India Losses ₹22,100 Cr Tax Arbitration Case To UK Telecom Giant Vodafone at the Permanent Court of Arbitration 

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Moshiuzzaman
Moshiuzzaman holds a 2:1 LL.B degree from BPP University (UK). He is currently pursuing the CFA chartership and working as an independent legal researcher at the American Society of International Law (ASIL)

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The Permanent Court of Arbitration has ruled in favour of the UK based telecommunication company, the Vodafone Group over a retrospective tax dispute under an India-Netherlands Bilateral Investment Treaty. 

Background

In May 2007, Vodafone Group’s Dutch affiliate, Vodafone International Holdings BV (VIH) acquired a 67% stake in India based Hutchison Essar Limited (HEL) for $11 billion. This transaction included the mobile telecom business and other assets of Hutchison. Later in September 2007, the Indian authorities claimed Rs. 7,990 crores in capital gains and withholding tax from Vodafone, alleging the company should have deducted the tax at source before making a payment to Hutchison. 

Vodafone subsequently challenged the demand against the Income Tax Department of India in the Bombay High Court. The Court, in the case, ruled in favour of the Income Tax Department. The decision was challenged by the Vodafone Group and taken to the Supreme Court of India. Ruling in favour for the Vodafone Group, the Supreme Court held that their interpretation of the Income Tax Act of 1961 was correct; deeming Vodafone not liable to pay taxes for the stake purchased in HEL. 

However, the same year, the then Finance Minister late Pranab Mukherjee sought to circumvent the ruling of the Supreme Court by proposing a bill in parliament that would amend section 9 and 12 of the Income Tax Act of 1961 – provisions which were of paramount significance to the Supreme Court’s ruling in the litigation above. Soon after, the Bill became law (the Finance Act 2012), and the sections were amended and given retrospective effect from 1961. 

The Retrospective Legislation 

Retrospective taxation occurs where countries seek to pass a rule on taxing certain products, items or services, and deals to charge companies a tax levy from the point of time before the when the law was passed. Countries resort to this route to correct any anomalies in their taxation policies that have, in the past, allowed companies to take advantage of existing loopholes in the law. Although the retrospective effect is given to “clarify” existing laws, these have the effect of financial wounding companies that may have advertently or inadvertently interpreted tax legislation differently. Even though the general principles of the law do not encourage legislation to have retrospective effective, many developed countries with strong legal backbone often produce retrospective legislation, and these include countries like the United States, the United Kingdom, Canada, Australia and Italy. Nevertheless, India’s decision to give retrospective effect to tax legislation caught mass criticisms by international investors and various prominent legal minds, even in India. 

Violation of the Bilateral Investment Treaty 

With the renewed Income Tax Act 1961, Indian authorities demanded Vodafone to pay off their tax debt, which had accumulated to Rs. 22,100 crores. VIH resorted to the first investment treaty arbitration under the India-Netherlands Bilateral Investment Treaty (BIT) of 2012. Vodafone argued that, even after the Supreme Court had given their decision in the matter, the imposition of tax claims with retrospective effect was a blatant disregard to Art 4.1 of the Treaty which promised fair and equitable treatment to investors, and included an obligation to ensure a predictable and stable business environment for business.

State of confusion and the second ITA dispute

Until 2017, India had primarily maintained their claim. However, later in that year, Vodafone filed a second ITA dispute under the India-UK BIT contesting the retrospective imposition of the capital gains tax. The Indian government promptly approached the Delhi High Court (HC) seeking an anti-arbitration injunction against Vodafone reasoning that this would amount to an abuse of process as two different arbitrations on the same issue would amount to parallel proceedings and that the matter would run the risk of inconsistent awards. 

Although in Aug 2017, the Delhi HC initially granted an interim order restraining arbitration under the India-UK BIT, in its final judgement in May 2018, the Delhi HC dismissed the government’s plea seeking a full anti-arbitration injunction on the ground for abuse of process. The Court held against the government stating that the government’s concern over any potential “inconsistent award(s)” was largely dismissed by the fact that Vodafone had itself offered to consolidate the arbitral awards under the India-UK BIT and the India-Netherlands BIT.  

Final award

The Permanent Court of Arbitration sitting at the Hague gave an arbitral award holding the Indian government to have violated international investment law, stating that Indian authorities had violated the “fair and equitable treatment” standard under Art 4(1) of the India-Netherlands BIT as well as Art 3 of UNCITRAL, which amongst other things, states that “[the] constitution of the arbitral tribunal shall not be hindered by any controversy with respect to the sufficiency of notice of arbitration, which shall be finally resolved by the arbitral tribunal”. 

Although the Indian government had not been asked to pay any compensations, it has been asked to pay around Rs 40 crore as partial compensation for litigation costs, and to refund the tax which has been collected so far. However, the Indian government can still approach the High Court of Singapore requesting it to set aside the arbitral award, given the seat of arbitration was in Singapore. 


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