Why People In This Indian Hill Paradise Need Not Pay Income Tax

As the rest of India scrambled to meet the July 31 deadline for filing Income Tax Returns (ITR), one state remained blissfully exempt from the tax frenzy - Sikkim. Thanks to a special provision under Section 10 (26AAA) of the Indian Income Tax Act, Sikkim has been spared from paying income tax since its merger with India. This exemption was granted to preserve the state's existing tax structure, which was in place before it joined the Indian Union.

Prior to its accession to India, Sikkim had its own tax system, and its residents were not subject to the Indian Income Tax Act. The Government of India, to maintain the status quo, granted Sikkim special exemptions from income tax.

Sikkim Income Tax Exemption Act 

The Union Budget of 2008 repealed the Sikkim Tax Act and exempted Sikkim residents from paying income tax through Section 10(26AAA) of the Income Tax Act. This move was made to preserve Sikkim's special status under Article 371(f) of the Indian Constitution.

Legal challenges

In 2013, the Association of Old Settlers of Sikkim and others challenged the constitutional validity of Section 10(26AAA) of the Income-tax Act, 1961, before the Supreme Court of India. They argued that the definition of "Sikkimese" under this section unfairly excluded two categories of individuals from tax exemption: 

1. Indians settled in Sikkim before it merged with India on April 26, 1975.
2. Sikkimese women who married non-Sikkimese men after April 1, 2008.

As per Section 10(26AAA), introduced by the Finance Act of 2008 (effective retroactively from the tax year 1989-90), the term "Sikkimese" included:

1. Individuals listed in the Sikkim Subjects Register before April 26, 1975.
2. Individuals added to the register by government orders in 1990 and 1991.
3. Individuals whose close relatives (father, husband, paternal grandfather or brother) are listed in the register.

This definition covered most of Sikkim's population but excluded around 1 per cent - Indians who settled in Sikkim before April 26, 1975, and chose not to give up their Indian citizenship, so their names were not in the Sikkim Subjects Register. 

The taxpayers argued this exclusion was unfair and discriminatory. They wanted the tax exemption to include all individuals settled in Sikkim before April 1, 1975, whose names were not in the register. They also argued that denying the exemption to Sikkimese women marrying non-Sikkimese men after April 1, 2008, was discriminatory.

Supreme Court ruling

A two-judge bench of the Supreme Court ruled it was indeed discriminatory to deny tax exemptions to Sikkimese women married to non-Sikkimese men after April 1, 2008. This rule did not apply to Sikkimese men who married non-Sikkimese women or to Sikkimese women who married non-Sikkimese men before this date. The Court found this rule unfair and a violation of the constitutional right to equality. 

For Indians settled in Sikkim before April 26, 1975, whose names are not in the Sikkim Subjects Register, the judges agreed that the denial of exemption was discriminatory but suggested different solutions. Justice MR Shah struck down the rule denying the exemption, while Justice BV Nagarathna used Article 142 of the Constitution to direct the Centre to add a clause to Section 10(26AAA) to grant tax exemptions to these individuals. Until the law is amended, she ordered that these individuals should still get the tax exemption under Section 10(26AAA).