New Delhi’s bold move to scrap the controversial law that sees foreign companies taxed retrospectively is expected to restore international investor confidence in the market and improve the country’s investment climate. Additionally, it should settle ongoing multi-billion dollar tax disputes with telecom giant, Vodafone Plc and Britain's oil major, Cairn Energy.
On August 13, 2021, the Taxation Laws (Amendment) Act 2021 received presidential assent, rolling back the nearly decade-long contentious application of indirect transfer tax, which had been introduced in 2012.
Foreign investors looking to access the Indian market seek stability and certainty in the legal and tax framework when it comes to planning investments, Kshama Loya, leader of investor-state arbitration at Nishith Desai Associates said during a webinar by the firm on 18 August.
"Retrospective application of the law drastically changes the legal framework and disproportionately affects foreign investment...furthermore it is against the rule of law," she noted.
The government implements 'Vodafone Tax'
The tax, commonly referred to as ‘Vodafone Tax’, was introduced in 2012 to charge against the indirect transfer of Indian assets to foreign players. Controversially, the law enabled the application of the tax to deals that had already been completed.
The law initially came about in response to a ruling by the Supreme Court against the government, on its proposal of imposing a tax on Vodafone for the firm’s acquisition of Hutchison Telecommunication's local Indian shareholding, Hutchison Essar.
On February 11 2007, Vodafone agreed to acquire Li Ka Shing Holdings’ 67% controlling stake in the Indian telco Hutchison Essar for US$11.1 billion. Essar Group retained 33%.
The apex court took the stance that, since the deal was executed between two overseas companies, namely Hutchison and Vodafone - to which the Indian tax authority had no territorial jurisdiction - no local taxation should be imposed on the deal.
Faced with the possibility of losing over a billion US dollars in revenue, the government rushed to amend the Income Tax Act with retrospective effect. The decision was made in spite of international pressure, and in doing so, nullified the effects of the Supreme Court’s decision in the Vodafone tax case.
India's Finance Minister Nirmala Sitharaman told parliament on 09 August that abolishing the controversial law would hopefully be “appealing enough” to foreign investors and would end what she termed as the “ghost which we have been carrying…from 2012”. She said that scrapping the retrospective tax would make India "a very clear, transparent, and fair taxation land”.
International action
The 2021 amendment has been long-awaited and follows lost legal battles by the Indian government against Vodafone and Cairn over its alleged greed.
Vodafone initiated arbitration proceedings in 2014 at the Court of Arbitration in the Hague, under the India and the Netherlands Bilateral Investment Treaty. The legal seat of the arbitration was agreed to be Singapore, and the India government challenged the arbitral award favouring British telecom giant, Vodafone, before the High Court of Singapore under its Singapore International Arbitration Act.
The action culminated in 2020, when the Singapore court asked the Indian government to reimburse Vodafone 60% of legal costs borne.
In December last year, the Permanent Court of Arbitration (PCA) at the Hague granted Cairn a US$1.2 billion arbitral award. The ruling detailed the retrospective tax demand to be “in breach of the guarantee of fair and equitable treatment”, and against the India-UK bilateral investment treaty.
With the Indian government refusing to honour the award, Cairn sought legal action across a number of jurisdictions, hoping to recover the US$1.2 billion-plus interest and penalties. The firm successfully secured a French court order to seize 20 Indian government properties in Paris and it is also going after Air India's overseas assets following a lawsuit filed in a US district court.
"Claims made against Indian assets have caused a lot of embarrassment to the Indian government, especially when enforcement action is being taken against assets of the country's flag carrier, as well as government properties," Shinoj Koshy, partner with L&L Partners told FinanceAsia.
The swift steps taken by the government to renounce the taxation demonstrates the importance and seriousness of the issue, said Vyapak Desai, partner with Nishith Desai Associates. As the finance minister said, "hopefully it will remove the negativity".
It is not feasible for the government to litigate in many countries and be on the defensive, Meyyappan Nagappan, leader of the international tax practice at Nishith Desai Associates, told FA.
Abolishing the retrospective tax is equated to what some deem ‘a government dispute settlement scheme’. This is because while a number of companies have paid the retrospective tax following 17 demand notices issued by the tax authority, the abolishment is forward-looking and will only affect those companies whose litigation related to the retroactive tax remains pending. This means that few of those already affected stand to benefit from the 2021 amendment.
Finance minister Sitharaman told Parliament that there were three cases where the government would refund disputed amounts collected. She cited Rs78.79 billion (US$1.06 billion) to Cairns, Rs.447.4 million ($6 million) to Vodafone, and a third company – which she did not name - which is due approximately Rs 480 million ($6.4 million).
Investor sentiment and legal integrity
Bijal Ajinkya, partner with Khaitan & Co told FA that the move to abolish the law - even if rumoured to have been taken in the background of a real push "would still have positive ramifications for the investor community."
Krrishan Singhania, founder and managing partner of K.Singhania & Co agreed that the move would improve the investment climate, especially at a time when the government seeks foreign particpation in the privatisation of its state-owned companies.
Nemin Shah, founder and director of EQX Business Consultancy told FA that he would not characterise the actions of the government as being forced. He explained that if they wanted to, they could have continued the legal battle in one forum or another for years to come.
"There is some degree of magnanimity in the sense that they have acknowledged they were wrong to bring in the retroactive amendment in the first place – very rarely do governments acknowledge their mistakes," Shah said.
Hopes are now pinned on improving investor sentiment towards India and confidence in the country’s legal integrity.
Shah added that in conjunction with the reduction of corporate tax rates and other policy reforms, the move will create a very positive image of India as an attractive investment destination with a tax regime that affords investors certainty and fairness.
