The issue of taxability of gains arising from the transfer of assets located in India through the transfer of the shares of a foreign company (commonly understood as “indirect transfer of Indian assets”) was a subject matter of protracted litigation prior to 2012. The Supreme Court, in a landmark decision in Vodafone International BV v Union of India (341 ITR 1) , delivered in January 2012, had ruled that the Revenue does not have an authority to tax an offshore transaction between two non-resident companies where a non-resident company is purchased in the transaction in order to control the interest in an Indian resident company.
While the Supreme Court ruling should have settled the controversy on this issue not just for the taxpayer involved in this litigation, but for all other taxpayers involved in similar transactions, that was not to be. As the ruling was perceived to be inconsistent with the legislative intent of the Indian tax law, the Finance Act, 2012 introduced an amendment not only nullifying the apex court ruling but also giving the amendment retrospective effect. The amendment purported to clarify that gains arising from sale of share of a foreign company is taxable in India if such share, directly or indirectly, derives its value substantially from the assets in India.
After causing much consternation in the international business community by the retrospective amendment of 2012, much was expected from the new Government that took office in 2014. In the first Budget presented by the new Government in July 2014, the Finance Minister stated that clarity in tax laws, a stable tax regime, a non-adversarial tax administration and a fair mechanism for dispute resolution as the underlying theme of the new Government’s tax policy.
Despite a number of initiatives by the Government over the last seven years to achieve these policy goals, a resolution to the indirect transfer of Indian assets arising from the retrospective amendment was still elusive.
On the contrary, the matters got a little more complicated with two of the litigants who were impacted by the retrospective amendment initiating arbitration proceedings on the issue under India’s Bilateral Investment Treaty. The arbitration was unanimously decided against the Government, resulting in a further appeal against the Arbitration award by the Indian Government as well as one of the litigants seeking to lay claim on the Government’s assets to recover the tax refund due from the Government. While India may have reached from Rank 142 in 2014 to 63 in 2020 in the World Bank’s Ease of Doing Business index, but inability of the Government to resolve the retrospective amendment issue was casting a shadow on future prospects. Continued uncertainty on this issue was therefore a cause for concern.
Interestingly, the Expert Committee constituted under Parthasarthi Shome in 2012 to review some of the amendments introduced by the Finance Act, 2012 had recommended that amendment to tax laws having retrospective effect should be done in exceptional cases and should not have the effect of widening the tax base. Further, the Shome Committee was of the view that retrospective taxation of indirect transfer of Indian assets are not clarificatory in nature and instead tend to widen the tax base. The Committee recommended that the amendment should be modified with clear definitions to apply prospectively. While the law was amendment in 2015 to provide clarity on a number of aspects relating to scope, the retrospective application was retained.
A welcome move
In the above backdrop, the introduction of the Taxation Law (Amendment) Bill, 2021 in Parliament by the Finance Minister on August 5 to nullify the retrospective effect of the indirect transfer of Indian assets provision is therefore welcome. The Bill proposes to amend the tax law so as to provide that no tax demand shall be raised in future on the basis of the said retrospective amendment for any indirect transfer of Indian assets if the transaction was undertaken before May 28, 2012 (that is, the date on which the Finance Bill, 2012 received the assent of the President).
It is further proposed to provide that the demand raised for such cases before May 28, 2012, shall be nullified on fulfilment of specified conditions such as withdrawal or furnishing of undertaking for withdrawal of pending litigation and furnishing of an undertaking to the effect that no claim for cost, damages, interest, etc., shall be filed. It is also proposed to refund the amount collected in these cases without any interest thereon.
Enactment of the Bill as law should re-assure the business community on the intent and direction of India’s tax policy as well as the ability of the Government to make bold and transformational decisions. The Government needs to be congratulated for the bold step that seeks to restore the principle of certainty in taxation, even though it may cause revenue loss.
While arguably this may be one of the biggest sore points in administration of Indian tax policy which may now be behind us, there are a number of other areas that still require attention. The Government should look at strengthening the framework for obtaining advance ruling and advance pricing agreements to provide an effective mechanism for preventing disputes. This will go a long way in further improving the investment climate and ease of doing business in India and would further support achievement of the policy goal of creating a non-adversarial tax regime.
The writer is Partner, International Tax Services, EY India. Views are personal