In August, India scrapped a controversial, near-decade-old rule that allowed the government to tax foreign investment deals retrospectively. While the move should help resolve long-standing disputes — including some high-profile ones — New Delhi continues to flirt with retroactive rules affecting businesses, experts warn.
The notorious rule dates back to 2012, when India allowed authorities to tax transactions retrospectively where an Indian asset was transferred between two foreign entities. The rule allowed the government to pursue deals made all the way back to 1962.
While tax authorities did not go that far back, they did pick on a 2007 deal in which UK-based mobile phone company Vodafone Group PLC was held liable for more than $2bn in taxes when it bought a controlling stake in Hutchison Essar, owned by a unit of Hong-Kong based Li Ka-shing’s Hutchison Whampoa.
Another infamous case that grabbed international headlines related to UK-based Cairn Energy. In 2007, the firm listed Cairn India, its India business. Prior to, and in order to facilitate, the listing, it had restructured its business. In 2011, it sold its majority stake to Vedanta Ltd and was left with about a 10% holding. In 2014, Indian tax authorities said they were owed $1.4bn in capital gains tax from the 2007 listing and seized the remaining shares, as well as dividends Vedanta owed to Cairn Energy on its stocks in the Indian firm.
India lost both cases in international arbitration. In fact, in the Cairn matter the tribunal ruled unanimously that India had breached its obligations to Cairn under the UK-India Bilateral Investment Treaty, including the unrestricted transfer of investments and returns, among others. The tribunal awarded Cairn damages of $1.2bn as well as interest and costs, the company said in a statement at the time – money it is yet to receive.
“India’s behaviour has been bordering on belligerence,” says Akash Karmakar, partner at Law Offices of Panag and Babu, a New Delhi law firm. “The government doesn’t have a policy on what to do with foreign arbitral awards. As a country, we have a poor track record on remediating something expropriated.”
With the money not coming through, Cairn has been trying to get access to high-value Indian government-owned assets in different jurisdictions. In May, it filed a lawsuit in New York against national carrier Air India to enforce the award. In July, a French tribunal gave it the right to seize 20 properties in Paris.
Cairn is not the only one chasing the Indian government to get its money back. Altogether, there are about 17 cases at various stages of litigation over retrospective tax demands where the Indian government owes these companies just more than $1bn (India will only return the principal amount and not the interest amount), experts say. Most of this money is due to Cairn.
Gopal Jain, a senior advocate at the Supreme Court of India, says despite the financial and reputational headaches the retrospective tax rule has caused the country, the government has not learned its lesson “for the right reason” but rather “in the nick of time. They only [scrapped] it now because they had no cards left.”
Still, that helps — and shows New Delhi is taking steps in “a certain direction to keep the India story intact. You can’t tell Vodafone to die and tell everyone else to come and invest in the country,” adds Mr Jain.
When New Delhi announced that it was rolling back the rule that triggered so much international litigation, Cairn — which is set to benefit — said that it was “monitoring the situation”.
One reason could be that the amendment to nullify the retrospective tax says that any company that is seeking to take advantage of the measure will first have to drop any and all appeals, petitions or arbitration it may have filed in the matter, as well as submit an undertaking to waive the right to pursue any such claims in the future. In other words, Cairn would have to forgo any right to the $1.2bn arbitration award it has been trying to enforce.
“Retrospective is a bogey in the Indian FDI scenario, and this helps get that off,” says Amrish Shah, partner at Deloitte India.
And India needs at least $400bn in greenfield foreign direct investment (FDI) in areas such as manufacturing and capital-intensive sectors to get to its goal of becoming a $5tn economy by 2027, according to a September report by Deloitte entitled ‘India’s FDI Opportunity’.
As part of the report, Deloitte also surveyed 1200 business leaders from firms in the US, Singapore, Japan and the UK. It found that India is perceived to be a more challenging business environment for multinational companies compared with countries such as China and Vietnam.
The latest amendment is a step in resolving at least one concern on doing business as it helps send out the larger message that India will not carry out retrospective demands, says Mr Shah. But the problem, he adds, is that it may not be enough, as at the same time the government adds in nuances that dilute its message that India is a good place to do business in.
For instance, in its February budget announcement, the government changed the definition of what qualifies under a slump sale — the sale of a business for a lump sum amount — and made it applicable retrospectively from April 2020. In the same budget, it also said goodwill can no longer be depreciated and made that also applicable from the previous April.
Businesses base decisions such as how much advance tax to pay or finalise the price of an acquisition or sale on the information at hand, says Mr Shah. So when you change those metrics “at the stroke of a pen” and do so retrospectively, businesses can suddenly be on the wrong side of the law, because the amount of tax they paid may not be enough (because of which they will have to pay a penalty), or it changes the financial dynamics of a deal and may no longer make sense, he says.
“Two steps forward and one step backward is how they deal with these things,” he says. “The government should think really, really hard and, going forward, if they don’t make anything retrospective, even for a day, that will help in a larger acceptance of New Delhi’s intent.”
This article first appeared in the October/November print edition of fDi Intelligence. View a digital edition of the magazine here.