Vodafone, Cairn Score Big Tax Victories-Yet India Won’t Give Up

Despite two big losses the Indian government is in no mood to concede defeat in a decade long tax saga. One that has brought India considerable ignominy as an investment destination and one that ministers of the Narendra Modi-led government have themselves criticised. But past positions are no indication of future action it seems.“I think the new government could have in 2014 said sorry, as part of our manifesto we are withdrawing it. For a few thousand crores in tax they would have got much more by means of investments which would’ve generated so much more indirect taxes,” said Senior Advocate Arvind Datar on the government’s persistence with a tax law it earlier campaigned against. Datar is counsel for Cairn Energy, a foreign investor that’s played a leading role in this unending drama.The story goes all the way back to 2007 - when the Indian tax department sought to tax an offshore transfer of shares between acquirer Vodafone Plc. and two foreign companies that indirectly owned Indian telecom company Hutchinson Essar Ltd. In 2012, the Supreme Court of India struck down the tax demand describing it as “imposing capital punishment for capital investment since it lacks authority of law”. Promptly the government of the day passed a law to tax such indirect transfers, not just prospectively but retrospectively too. Thereby overturning its apex court’s decision.The retrospective tax law resulted in several foreign investors receiving tax demands for transactions done years earlier. Many invoked the provision of fair and equitable treatment in bilateral investment treaties and sought international arbitration against India. Two such cases, brought by Vodafone Plc and Cairn Energy Plc, were decided last year and in both India has lost. “In both cases, I think what the tribunals concluded, was that India was in breach of the fair and equitable treatment guarantee that is contained in each of the treaties and on that basis India was held liable,” Promod Nair, advocate and expert in treaty matters, told BloombergQuint..Why India Lost To Cairn Energy: BQ Exclusive .Yet, India hasn’t given up. In December, the government appealed the decision by the Permanent Court of Arbitration in the Vodafone case. And, given that the damages in the Cairn matter are far more significant—over a $1 billion dollars, it’s expected to appeal that as well. Both appeals will lie with local courts, in Singapore for the Vodafone matter and Netherlands in the Cairn case.The broad grounds for both appeals are likely to be jurisdiction, said Nair. “...tax issues are purely a matter of India's national sovereign decisions and India has not consented to an external body including an international arbitration tribunal ruling on the validity or otherwise of Indian tax legislations. I think that seems to be the bottom line for India.”.While no one would fault a country for fighting till the finish, or in this case till no further appeals are possible, a trifecta of tax policies could undermine India’s efforts to attract big foreign investment by offering no safeguard against arbitrary tax policymaking.1. That India persists in defending a retrospective tax law which members of its own government have described as indefensible.2. That it has invalidated most bilateral investment treaties and seeks to replace them with a 2016 Model BIT that explicitly excludes arbitration of any disputes arising from tax.3. And that it has consistently opposed any mandatory arbitration provision in tax treaties.That leaves foreign investors to local courts.If, say an investor from Germany has the choice of coming to Vietnam or X country or Y country or India and if there is no investment treaty arbitration, there are no safeguards etc., he may think twice, Datar said.He spoke of two multinational clients facing several tax cases in India..“...in both cases, just 2% of the global turnover is from India...but 95% of the litigation is in India. So that’s a huge eye opener.”.Important excerpts transcribed and concised for easy reading..Conclusions.What conclusions can be drawn from the government’s loss in the Vodafone and Cairn cases?Arvind Datar: I think one of the important lessons to be learned is that when we make a law we have to see all the possible consequences of the law. If you make a retrospective law, you have to make a complete impact assessment. Suppose, I made this law retrospective and I am violating a treaty obligation, am I doing something which is not correct?You can’t say that I came into India in 2000, the tax was low and the tax should continue to be low - that is a ruling of the international law (Mongolia vs Russian investors case), but the tribunals said if the laws are retrospective it's a different story altogether.If the same thing happened to an Indian company investing in the U.K.? The U.K. government retrospectively amended the law and levied a 40% tax, eight years in reverse gear with interest and penalty, can you call it fair and equitable?You’ve got sovereign right to tax. Nobody disputes the sovereign right to tax but every treaty is a surrender of sovereignty partially. We both reduce our sovereignty for mutual benefit. We say, I won't tax you and won't tax me in under these conditions. That's what a double taxation treaty is about and sort of BIT is all about and we signed over 100 treaties and we got a lot of money through these treaties. The India-Mauritius double taxation, it has brought in billions of dollars in investments.Promod Nair: I think one point to bear in mind is that there is no