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Section 95 and Section 96 of Income Tax Act 1961: GAAR and Impermissible Avoidance Arrangement

Sections 95 and 96 formed the core entry provisions of the General Anti-Avoidance Rule, commonly called GAAR, under Chapter X-A of the Income Tax Act 1961. This article explains their meaning, the conditions for an impermissible avoidance arrangement, and the corresponding law now contained in the Income-tax Act 2025.

Updated: 28 September 2026

What is GAAR?

GAAR is a statutory anti-avoidance framework aimed at arrangements that satisfy the conditions prescribed by the Act for an impermissible avoidance arrangement. It is broader than a rule directed at one named transaction because the legislation can examine the arrangement as a whole or an individual step or part of it.

Under the current Income-tax Act 2025, GAAR is contained in Chapter XI. The Income Tax Department has also stated in its official FAQs that GAAR has been retained and that its thresholds, approval mechanisms and procedural safeguards continue.

Section 95 of Income Tax Act 1961: Applicability of General Anti-Avoidance Rule

Section 95 was the enabling provision of Chapter X-A. It allowed an arrangement entered into by an assessee to be declared an impermissible avoidance arrangement and allowed the tax consequences arising from that arrangement to be determined under the Chapter.

Meaning of Section 95

The non-obstante opening gave Chapter X-A overriding operation where its statutory conditions were met. The provision also made clear that GAAR could be applied to a step or part of an arrangement instead of requiring every part of the wider transaction to be treated alike.

When did GAAR under the 1961 Act apply?

Section 95(2) stated that Chapter X-A applied for assessment years beginning on or after 1 April 2018. This historical commencement remains important when examining earlier transactions and assessment proceedings.

Section 96 of Income Tax Act 1961: Impermissible Avoidance Arrangement

Section 96 supplied the substantive test. An arrangement was an impermissible avoidance arrangement where its main purpose was to obtain a tax benefit and it also satisfied at least one of four additional conditions.

Two-stage test for an impermissible avoidance arrangement

For practical reading, Section 96 can be understood as a two-stage statutory test. First, the main purpose of the arrangement must be to obtain a tax benefit. Second, at least one of the four tainted-element conditions in clauses (a) to (d) must also be present. A tax benefit by itself does not reproduce the complete statutory test.

Important expressions used in GAAR

Arrangement: Under the GAAR definitions, the expression is deliberately broad and can cover a step, part or whole of a transaction, operation, scheme, agreement or understanding. This breadth explains why the legislation can focus on an individual component of a larger transaction.

Tax benefit: The GAAR framework uses a statutory definition of tax benefit. Its application should therefore be tested against the definition in the legislation applicable to the relevant period rather than treated as a general expression for any commercial tax saving.

Lack of commercial substance: Under the old Act this was addressed in Section 97. Under the current Act the corresponding provision is Section 180. The question is not determined merely by the label given to a transaction; the statutory tests concerning substance, effect and specified features of the arrangement must be considered.

Current law from 1 April 2026

The current Chapter XI substantially preserves the central GAAR framework. Section 178 is the present enabling provision, while Section 179 contains the test for an impermissible avoidance arrangement. References to old Sections 95 and 96 should therefore be read with the current statutory framework where the Income-tax Act 2025 governs the relevant tax year.

GAAR threshold under Income-tax Rules 2026

Rule 128 of the Income-tax Rules 2026 provides circumstances in which Chapter XI does not apply. One important exclusion is an arrangement where the aggregate tax benefit in the relevant tax year to all parties to the arrangement does not exceed Rs. 3 crore. The Rule also contains specified exclusions concerning certain investments and persons, so the full Rule should be checked before reaching a conclusion on applicability.

Procedure and safeguards before GAAR is invoked

Section 274 of the Income-tax Act 2025 provides the current procedural route. Broadly, the Assessing Officer may make a reference to the Principal Commissioner or Commissioner where the material and evidence indicate that an arrangement may need to be declared impermissible and its consequences determined. If invocation is proposed, the assessee receives notice stating the reasons and basis and is given an opportunity to object and be heard. Where objections remain unresolved, the matter may be referred to the Approving Panel, which also provides an opportunity of hearing before prejudicial directions are issued.

Possible consequences if GAAR applies

Under the current Section 181, tax consequences can include denial of a tax benefit or treaty benefit and, depending on the circumstances, disregarding, combining or recharacterising steps, treating an arrangement as if it had not been entered into, reallocating income or expenditure, or looking through a corporate structure. The consequence must be determined under the applicable statutory provisions and the facts of the case.

Practical points for taxpayers

GAAR analysis is fact-sensitive. The commercial purpose of the transaction, contemporaneous records, allocation of rights and obligations, economic substance, funding flow, tax effect and relationship between individual steps and the whole arrangement may all become relevant. A transaction should not be classified merely because it produces a tax advantage; the complete statutory test and applicable exclusions must be examined.

Frequently asked questions

Official references

For current application, verify the relevant tax year and use the current Act, Rules and official departmental guidance. The official links are also provided in the sidebar for convenient reference.