The Indian government in Budget 2012-13, amended the Income Tax Act, 1961 to retrospectively tax cross-border transactions in which the underlying assets are located in India by which all persons, whether resident or non-residents, having a business connection in India, were required to deduct tax at source, even if the transaction was executed on a foreign soil.
Vodafone & Cairn disputed the claim which was raised by the Indian government and filed a case against the claim. The Indian government preferred a tax battle with Cairn India and Vodafone for over a decade and had failed to end the tax disputes
Eventually, both Cairn and Vodafone went to the Permanent Court of Arbitration in The Hague, Netherlands who ruled both cases, against the Indian government in September 2020 & December 2020 respectively. The tribunal also said that India must not make any more attempts to recover “the alleged tax liability or any interest and or penalties arising from this alleged liability through any other means”.
The government, therefore, introduced The Taxation Laws (Amendment) Bill, 2021, which seeks to refund the amount paid in these cases without any interest thereon. The tax raised for the indirect transfer of Indian assets before May 2012 would be nullified on fulfilment of certain specified conditions such as withdrawal of pending litigations and an undertaking that no damages or claims would be filed.
The Taxation Laws (Amendment) Bill, 2021
Finance Minister Nirmala Sitharaman introduced The Taxation Laws (Amendment) Bill, 2021, which seeks to withdraw tax demands made on indirect transfer of Indian assets before 28th May, 2012.
There are at least 15+ companies entangled in tax disputes with the Indian Tax Authorities based on retrospective tax claims, though Cairn and Vodafone are heading the news.
As per the bill, the government will refund any payments made by these companies under the retro tax, provided they withdraw all legal challenges in the matter. However, no interest will be paid on the amount.
The Cairn India case revolves around capital gains tax on a restructured company. The UK-based company restructured its operations in India and had transferred ownership of its Oil field to Cairn India in 2006.
Cairn India acquired the entire share capital of Cairn India Holdings from Cairn UK Holdings in exchange for its shares. Cairn India argued this was purely a business reorganization with a tax motive, but the Indian IT Authorities decided that since Cairn UK Holdings had made capital gains, it ought to pay Capital Gains tax in India.
The Indian government, in its Budget 2012-13, retrospectively amended the IT Act, 1961 to levy Capital Gain tax on M&A deals, all the way back to 1962, if the underlying assets were located in India.
The Indian Tax Authorities argued that the Oil and Gas company ought to pay Capital Gains tax from the flotation of its Indian subsidiary on the BSE in 2007. The tax authority further seized 10% of Cairn India’s shares in pursuit of taxes recovery.
Post failing to resolve the tax dispute through the judiciary system, the UK-based company filed a dispute under the UK-India investment treaty and sought international arbitration for its losses over expropriation of its investments in India.
The Permanent Court of Arbitration in The Hague, Netherlands ruled in Cairn’s favour stating that India must not make any more attempts to recover “the alleged tax liability or any interest and or penalties arising from this alleged liability through any other means”.
Similar to the Cairn case, the Vodafone case tax battle commenced in 2007. The Indian government amended the Income Tax Act in 2012 retrospectively in Budget 2012-13 after the Supreme Court ruled in favour of Vodafone.
The moot point was whether gains made by Hutchison on the transfer of an Indian telecom network to Vodafone through an offshore share transfer deal were taxable in India or not. Vodafone strongly argued its case and maintained its stand that it was not required to withhold taxes on its payment to Hutchison.
The Indian Tax Authorities took a taxing position over the capital gains of the offshore transfers, because the shares derived their value from assets located in India, despite its victory before the Supreme Court of India.
The decade-long battle has overshadowed the company’s growth plans in India, but other companies began to reconsider their investment plans. This would become a key factor behind the U-turn on retrospective taxation in August 2021.
Retrospective taxation had always been a controversial tax topic in India since 2012. However, investor’s confidence in India is expected to surge after Vodafone and Cairn fully settle their retrospective tax disputes.