As the MAT-on-FII episode showed, the finance ministry needs to be proactive in handling tax cases and anticipating their fallout. What made the MAT case worse was that it was not even related to the infamous retrospective tax amendments that gave India such a bad name. While it is true there was a Castleton ruling that went against the FIIs, there were others both before it and after than went in favour of those who, like FIIs, did not have a ‘permanent establishment’ in India—and let’s not forget the Castleton ruling was in 2012. Instead of the CBDT examining the matter in greater detail, the finance minister was also incorrectly briefed and defended the action in various fora. It was only after FIIs started withdrawing money from India that the ministry did a U-turn, started talking about treaty benefits and finally set up the AP Shah committee to examine the matter.
The same thing happened with Cairn Energy. Even without getting into the rights and the wrongs of the case—the company argues the transaction was a simple business reorganisation of wholly-owned subsidiaries—when the BJP came in, Cairn had not even been issued a formal tax demand. In which case, the case could easily have been referred to the special committee set up to deal with new cases that could possibly result from the retrospective tax. Yet, the government kept arguing that Cairn was an ‘existing’ case and so could not be brought before the committee. Firstly, it was not, but even if it was, nothing stopped the government from bringing it to the committee since Cairn had not, by then, approached any court. Having missed this, the government should have taken the next opportunity and referred the case to the AP Shah panel which was given a mandate to look at other cases as well.
And now that Cairn has decided to approach the arbitration court, the government turns around and says the matter cannot possibly fall under the bilateral investment treaty. Even if this were so, given the matter concerns a foreign firm feeling the Indian taxman is being unfair, the government should have welcomed the opportunity afforded by the arbitration—indeed, it should have appointed its arbitrator by now so as to move on with the case. The other option, of Cairn approaching local courts, the finance ministry knows, can take decades. The government is sending mixed signals to investors—it either wants to fix the tax problem or it doesn’t. The signal going out from Cairn is that it doesn’t.