Why India is on a sticky tax declare

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Photo: Mint

Two high profile disputes India has with UK Vodafone Group Plc and Cairn Energy Plc have proven difficult to resolve and are testing government tax and investor protection policies in international forums. Mint takes a look at what’s at stake

What is at the heart of this tax dispute?

At the heart of the dispute is India’s efforts to levy taxes on capital gains that non-resident investors make when they sell companies that were founded elsewhere but hold Indian assets. Vodafone’s entry into India via a complex transaction shows this. In 2007 the Dutch branch of Vodafone Group bought a Cayman Island-based company that indirectly held a majority stake in Indian Hutchison Essar Ltd – later called Vodafone India – for $ 11 billion. Demand from the center £7,900 million taxes were upheld by the Bombay Supreme Court but rejected by the Supreme Court in 2012. India then amended the Income Tax Act to clarify that such transactions were taxable.

What are the effects of the change in the tax law?

The retroactive amendment to the tax law met with sharp criticism. After the Bharatiya Janata party came to power, FM Arun Jaitley promised in his Union budget for fiscal 2015 that the NDA government would not make any retrospective changes that would create new liability. Jaitley also said the retrospective tax only got India a bad name and nothing in the way of taxes. According to the law, the pending tax claims would, however, be continued to their logical conclusion. Vodafone, Cairn, applied for damages under India’s bilateral investment agreement. In 2015, India canceled all 73 bilateral investment agreements and proposed a new model.

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Troubled water

Has the government tried to resolve retrospective tax disputes?

Yes. India offered a mediation scheme to resolve retroactive tax disputes, but it failed. However, reducing tax disputes remained a top priority for the government. Several systems have been put in place to provide tax security and to negotiate disputes between Indian and overseas tax authorities.

What is at stake in Voda, Cairn is important?

The government does not allow companies that use previous bilateral investment protection treaties to seek compensation for tax claims that violate their sovereign tax laws to remain undisputed. For companies, the tax levy could add up to large amounts of interest and penalties that could affect their balance sheets. India has mutual tax administration agreements with tax authorities in other countries, which could mean India can avail itself of its help with tax reimbursement.

Why is the government pursuing controversial claims?

In the eyes of the government, indirect transfers involving Indian assets have always been taxable and this was emphasized in the 2012 “Clarification Change”. Aggressive planning by companies with transactions that are legal in their form but designed to avoid taxes has been challenging. In addition, companies receive tax credits, expense deductions, and incentives for being a job creator, which is mostly not available to individuals. Since the tax base is limited, letting go of a tax claim would mean relying overly on other taxpayers

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