The Vodafone case started in 2007 as any tax dispute between the revenue authorities and a taxpayer. Following two rounds of litigation before the Bombay High Court and culminating in the Supreme Court judgment and the subsequent retrospective amendments to the Income-Tax Act in 2012, it spurred the worldwide campaign against the approach of Indian tax authorities.
For a layman, it may appear strange how a company selling its Indian assets for $11 billion would have no liability to pay tax on it. But devious are the ways of structuring of global transactions that allow moving capital to high profit destinations and not paying tax either in the host country or the home country.
The stand of Vodafone is simplicity itself. According to it, under the sale purchase agreement (SPA) of February 11, 2007between one of its British Virgin Islands subsidiary VIH and a Hutchison group company registered in Cayman Islands, HTILthe entire share capital of another Hutch group company (CGP Investments Holdings Cayman Islands), comprising one single share, was transferred to VIH for $10.85 billion. This was an offshore deal between two foreign companies for transfer of a share of another foreign company. As the seller, purchaser, the asset and the transfer were all outside India, no tax liability arises in India on capital gains accruing to Hutch.
The Revenue took the stand that a holistic reading of the SPA showed this was a composite transaction for transfer of all business assets, interests, and entitlements of Hutch in its Indian business.
The implications of the SC judgment went beyond the Vodafone case and had bearings on many international acquisitions; hence on tax revenues. Fearing erosion of tax base, Parliament, through Finance Act 2012, amended the Income-Tax Act retrospectively, triggering criticism globally. But the legitimacy of bringing to tax indirect transfers of underlying Indian assets brooks no serious discussion as once territorial nexus is established, every sovereign nation has the right to tax gains arising out of such transactions.
As the controversy snowballed and Vodafone invoked BIPA between India and the Netherlands, the government offered to settle the dispute through negotiations. Although details are not known, it appears that while Vodafone wanted conciliation proceedings under the UN Commission on International Trade Law, the government wanted it to be under Indian laws. Failing to agree on the framework rule, the government withdrew from conciliation talks in Feb 2014. In response, Vodafone gave notice for international arbitration under BIPA while the government responded by asserting that tax matters are outside the purview of BIPA. There the matter stands.
While the clamour against dodgy tax practices to avoid tax by MNCs in the home as well the host country gathers momentum in the US and UK, the response in developing world, hungry for foreign investments, is muted. The Public Accounts Committee of the House of Commons, examining tax avoidance by MNCs, took evidence from three large global companies and in its 19th report published on Nov 28, 2012, stated: All three companies accepted that profits should be taxed in the countries where the economic activity, that drives those profits, takes place and that, alongside their duty to their shareholders, they had obligations to the society, from which they derive their profits, which included paying tax. However, we were not convinced that their actions, in using the letter of tax laws both nationally and internationally to immorally minimise their tax obligations, are defensible. They all accepted that the perceived ethical behaviour of corporations could affect consumer behaviour. Being more transparent about their business practices, including paying their fair share of taxes, was becoming an increasingly important issue to their customers.
If these principles are to be applied to the Vodafone case, the capital gains arising to Hutch on transfer of its Indian assets ought to be taxed in India. The question before the new government would be whether this is what it meant by tax terrorism it used in its manifesto
Shahid S Khan
The author is former member, CBDT
As all eyes are set on the first budget to be presented by the new government, a significant challenge before the government is in the realm of taxation. This was also well recognised in the BJP manifesto, which talked about the need to deal with tax terrorism and develop a tax policy roadmap.
Towards this end, one expects quick steps to arrest concerns on account of rising tax litigations. As per CAG report, about R4.4 lakh crore was locked in direct tax litigation till the end of 2011. Today, the greatest casualty of tax litigation is uncertainty in tax-related matters and taxpayer confidence, which is one of the key considerations for driving foreign investments.
The tax controversy in the case of Vodafone has opened a new chapter in the countrys history of tax dispute resolution as the same led to initiation of conciliation proceedings between Vodafone and the Indian government, for which there is no prescribed framework in the present Indian tax law.
Though this conciliation offer has been withdrawn by the Indian government pursuant to issuance of an arbitration notice by Vodafone, such developments are path-breaking as they present an opportunity to the new government to legislate conciliation of tax disputes along with guidance on the exact modalities of the process. While Australia has an effective mediation and conciliation mechanism, even China has added conciliation and mediation provisions in its tax administrative procedures with an aim to settle disputes efficiently. From a global perspective, a foresighted and collaborative approach involved in conciliation method would send a clear signal to the investor community about the intent of the new government to resolve disputes.
While India has the mutual agreement procedure (MAP) as an alternate forum to resolve global tax disputes through discussions with the competent authority of the foreign government, the number of settled cases in the recent past has been low. Introducing a mandatory arbitration provision could provide an effective ADR mechanism under the tax treaty to bind both the governments, like followed by the US in its recent tax treaties.
Apart from introducing a formal conciliation mechanism and strengthening the MAP framework as a collaborative means to resolve disputes, the new government should iron out a few other inherent limitations in the current ADR mechanisms. For instance, the avenues pertaining to the authority for advance rulings (AAR) and settlement commission are available only to specified taxpayers leading to a large number of taxpayers falling outside the eligibility criteria. Similarly, the dispute resolution panel (DRP) as a domestic redressal mechanism has eluded taxpayers from achieving a meaningful resolution of disputes.
There is a strong case for making these existing ADR mechanisms more effective with a view to send clear signals about the openness of the new government to contain rising tax litigations. The eligibility criteria for accessing these mechanisms can be widened and more powers be given to these institutions so as to allow greater coverage. The extension of AAR route to domestic transactions and widening of jurisdiction of settlement commission to cases pending at various appellate forums would provide a greater number of taxpayers access to these alternate avenues. Similarly, recalibration of DRP mechanism to fix the teething ground realities will help in restoring the confidence of taxpayers in dispute resolution. The option of anonymous pre-filing consultation on dispute resolution matters can be explored along the lines of advance pricing arrangements, where such experience has proved to be encouraging.
Although right of appeal against tax disputes is an indispensable feature of any tax system, tax litigation strains the resources of both the government and taxpayer. If the government can address the procedural lacunas and provide an effective tax administration framework by careful placement of ADR policies in the existing taxation structure, it will finally walk the talk on dispute resolution. This would, however, require implementation of reforms not only in letter but also in spirit!
The author is partner, International Tax & Regulatory, KPMG in India. Views are personal