The Central government on 5th August introduced the Taxation Laws (Amendment) Bill, 2021 in the Lok Sabha, to repeal the Retrospective legislation on indirect transfer tax. The Finance Ministry had presented a bill to encourage greater overseas investment into India, which is being hailed as a welcome respite for firms that have long invested in the country.
The bill later passed by Lok Sabha on August 6, 2021 and By Rajya Sabha on August 09, 2021. Taxation Laws (Amendment) Bill, 2021 got the assent of President on 13th August 2021 and it is been notified by the Government on the same day as Taxation Laws (Amendment) Act, 2021.
A retrospective tax is levied on transactions that occurred in the past. It levies taxes on a transaction that occurred before the law was enacted. It might be a new or extra fee on previous transactions. Thus, Retrospective taxation refers to the creation of an additional charge or levy of tax as a result of a change made from a certain date in the past. Typically, countries use retrospective taxes to address inconsistencies in their taxation rules that have previously allowed firms to exploit such loopholes. However, this retrospective tax penalizes businesses that intentionally or mistakenly read the tax regulations incorrectly.
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Problems with the Retrospective Tax Regimes
- Creates Tax Uncertainty: The 2012 retrospective amendments run contrary to the idea of tax certainty and harm India’s reputation as an appealing investment location.
- Disrupts Prudent Financial Management: Retrospective taxation attracts opposition since taxpayers would have paid under the previous regime if they had followed the laws at the time and considered their whole budgeting environment. Prudent financial management may be jeopardized if retrospective tax is levied since taxpayers would be required to pay an extra sum.
- Breach of International Investment Treaties: An international arbitration panel decided last year that India’s imposition of a tax burden on Vodafone violated an investment treaty between India and the Netherlands. Several humiliations have lately been inflicted on India in international arbitration while contesting tax claims made under the retrospective clause.
- Tax Terrorism: Retrospective taxation is seen negatively by investors. Tax terrorism is defined as the unauthorized use of authority by tax officials to charge taxes using legal or illegal ways. The Vodafone case is a typical example, in which, notwithstanding a Supreme Court judgment in favour of the corporation, tax rules were retroactively modified.
- Reputational Damage: The retrospective taxes harmed India’s reputation as a fair and dependable system. It resulted in needless, lengthy, and costly litigation.
History of Retrospective Taxation in India
In the Union Budget of 2012, the United Progressive Alliance (UPA) administration included a retrospective tax provision. It was introduced after the Finance Act was amended, allowing the tax department to impose a tax on profits from past profits, including the transfer of shares to foreign organizations in India after 1962, as well as allowing the public authority to demand that organizations pay charges on mergers and acquisitions (M&As) that occurred prior to that date.
The Vodafone Dispute
It all started when Vodafone, the world’s largest telecom firm, paid $11 billion for a 67 per cent share in Hong Kong-based Hutchison Whampoa.
It should be noted that the formal paperwork and other documentation of this agreement were eliminated outside of India, but the Indian government stated that Vodafone was required to pay the income tax charged on the agreement since it entailed the transfer of existing assets in the nation. As a result, the Indian government lodged a Rs 7,990 crore claim to the business, claiming that it should have deducted tax from the source before making a payment to Hutchison. Vodafone pursued the case to the Supreme Court, which finally decided in its favour. The government quickly approved the retrospective amendment.
While the amendment was meant to just charge Vodafone, it caught many other firms off guard and produced a slew of difficulties in India in the long run. It is still one of the most contentious changes to the tax code. Following the passage of the retrospective tax law, Vodafone was first asked to pay about Rs 7990 crore. After extra interest and penalties in 2016, demand escalated by more than Rs 22,000 crore.
The case of Cairn India
Cairn Energy Plc was another firm that was penalized under the retrospective tax law. As part of the restructuring process in 2006-2007, Cairn UK had to transfer shares to Cairn India Ltd. At that time, the firm did not have to pay any taxes as a result of the restructuring process, which included the transfer of shares. The Vedanta mining complex acquired a substantial portion of Cairn India’s interest, but Cairn UK was not permitted to transfer its position because Indian tax authorities stated that the firm must first settle tax arising from the underlying transfer of shares to its Indian organization.
Cairn India was ordered to pay Rs 10,247 crore in retrospective taxes despite the fact that the company was entirely bought by Vedanta in 2011. When Cairn refused to pay the tax, a series of cases were filed before the Income-Tax Appellate Tribunal (ITAT). Cairn lost the lawsuit, and the tax authorities fined him up to Rs 10,247 crore for the first tax assessment. Later, with the addition of penalties, the total had risen to more than Rs 24,500 crore. During the arbitration, the government also received Rs 1,140 crore in dividends as a result of its minority stake in Cairn India and set aside Rs 1,590 crore in exchange for demand.
As a result, Cairn Energy Plc and Vodafone Group Plc both filed a slew of lawsuits against the Union Government in international courts and the Permanent Court of Arbitration in The Hague, alleging that the retrospective amendment violated Article 4(1), which deals with fair and equitable treatment promised under two separate Bilateral Investment Treaties (BIT). It states that if the government takes any action that causes investors to lose money, the government must compensate them. In the case of Vodafone, the court decided that India had violated the terms of the agreement and that it needed to stop collecting the taxes. The Arbitration Tribunals issued verdicts in favour of Vodafone and Cairn, directing the Government of India to return the legal costs of the companies as well as all taxes collected in this respect. The Indian government was requested to give $1.2 billion to Cairn Energy. When India refused to follow the ruling of the arbitration court, Cairn petitioned various courts throughout the world to take Indian property. After getting an injunction from a French court, it recently confiscated some Indian property in Paris.
Provisions of the Amendment Bill
According to the Income Tax Act, non-residents are obligated to pay tax on income earned via or originating from any business relationship, property, asset, or source of income in India. The 2012 Act stated that if a business is formed or incorporated outside India, its shares are assumed to be or have always been located in India if they derive a significant portion of their value from assets located in India. As a result, anybody who sold such foreign company shares before the Act’s passage (i.e., before May 28, 2012) became subject to pay tax on the profit derived from the sale.
It is also proposed to provide that any demand for the indirect transfer of Indian assets made prior to May 28, 2012, will be null and void upon the fulfilment of certain conditions, such as the withdrawal or furnishing of an undertaking for the withdrawal of pending litigation and the furnishing of an undertaking to the effect that no claim for cost, damages, or interest will be made.
Conclusion
The Indian government has acknowledged that the retrospective taxability of indirect transfer laws has resulted in a negative investment outlook. To improve investor confidence, the Bill intends to repeal the effect of a retrospective amendment adopted in 2012 that attempted to tax indirect transfers of shares in foreign firms. This government proposal would result in the settlement of high-profile tax disputes, and tax demands generated because of the 2012 amendment.
The Finance Minister, Nirmala Sitharaman made a significant observation, stating that the retrospective taxation regime violates the idea of tax certainty and degrades India’s status as a preferred location. And this long-overdue reform demonstrates to international investors that India has a very competitive tax structure while also providing them with much-needed certainty. After years of prolonged litigation, companies such as Vodafone and Cairn will breathe a sigh of relief; the only sour note is that no interest will be paid on such tax returns.
Written By: Aayush Akar, Student, National Law University Odisha & Deepanshi Kapoor, Student, Alliance University
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