formal system of precedent in the investment treaty arbitration. One tribunal’s decision is not binding on another tribunal. I think the main reason for that is that these decisions are rendered under different legal instruments. The Vodafone case was rendered in the context of the Indian Netherlands BIT, the Cairn decision was in the context of the India-U.K. BIT -- so there are different legal instruments. The language of the relevant provisions in each of these treaties are rather different and that's one powerful reason as to why there is no formal system of precedent in the system of investment treaty arbitration.But, having said that, I think it's quite common for tribunals to afford weight to earlier decisions on comparable issues by other investment tribunals. So, a lot of arbitrators feel they have a duty to contribute to the harmonious development of investment law, so as to foster predictability and therefore at least in the informal sense previous decisions will have a huge amount of persuasive effect on other tribunals which are called upon to deal with the same issue.Therefore, I think there is no avoiding the fact for the Indian government that these two decisions will play a fairly powerful role in guiding decisions of future tribunals which are called upon to decide a similar issue..Grounds For Appeal.The appeal in the Vodafone case, and soon maybe in the Cairn case as well, is said to be on jurisdiction grounds - that an international arbitration tribunal has no power to decide on India’s sovereign right to make tax laws.Arvind Datar: They did raise the argument in Vodafone and Cairn that taxation is sovereign and therefore if I tax somebody, it's my sovereign right and that can’t be subject to arbitration. But that has been rejected not only in our case. When we did research for the Cairn matter, I found that apart from Vodafone and Cairn, there are 32 international investment treaty arbitrations involving tax disputes and of those 32, 17 went in favour of the state. The claims are dismissed in 17 cases and allowed in 15 cases. So, there's a kind of an even balance.Nobody questions the country's right to tax. What they (tribunals) are saying is by exercising your sovereign right to tax are you treating the investment unfairly, are you treating it inequitably, are you worried about the FET clause? Now this FET violation can come from pollution law, labour law, tax law or it can come from a contract law. So, this fair equitable treatment has to be to the investment as a whole.Promod Nair: I think it's important to make a distinction between a challenge court considering issues of merits and issues of jurisdiction. As far as issues of merits are concerned, I think the view that is taken in most countries which are parties to the New York Convention on the recognition and enforcement of Arbitral Awards is that the merits are largely a matter for the arbitral tribunals and national courts should not be second guessing the decision of arbitral tribunals on merits. The parties’ agreement was that these disputes would have to be resolved by arbitration and not by a national court. So, therefore, to give effect to that agreement to arbitrate, national courts did not generally review matters of merits.On the other hand, as far as jurisdiction is concerned, I think national courts are conscious of the fact that the jurisdiction of an arbitral tribunal is based on consent. Now if that consent is a qualified consent and not an absolute consent, that is an important factor which needs to be kept in mind. So, if India has agreed to arbitrate international investment disputes with a foreign investor but conditioned that agreement by saying that tax disputes are not arbitrable, I think courts would have to give effect to that qualifier. Now the issue in these cases is whether such a qualifier exists or not and whether such a qualifier exists - one, for the consent to arbitrate and second, whether it also qualifies the scope of the substantive protection itself. Does the protection of an equitable treatment not apply as far as tax disputes are concerned?Now investment treaties are not supposed to be insurance policies for all kinds of business or legal risks that exist and an investor is supposed to take the legal system as it finds it. So, retrospective legislation is not uncommon. This is not the first instance of retrospective legislation in India. Previous instances of retrospective legislation have actually been upheld by the Supreme Court. There are a number of decisions to that effect and therefore, there could be certain such arguments that could be made by India on the merits of the cases as well. But I think India's strongest point would probably be to say that it did not consent to arbitrate tax disputes, that these are disputes that are essentially tax disputes and therefore, the tribunal did not have jurisdiction to rule on them.I think as far as the courts in Singapore are concerned, they've taken an involved approach to a challenge to an award on jurisdictional grounds, they would consider the issue of jurisdiction de novo without being influenced by the decision of the arbitral tribunals but there is a much greater amount of deference as far as the political statement of the merits of the case are concerned.Did India make it clear in the two BITs (with U.K. and Netherlands) that we won’t arbitrate tax disputes?Promod Nair: I think that's where the ambiguity lies. I think the language is not as clear as India would have liked it to be—both in the Vodafone case as well as the Cairn case. That's why in the Cairn case