Retrospective taxation

#GS3 #Economy

 

Context : In a unanimous decision, the Permanent Court of Arbitration at The Hague on Friday ruled that India’s retrospective demand of Rs 22,100 crore as capital gains and withholding tax imposed on the British telecommunication company for a 2007 deal was “in breach of the guarantee of fair and equitable treatment”. The court has also asked India not to pursue the tax demand any more against Vodafone Group.

 

What is retrospective taxation?

  • As the name suggests, retrospective taxation allows a country to pass a rule on taxing certain products, items or services and deals and charge companies from a time behind the date on which the law is passed.
  • Countries use this route to correct any anomalies in their taxation policies that have, in the past, allowed companies to take advantage of such loopholes. While governments often use a retrospective amendment to taxation laws to “clarify” existing laws, it ends up hurting companies that had knowingly or unknowingly interpreted the tax rules differently.
  • Apart from India, many countries including the US, the UK, the Netherlands, Canada, Belgium, Australia and Italy have retrospectively taxed companies, which had taken the benefit of loopholes in the previous law.

 

What happened after India passed the retrospective taxation law?

  • Once Parliament passed the amendment to the Finance Act in 2012, the onus to pay the taxes fell back on Vodafone. The amendment was criticised by investors globally, who said the change in law was “perverse” in nature.
  • Following international criticism, India tried to settle the matter amicably with Vodafone, but was unable to do so. After the new NDA government came to power, it said it would not create any fresh tax liabilities for companies using the retrospective taxation route.
  • By 2014, all attempts by the telco and the Finance Ministry to settle the issue had failed. Vodafone Group then invoked Clause 9 of the Bilateral Investment Treaty (BIT) signed between India and the Netherlands in 1995.

 

What is the Bilateral Investment Treaty?

  • On November 6, 1995, India and the Netherlands had signed a BIT for promotion and protection of investment by companies of each country in the other’s jurisdiction.
  • Among the various agreements, the treaty had then stated that both countries would strive to “encourage and promote favourable conditions for investors” of the other country. 
  • The two countries would, under the BIT, ensure that companies present in each other’s jurisdictions would be “at all times be accorded fair and equitable treatment and shall enjoy full protection and security in the territory of the other”.
  • While the treaty was between India and the Netherlands, Vodafone invoked it as its Dutch unit, Vodafone International Holdings BV, had bought the Indian business operations of Hutchinson Telecommunicaton International Ltd. This made it a transaction between a Dutch firm and an Indian firm.
  • The BIT between India and the Netherlands expired on September 22, 2016.

 

What did the Permanent Court of Arbitration at The Hague say?

  • One of the major factors for the Court of Arbitration to rule in favour of Vodafone was the violation of the BIT and the United Nations Commission on International Trade Law (UNCITRAL).
  • In 2014, when the Vodafone Group had initiated arbitration against India at the Court of Arbitration, it had done so under Article 9 of the BIT between India and the Netherlands.
  • Article 9 of the BIT says that any dispute between “an investor of one contracting party and the other contracting party in connection with an investment in the territory of the other contracting party” shall as far as possible be settled amicably through negotiations.
  • The other was Article 3 of the arbitration rules of UNCITRAL, which, among other things, says that “constitution of the arbitral tribunal shall not be hindered by any controversy with respect to the sufficiency of the notice of arbitration, which shall be finally resolved by the arbitral tribunal”.a
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