Column: Tackling the Vodafone tax dispute

Written by Mukesh Butani | Updated: May 27 2014, 09:55am hrs
A day before the outcome of the 2014 general elections was out, the outgoing government put the ball in the new governments court by withdrawing the conciliation offer made to Vodafone. It is now up to the Narendra Modi-led government to resolve the dispute that has generated unprecedented negative press for the Indian law-makers after they retrospectively amended the tax law to override a well-reasoned verdict of the Supreme Court.

In this article, I have taken a leaf out of the January 2012 judgement, wherein the apex court observed that such levy of tax would tantamount to capital punishment for capital investment, and that it lacked the authority of law.

Reactive retrospective amendment carried out in the Finance Act of 2012, just weeks after the verdict, has drawn strong reactions from foreign and domestic investors alike, particularly over the certainty and stability of Indias tax regime. Non-implementation of the expert committees recommendation in administering the retrospective law was seen as another instance of indecisiveness and lack of sensitivity towards investor sentiments. In general, the past few years have witnessed a provocative and aggressive stance by the tax administration leading to a multitude of disputes in a weak economy contributing to an environment of tax-uncertainty. For the first time in Indias history, certainty of tax laws became an integral part of the oppositions manifesto which included labels such as tax-terrorism and tax-adventurism, ascribed to the outgoing regime. The previous governments actions were lead by its obsession to reduce the fiscal deficit, at any cost, forcing it to raise unreasonable tax demands to shore up its books by simply increasing the number and size of tax audits and assessments.

The new government has a challenge of sorts. It shall have to balance the need for fiscal tightening and achieving the goal of tax governance by upholding the Rule of Law, which can prevail when there exists a sense of responsibility and mutual respect between the three arms of the governmentthe executive, the judiciary and the legislature. In the short-term, addressing perceptions that have gripped investors is most critical.

Besides maintaining status-quoan unlikely scenario in my viewI see limited options for the new government to take Vodafone, or a Vodafone-like dispute, to its logical conclusion. It could either back up its pro-business agenda by repealing the retrospective amendment or it could proceed with the arbitration proceedings initiated by Vodafone under the India-Netherlands bilateral investment treaty(BIT).

Repeal of the law will demonstrate open-mindedness and willingness to address perceptions. This will end the controversy not just for Vodafone, but for other investors as well. However, if the government decides to give a green signal to the arbitration proceedings under BIT, it would be important to understand whether tax disputes stand covered under international arbitration, even though the main objective of such BITs is to protect foreign investment. This was a bone of contention and indicative of the earlier governments view that a tax dispute would not get covered under BIT. A pertinent question arises: Do the tax demands raised by the government as a result of the retrospective amendments amount to denial of justice and breach of the (government) obligations under the BIT to accord fair and equitable treatment to investors Or will the recovery of tax demand result in impairment of investments The question on enforcement of foreign arbitral awards in tax disputes under Indian laws is also an open question. The Arbitration and Conciliation Act deals with domestic and international commercial arbitration and enforcement of arbitral awards. However, the Income-Tax Act, a complete code in itself does not recognise settlement of disputes through arbitration and conciliation.

If the new government chooses to stick to the earlier ones position that tax dispute is not covered under BIT then, though an undesirable option, the stalemate will continue.

If the new government chooses to test waters in an international arbitral tribunal, an arbitration in favour of Vodafone will mean loss of face for the government. I see difficult choices for the government in the coming months. The challenge also poses an opportunity to resolve the issue in a time-bound manner so that the new government is seen as wooing investors and conveys a strong message that India means business.

Vrinda Tulshan, senior associate, BMR Legal, contributed to this article

The author is managing partner, BMR Legal. Views are personal