A retrospective tax is a tax levied on a business or transaction that was carried out in the past. The 2012 amendment to the Finance Act allowed the government to impose retrospective taxes on transactions made after 1962 that involved the transfer of shares in a foreign interest that owned assets in India.
This was introduced to close existing loopholes in the then existing tax system and was triggered by the Vodafone Hutchinson deal in 2007 when Vodafone acquired 67 percent of the shares in Hutchinson. The government tax claim was ₹ 7,990 billion in capital gains and withholding taxes.
In the case of Cairn Energy, a new tax assessment procedure was initiated in 2014 for the Group’s internal restructuring transaction in 2006. A tax claim of 10,247 billion was issued on capital gains made during the corporate restructuring carried out in 2006 prior to the listing of the local company.
Cairn Energy appealed to the Income Tax Tribunal in India, for which the IAT upheld the capital gains claim in March 2017, after which the company appealed to the Delhi High Court.
Meanwhile, in March 2015, Cairn Energy also initiated international arbitration under the 1994 bilateral investment treaty (BIT) between India and the UK. On December 21, 2020, the international arbitration tribunal decided in the case of Cairn Energy Plc and Cairn UK Holding Ltd. in Hague in favor of Cairn Energy, saying India should pay Cairn Energy $ 1.2 billion in damages. The judgment found that India had failed to meet its 1994 India-UK BIT obligations.
Following the verdict in his favor, when the Government of India refused to comply with the order and appealed, Cairn began identifying foreign assets owned by the Government of India that could be confiscated without a settlement. It also launched proceedings in courts in countries such as the US, UK, France, the Netherlands, Quebec and Singapore to enforce the ruling in countries where the Indian government held assets.
Against this background, the government has acted pragmatically and put the spirit of retroactive tax aside, although initially within the government it was considered to challenge the judgment of the arbitration board. The overall focus was mainly on long-term business interests, for which attracting investment is a prerequisite.
This protracted battle between the company and the Indian government is a fine example of a dilemma between sovereign authority and the need to attract investment.
The Indian Constitution gives the government the right to tax individuals and organizations. However, the tax to be levied must be supported by a law passed by the legislature or parliament.
It is important that when deciding on tax laws, account should be taken of the rules of taxation, that is, the characteristics or characteristics that a good and efficient tax system should have: (i) fairness; (II) certainty; (iii) economy; and (iv) convenience.
While the former is controversial due to a dubious interpretation or an ego move by the government at the time, the concept of the introduction of a retroactive tax interestingly marginalizes the other three principles, particularly with regard to long-term damage to the economy.
Not to be missed is to follow developments in which Cairn Energy is bringing the government to the International Arbitration Council, moreover, the move to preserve assets owned by PSUs is certainly contrary to the principle of sovereign rights advocated by the community of the Nations is widely accepted and legally controversial. No country can give up sovereign rights over a single legal person.
On the other hand, in order to present India as an attractive destination for foreign and domestic investors and to make India a production location, security in the tax system and transparency of tax laws are important prerequisites. A stable and clear tax system is necessary to encourage domestic and foreign investment.
The government’s move on August 5, 2021 to abolish the retrospective tax law is certainly to be welcomed and welcomed, given the general business friendliness and need to attract foreign investment.
The matter should have been handled with maturity, especially when it came to power in 2014. There were 16 similar cases that had created too much confusion for investors.
Treasury Secretary Arun Jaitley, who died at the time, said there would be no retroactive tax, but the government retained the right to levy it. In addition, pending proceedings for the 17 legal disputes remained unaffected. Cairn Energy’s recent move may have encouraged other companies.
The application of the amended tax regulation to the ongoing proceedings is subject to the condition that proceedings against the government are withdrawn. That shouldn’t be a problem because sensible companies don’t want to take on government and find themselves on the other side of the discussion table. However, in the overall interest of business, the government should also deal with companies with negotiating skills.
The government’s move to abolish the retrospective tax is a step in the right direction and the need of the hour. This is certainly a commendable move in view of the ease of doing business in India, especially at a time when foreign investors have begun to withdraw from China and explore other attractive destinations to set up their manufacturing facilities and do business.
The bold move by this government would act as a catalyst at a time when the economy has only just begun to recover from the economic crisis caused by Covid-19.
Shettigar is a professor and Misra is an associate professor of economics at the Birla Institute of Management Technology, Greater Noida