Friday’s Supreme Court ruling on the Vodafone tax case has prolonged the telecom company’s woes—its recent experiences don’t paint India as a rosy destination for foreign capital.
In February 2007, the UK-based Vodafone acquired a 67% equity stake from Hong Kong-based Hutchison in Hutchison Essar. The $11.1 billion (Rs54,279 crore now) deal netted Hutchison at least $9 billion in profit, while Vodafone gained access to a market of 330 million subscribers. The income-tax (I-T) department issued Vodafone a notice to see if it could claim tax off the transaction.
A capital gains tax on the equity transfer would be estimated at a minimum of $2 billion, making this the largest tax case in the country. But the transaction took place between two foreign entities—that too in the Cayman Islands—falling outside the department’s jurisdiction. Also unusual is the fact that the department holds not Hutchison (that accrued the capital gains) but Vodafone liable for withholding the tax. To ensure that it could hold Vodafone legally liable, the department even slipped in an amendment to the I-T laws in the 2008 Budget, one with retroactive effect.
Vodafone disputed both the I-T department’s jurisdiction and the constitutionality of this retroactive law. It filed a petition against the department, which the Bombay high court dismissed in December; Vodafone then appealed to the Supreme Court. As a matter of law, the apex court could have provided clarity by addressing the legal questions. Its refusal to do so has set things back to square one.
The tax authorities, keen to find ways to tax transactions outside their dominion, are sure to exact a large tax from Vodafone. In that event, the Supreme Court has allowed Vodafone to appeal directly to the Bombay high court. But that may take months, or even years.
At least 400 foreign firms have invested in India through similar offshore structures; the I-T department has indicated that it will target them. Friday’s ruling ends up adding unpredictability to an investment climate already fraught with risk.
Without further clarity, investors looking to exit India face hindrances, while entrants will have to worry about a new tax. With global FDI expected to shrink by 31% this year, this isn’t encouraging.
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