Legal experts say unless Indian government gives its consent, the arbitration would be stillborn.
The sources said the finance ministry will seek the Cabinets nod to go ahead with recovery of the tax demand arising from Vodafones acquisition of Hutch Essar seven years ago as attempts at conciliation talks had failed.
We maintain our view that that taxation is not part of BIPA (bilateral investment and promotion agreement) with Netherlands. A response to Vodafones arbitration notice will be finalised by the Cabinet. The earlier Cabinet direction on the income tax department to put on hold recovery proceedings until conclusion of conciliation talks does exist now. We will seek a Cabinets direction on this as conciliation has failed to materialise, said a finance ministry official.
A Cabinet meeting is now likely only after the new government is in place.
Vodafone had on April 17 issued a fresh notice to India for international arbitration to resolve the dispute, which made India call off the conciliation offer.
Finance ministry officials said that Vodafone was well aware of India's position that taxation is not covered by the India-Netherlands BIPA and that the question of appointing arbitrators does not arise.
"Finance minister P Chidambaram had given Vodafone a very long rope to resolve the dispute through the conciliation offer. Deferring the recovery of taxes (on the 2007 deal) from the date of the retrospective amendments to the Income Tax Act in 2012 itself is a major relief given to the company, said another official, requesting anonymity.
Vodafone gave the government two months to reply to the notice served under BIPA. Chidambaram said on Thursday that the Indian government will defend the notice for arbitration from Vodafone. I have already proposed to Cabinet that since they (Vodafone) have issued a fresh arbitration notice, the original offer of a non-binding conciliation should be taken as withdrawn. That offer is no longer there, he said.
Without the consent of the Indian government, arbitration would be stillborn, said Diljeet Titus of law firm Titus & Co.
Arbitration expert Ranjana Roy, however, said that Vodafone has the option to approach the Supreme Court under Section 11 of the Indian Arbitration Act to seek a solution if the Indian government refuses to appoint an arbitrator.
Officials also said that the arbitration notice could be a step meant to put pressure on the next government as political parties have spoken against retrospective amendments to laws in their manifestos. They also said that political parties' noises against such changes to the law need not be read as their approval for striking down the 2012 retrospective amendment to the Income Tax Act, which enhanced the scope of taxing indirect transfer of Indian assets abroad.
It was the 2012 amendment of the Act that revived the tax demand on Vodafone and several similar cases after the Supreme Court had on January 20 that year quashed the tax demand saying the $11-billion Vodafone-Hutch Essar transaction was not taxable in India.
Vodafone apparently chose to go for international arbitration instead of appealing against the retrospective amendment in the Supreme Court as the validity of the retrospective amendments is pending before the court in another, similar case.
After conciliation efforts failed to take off, the finance ministry had in February this year proposed to drop the offer, but the Cabinet decided to give another opportunity to remove an irritant that came in the way of talks. Vodafone initially wanted another transfer pricing case to be clubbed with the capital gains tax dispute in conciliation talks. The government wanted this case to be resolved by the Income Tax Appellate Tribunal so that the larger dispute could be considered for conciliation. However, Vodafone chose not to wait till the ITAT decision.
Tax experts also accused the government of not using the available opportunity to settle the issue of retrospective taxation for ever. One might question the legal basis for the earlier conciliation talks, all inactions and delays as it has been good two years since the retroactive amendments to the IT Act were passed. Clearly, the government has missed the opportunity for addressing the difficulties the retrospective amendments to the IT Act created for the investor community, said Sunil Jain, partner, JSA.