2)(x) of ITA. Furthermore, the comparable fictions in sections 115U, 115UB, and 115TCA of ITA which provide that investments made by a Venture Capital Fund, Alternative Investment Fund, or Securitisation Trust are to be treated as if made directly by the investor in the underlying assets demonstrate that when Parliament intends to create a fiction of direct ownership, it does so explicitly. The absence of any analogous fiction in section 161 of ITA underlines the limitation of its scope.

6. REPERCUSSIONS IF BENEFICIAL INTEREST WERE EQUATED WITH TRUST PROPERTY

Equating beneficial interest with trust property would lead to a series of anomalous and unintended consequences across Indian tax and commercial law. It is instructive to enumerate these consequences, as they further support the proposition that the two must remain distinct.

Mutual funds in India are organised as trusts. Investors are allotted units representing beneficial interest in the trust. If beneficial interest were equated with the underlying trust property, the following consequences would ensue: (a) in the context of equity-oriented mutual funds, capital gains exemption under section 10(38) of ITA (as it existed) should have been available on transfer of units since the unit-holder would be effectively transferring the underlying listed shares — which is clearly not the legislative intent; and (b) under bilateral tax treaties such as the India-Mauritius DTAA and the India-Singapore DTAA, the transfer of mutual fund units might have to be treated as a transfer of shares of Indian companies, conferring India with a taxing right.

Section 98 of the Finance (No. 2) Act, 2004 which introduced Securities Transaction Tax (“STT”) provides separate entries for the levy of STT on shares, units of mutual funds, and units of business trusts. The existence of separate legislative entries for shares and mutual fund units is itself a recognition by Parliament that units of mutual funds (beneficial interest in the trust) and the underlying shares (trust property) are distinct instruments. Had they been the same, a single entry would have sufficed.

Real Estate Investment Trusts (“REITs”) are established as trusts by regulation. If beneficial interest (REIT units) were equated with the underlying real estate, a transfer of REIT units would be treated as a transfer of immovable property, potentially attracting section 50C of ITA which provides for stamp duty value as deemed consideration in transfers of immovable property. This would fundamentally undermine the REIT framework.

7. SPECIFIC TRUST VERSUS DISCRETIONARY TRUST: TRANSFERABILITY OF BENEFICIAL INTEREST

Section 58 of the Trust Act permits the beneficiary to transfer his beneficial interest, subject to the law for the time being in force as to the circumstances and extent in and to which he may dispose of such interest. In the case of a specific trust, where the beneficiary is identified and the share in the trust is determined, the beneficial interest is vested and transferable.

In the case of a discretionary trust, the position is more complex. The beneficial interest of a discretionary beneficiary is uncertain, both as to whether the beneficiary will be selected by the trustees and as to the quantum. It is well established under section 6 of the Transfer of Property Act, 1882 that a mere possibility or expectancy is not a transferable property. Whether a discretionary beneficiary has a ‘present’ beneficial interest in the trust (notwithstanding the uncertainty of selection) or only a mere expectancy is a nuanced question of trust law that warrants careful legal analysis depending upon the terms of the trust deed. This aspect of the law requires input from the legal fraternity.

In either case, whether specific or discretionary trust, the fundamental proposition remains: the beneficial interest is a distinct asset from the trust property. A transfer of beneficial interest does not amount to a transfer of the trust property. Section 56(2)(x) of ITA, being confined to specified property, is not triggered.

8. AUTHOR’S VIEW

Considering the foregoing discussion, the following propositions may be advanced with reasonable confidence:

•  The definition of ‘specified property’ under section 56(2)(x) of ITA (read with the Explanation to section 56(2)(vii)) does not include ‘interest’ or ‘rights’ per se. Beneficial interest, being a right against the trustee as owner of the trust property, and not the trust property itself, does not constitute ‘specified property’.
•  Under Indian trust law as codified in the Trust Act, a beneficiary has no estate or interest in the subject matter of the trust. The beneficial interest is a personal right against the trustee, enforceable as a chose-in-action. The trustee is the sole legal owner of the trust property.
•  A transfer of beneficial interest under section 58 of the Trust Act does not result in a transfer of the underlying trust property. The trust property remains with the trustee; only the rights constituting the beneficial interest change hands.
•  The Supreme Court rulings in W.O. Holdsworth (1957), Kripashankar Dayashanker Worah (1971), Nizam’s Family Trust (1977), and Mrs. O.M.M. Kinnison (1986) all consistently affirm that a trustee does not hold trust property on behalf of beneficiaries; the beneficial interest of a beneficiary is a distinct and separate asset; and the valuation of beneficial interest is different from the valuation of the underlying trust property.
•  The absence of ‘interest’ and ‘rights’ from the definition of ‘specified property’ under section 56(2)(x), combined with the structural and conceptual distinction between beneficial interest and trust property, leads to the conclusion that section 56(2)(x) of ITA is not attracted on the receipt of beneficial interest in a trust, whether by way of gift or for inadequate consideration.
•  The equating of beneficial interest with trust property would lead to a series of unintended and anomalous consequences across REITs, AIFs, and other trust-based investment vehicles further confirming that such an equation cannot be the correct legal position.

BCAJ Admin