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The world is watching India’s next move

On September 25, an international arbitral tribunal rendered an award in favour of Vodafone International Holdings BV, in its investor protection claims against India under an investment treaty arbitration commenced on the basis of the India-Netherlands Bilateral Investment Treaty.

In 2007 the Dutch affiliate of the Vodafone Group, Vodafone International Holdings BV, acquired 67 percent interest in the Indian telecom company Hutchison Essar Limited. This transaction took place through an agreement between Vodafone International and the Hutchison Telecommunications International Limited involving a Cayman Island-based company, which in turn held majority interest in the Indian company, Hutchison Essar Limited.

Soon after the transaction a tax demand of $2.2 billion was issued by income tax authorities in India. It was refuted by Vodafone on the ground that the transaction between Hutchison Telecom and Vodafone International took place outside India, and did not involve transfer of any capital asset situated in India.

The matter was first argued before the Bombay High court, which ruled in favour of tax authorities. Vodafone filed an appeal before the Supreme Court which held that the income tax department was not empowered to levy capital gains tax on the $11 billion acquisition of Hutchison Essar Limited by Vodafone International Holdings which was consummated through a series of holding companies which were incorporated outside of India.

Vodafone claimed that such retrospective imposition of tax, despite the 2012 Supreme Court judgment, amounts to a violation of fair and equitable treatment obligation under the treaty.

The arbitral tribunal has held that Vodafone is entitled, in respect of its investments in mobile telecommunications in India, to the protection proffered under the treaty. India’s conduct in respect of the imposition on Vodafone of an asserted liability to tax and imposition of interest and penalty thereon, despite the Supreme Court judgement was found to breach the terms of the guarantee of fair and equitable treatment assured in the treaty.

It was thus held that this entails India to cease the conduct of imposition of retrospective tax, and that any failure to comply with it will engage India’s international responsibility.

The Government of India has said that it is in the process of ‘considering all options’ with media reports suggesting that it is likely to contest the award.

This award will have ramifications for India in other pending investment treaty disputes and will have implications on other claims, especially in the space of retrospective tax disputes. In this case there was almost negligible collection of the tax as demanded so there does not appear to be an obligation on India to refund any substantial amount except for costs.

However, in other cases such as the Cairn Energy, where also bilateral investment treaty disputes arising out of retrospective tax legislation are pending, there may be substantial payback obligations as in such cases tax departments have recovered part of demands by appropriating dividends, sale of shareholding and other means.

The award directs India to cease its conduct of imposition of retrospective tax and restrains it from collecting a substantial tax liability. The legislative manoeuvring that India tried by retrospective amendment of its tax law to circumvent the Supreme Court judgment has failed. Such measures have been held to be in breach of fair and equitable treatment assurances India had given under its investment treaty regime to foreign investors.

Now, how India reacts to and deals with this unanimous award passed by a neutral international tribunal will send signals to the international investment community, which will be closely watching the next move by the government as it might impact their decision to invest in India.
Authored by Sanjeev Kapoor is Partner, and Sneha Janakiraman Principal Associate, at Khaitan & Co., Money Control  

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