they made the argument based not on the existence of an express exclusion of tax disputes. I think the argument was that there was an implied exclusion of tax disputes from the scope of dispute that could be submitted to arbitration.In the Vodafone case, I think, India probably has a stronger case to advance before the Singapore courts. That's because Article 4 of the India-Netherlands BIT does state that tax disputes fall outside the scope of protections of Article 4 (1) and 4 (2) and 4 (1) - the fair and equitable treatment standard.Arvind Datar: The only thing is I want to make very clear - that this question of tax disputes being outside the arbitral investment.. this is not a tax dispute. The question is, if one country levies a retrospective tax and makes a demand, is it violating the ‘fair and equitable treatment’ clause?So, we made it very clear that we are not disputing whether the section 9 is correct or section, X is correct, or section Y is correct. That is not the jurisdiction for the foreign arbitral tribunal to get into. That is for the Indian courts to decide and the Cairn dispute is indeed pending before the Delhi High Court as we speak, and it will eventually go to the Supreme Court.The ‘fair and equitable treatment’ clause in Netherlands has got no mention about a tax dispute or a contract dispute. It simply says that every investor has got and can expect fair and equitable treatment of his investment. Now, if I make an investment in Indian oil fields or in whatever it is, and by levying a retrospective tax you confiscate my shares or do something, then you are jeopardising my investment and then, you're violating the treaty. That's how the logic is. So, one has to be very clear that we are not going to the merits of a tax dispute..Enforcement Of Awards.The appeals could take upto 2 years. In the meantime, how would the two companies go about enforcing these arbitral awards? Would they seek to move locally or would they seek to move against Indian assets abroad?Promod Nair: If I may start off with the preliminary observation, I think India has a pretty good track record of voluntarily complying with arbitral awards, both in the commercial sphere as well as in the treaty sphere. In fact, the very first investment treaty award that went against India was in the case of White industries, which was an Australian investor and India voluntarily complied with that award without even challenging it.As far as these awards are concerned, I do agree with Mr. Datar that there are going to be challenges to enforcing the award in India. I think the fact that there could be challenges pending before the Dutch courts and before the Singapore courts would be reason enough for the Indian courts to defer enforcement of an arbitration award. Even after that I think there's this ambiguity about whether investment treaty awards are enforceable under the New York convention in India -- the Delhi High Court has taken the view that they are not amenable to enforcement under the New York convention, which creates a bit of a vacuum as far as the legal regime is concerned.These awards need not be enforced in India - India is a party to the New York convention. These two awards are most likely going to be considered to be New York convention awards in 164 other countries which are parties to the New York convention. As long as the investors are able to find assets of the Indian state or its agencies or instrumentalities in these jurisdictions, they may be able to find courts which are willing to enforce these two arbitration awards against Indian assets that are present in those jurisdictions.That means that Cairn or Vodafone would have to seek a court in that particular country to say this building that belongs to India actually now belongs to you...Promod Nair: For example, it could be owned by Air India assuming Air India is not privatised by then. The assets of Air India would be considered to be assets of the Indian state. Those could be attached. There are precedents to that effect where I think the plane of the Royal Thai Prince was attached by a German court and then ultimately that was used to satisfy the requirements of complying with an arbitration award. A ship belonging to, for example, an Indian government-owned company can be seized, monies that are available in the State Bank of India, etc. could be attached. The possibilities are endless. As long as an investor is able to show that certain assets are controlled by the Indian state, its agencies or instrumentalities, those assets would be available for enforcement and attachment.Has this ever happened before?Promod Nair: Not from an India perspective. In fact the examples are actually going to be quite few in other contexts as well. That's because I think as far as governments are concerned they will probably do all that they can to exhaust the legal options available to challenge an arbitration award but once it becomes clear that there are no further avenues of challenge they would be better off complying with the award probably by reaching a settlement with the investor, probably by having the investor discount a portion of its claim because to do otherwise would damage the standing of the state in the international community.Arvind Datar: Forget about Cairn and Vodafone. Let's say that one party X has got an award against country Y. Now, it is not very easy to attach a plane or a ship and so on. It's difficult, it's got its own limitations. But, what is far greater at stake is the reputation of country against whom the award is passed. Is it seen in the international community