Vodafone Case Isn’t Tax Terrorism; Mistake Was To Agree To Arbitration

The UPA government first botched up the Vodafone case by quibbling. It’s retrospective tax demand on capital gains made by Hutchison, Hong Kong, was more in the nature of a clarification to tax law rather than a new law, inviting all-round criticism.

The retrospective clarification came after the Supreme Court hinted in 2011 that the government might be justified in feeling peeved by the thinly disguised stratagem of Hutchison and Vodafone doing their deal in an offshore tax haven called Cayman Island, but the law as it stood then did not allow it to tax the transaction.

It is now the turn of the NDA to botch it up over and over again.  First, it agreed, albeit reluctantly, to refer the issue to arbitration, overriding the principled objections of Anita Kapur, chairperson of the Central Board of Direct Taxes (CBDT). And after having acquiesced in the arbitration, it has now allowed a tax notice for Rs 14,500 crore to be issued to Vodafone in its vicarious capacity as representative assessee for Hutchison, thus giving a handle and voice to those who scream tax terrorism.

The root cause wasn’t tax terrorism but allowing grass to grow under one’s feet and being caught in a time warp. The change to the law should have been made when globalisation was bringing in more MNC investment.

However, it does not lie in the mouth of MNCs and their apologists to scream tax terrorism given the strategy of BEPS (base erosion and profit shifting) they have been employing with telling effect to minimise the overall tax bill for the group. The western world has been unsympathetic to the plaintive cries for help from India against cross-border terrorism but 9/11 shook the US like never before. Likewise, the US got a taste of MNC tax evasion gimmicks when Apple thumbed its nose at the US taxman by shifting its residence to Ireland, a latter day Cayman Island. The result: OECD has risen as one to rein in BEPS.

In the event, the Indian handling of Vodafone’s tax demand is not so much tax terrorism as a series of botched tax collection attempts when the horse (Hutchison) had bolted. The government of India was clearly wrong in agreeing to arbitration initiated through the Bilateral Investment Treaty.

There are some matters which cannot be resolved through arbitration on the ground that it would be repugnant to public policy. Marriage, divorce, crime and tax are some such issues. It appears that the Arbitration Act, 1996, doesn’t expressly prohibit arbitration on such matters but courts in India have frowned on arbitration for these matters.  And rightly so.

To be sure, the arbitration panel of three would be guided by Indian income tax law which, in any case, is heavily stacked against the Indian exchequer, but that is not the issue. The issue is: can Indian tax proceedings be left to be determined through arbitration and in the process undermine our own appellate regime? Vodafone should have showed faith in our judiciary by contesting the fresh tax notice on the basis of the 2012 retrospective amendment here instead of calling in the arbitrators. Didn’t the Apex Court overturn the Bombay High Court verdict upholding the original tax demand?

Cairn too has called in the arbitrators. If this trend continues, all the tax woes of MNCs in India, including those emanating out of transfer pricing rules designed to neutralise BEPS, would be resolved by arbitration. What would be then the role of the Indian judiciary vis-à-vis MNCs?

Amazon may take a cue and say it would not abide by what the Indian judicial system says on VAT on online transactions but would abide by what international arbitrators say. Arbitration was meant to expeditiously resolve private commercial disputes. Tax disputes, by no stretch of imagination, can be called private commercial disagreements.