as a country which is going to do all it can and not pay up the award?What Promod says on insurance policy - according to me an investment treaty is a kind of an insurance. If a foreign investor, say a German investor, has the option to invest in India, Thailand, Vietnam, or Burma - it should know that look if I invest in India, there's an investment treaty which will protect me. If something goes wrong I can go to an independent tribunal which is neither Indian or German and I can get the matter decided. I also know that if I go invest in this country and something goes wrong and I still succeed in the arbitration this country will pay my dues. This is the kind of image and brand building which is important for a particular country in terms of the award..Given the BJP’s criticism of the retrospective tax law, why do you think the government has persisted with an appeal?Arvind Datar: I don't know, like Promod said they may have a view that they would win on jurisdictional grounds. Who knows what will happen, we don't know, but the other view is, if I've litigated for six, seven years and I've got one more appeal, why not take the chance and exhaust my appellate remedy as well.The other thing which I find is, in my practice, whether it's the arbitration of public sector enterprises or any other thing, it’s almost impossible for any government organisation to settle a matter. Suppose there’s a claim of Rs 50 crore, it is virtually impossible for any PSU or anybody to come and say all right, 50 crores I know you’ve got a case so I'll settle for 25 crores. They will not do it and they will insist on fighting because in the system nobody wants a vigilance case...Promod Nair: I think one reason, not talking of this case but why a lot of unsuccessful parties challenge an arbitration award, would be to postpone a potential liability and especially in these cash strapped times I think the government has enough on its plate, especially dealing with the economic downturn after the pandemic. I think postponement of a potential liability would be no bad thing, that could be one reason.I think there's probably a larger reason, because despite the criticism of the retrospective amendments, those were not done away with and the government actually chose to contest this matter. One reason why probably the retrospective taxation was not done away with was because I think the government realised that there is some mischief here which needed to be tackled.I think there are government law offices who’ve gone on record to say that as far as India is concerned, tax issues are purely a matter of India's national sovereign decisions and India has not consented to an external body including an international arbitration tribunal ruling on the validity or otherwise of Indian tax legislations. So, I think that seems to be the bottom line for India..If India persists in defending what its government has called indefensible, if it has redone the Model BIT to move tax disputes outside the realm of international arbitration under an investment treaty, and, if our tax treaties themselves don't have any mandatory arbitration - then, what kind of confidence will a foreign investor investing in India have with regards to tax and tax related disputes and the ability to resolve them fairly?Arvind Datar: I personally feel that it’ll be a huge setback in terms of investment. Because if, say an investor from Germany has the choice of coming to Vietnam or an X country or Y country or India and if there is no investment treaty arbitration, there are no safeguards etc., he may think twice.I say what's is the justification to exclude tax? Why can't you say my tax will be fair, please come to India, invest in India, I'll make sure that my tax laws are not unfair, I won't make retrospective taxation. I won’t say that. Now, why can’t you say that? The answer is not to simply throw out the tax dispute and say tax is not arbitrable and first exhaust all local remedies. That is not the answer.What has happened after 2016 (Model BIT)? Four years down the line except Belize or some such country no important country has signed a treaty with India. So, one thing is, if you want sovereignty, yes, you can have sovereignty and don't expect investments. If we're talking a $ 5 trillion economy, Make In India, having goods manufactured in India by multinationals and so on and so forth, then according to me, you will have to think differently. Don't worry about losing a few 1000 crores in tax. Look at the 1000s of crores you'll get in terms of GST, indirect taxes and employment generation.I’ll give an example of multinational clients, two of them. In both cases, just 2% of the global turnover is from India. In one case it's 1.4% and other 2.2% of the turnover is from India but 95% of the litigation is in India. So that's a huge eye opener. Because they find that once they come into India, they've got a customs case, they’ve got a GST case, they’ve got a tax case, they have a transfer pricing issue too. So, we have to really think about it. Why does India have more transfer pricing disputes than the whole of the world combined? We have to really rethink whether our tax laws are meant for tax collection or to promote investments and to promote growth. It is a very fundamental issue. I feel strongly about it..Vodafone Arbitration Award: Opportunity To Enhance India’s Investment Credibility

Vodafone, Cairn Score Big Tax Victories-Yet India Won’t Give Up

The implications of the two big tax cases India lost at the hands of Vodafone and Cairn.

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