Retrospective Tax Law: Good riddance to a bad taxation approach

As was expected, the 2012 law drew the ire of investors as well as global taxpayer fraternity.

By Mukesh Butani & Tarun Jain

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Sovereignty’s manifestation, especially in contemporary civilisation, is shaped by pragmatism and due process. Bill of rights, constitutionalism, an independent judiciary, etc, within the domestic context, coupled with international law principles and extensive treaty framework, regiment the limits and exercise of sovereignty. This is no different when it comes to tax. Subscribing to international treaties governing taxation rights and limits of tax, such as those under the bilateral double taxation treaties or WTO agreements—in vogue for decades now—or the more recent Multilateral Instrument reflects the contemporary scenario where exclusive national sovereignty is replaced with pooled exercise of taxation powers by treaty partners. In such a paradigm, asserting unbridled tax sovereignty is, at the very least, incongruent with the progressive international outlook that our nation portrays.

The FM, on August 5, introduced a Bill to amend the provisions of the Income Tax Act, 1961, as amended by the Finance Act 2012 to reverse the Supreme Court’s landmark decision in Vodafone. The SC had inter alia impressed upon the lawmakers the need for legal certainty to promote FDI, thereby scuttling an ominous tax demand enforced retrospectively upon offshore reorganisation of Indian corporate structures and assets. The government of the day, even though it was wise and open to review the omnibus anti-avoidance provisions (GAAR), did not relent and continued to claim its sovereign entitlement to employ tax measures with retrospective effect. As was expected, the 2012 law drew the ire of investors as well as global taxpayer fraternity.

Be it the solemn assurance of the former FM in Parliament, declaring off-limits any future retrospective legislation, or the 2014 administrative curtailment of tax-officer’s discretion to reopen past cases and effectively scuttle them, or the 2016 settlement scheme proposing to close disputes upon payment of principal tax dues alone, investors were not impressed by half-baked amelioration measures. Constitutional challenges were raised in courts and international fora alike, spreading thin the Centre’s resources in defending its tax policy and the 2012 law. In particular, the flurry of precipitate action initiated in other countries by Cairn to enforce the Hague Tribunal award it secured by invoking Bilateral Investment Treaty invited bad press for the nation, with international media characterising the government as unkind and arrogant—despite its otherwise decent, if not impressive, record of tax reforms (GST etc).

The Centre has, in the ‘object’ statement appended to the 2021 Bill, acknowledged that the tax demand arising out of the retrospective tax policy “continues to be a sore point with potential investors” whereas “quick recovery of the economy after the COVID-19 pandemic is the need of the hour and foreign investment has an important role to play in promoting faster economic growth and employment.” The 2021 Bill proposes to (a) “provide that no tax demand shall be raised in future on the basis of the said retrospective amendment”, (b) nullify the demand in pending cases, and (c) refund the tax already collected. This Bill, if passed by Parliament, won’t result in withdrawal of the 2012 amendment, and would instead only limit the latter’s application in cases where the taxpayer agrees to withdraw all claims and undertakes to refrain from any recovery action in future. The 2012 law would continue to remain but sans its harshness, and prospective application, unless the concerned taxpayer does not wish to settle.

A key question is, if the government is indeed magnanimous, then why are case-specific conditions attached to the application of the new proposal, and instead, why not withdraw the retrospective law wholesale. Mere reversal of the 2012 law would imply a one-sided concession by the government where it foregoes its claims whereas the private parties can continue to litigate and press for restitution measures. With the conditionalities, the government would ensure that there is no windfall or undue favour to any party, and that the issue stands resolved only when the taxpayer is aligned with the objective of giving a complete quietus to the dispute.

What next? First, the withdrawal will soothe investors’ nerves, especially those that are keen on India’s growth story, but have been dithering, citing lack of investor protection. This move is likely to boost investor sentiment, coupled with 15% corporate tax rate for manufacturing, exemption of income for investments by sovereign wealth and pension funds, etc, besides the major clean-up due to settlement of tax disputes. Second, the 2012 law has been applied retrospectively only in 17 cases, Vodafone and Cairn being the most prominent. It is obvious that their complexities and stakes were such that they could not be settled under Vivad-se-Vishwas or other amnesty schemes. Also, the refund obligation may result in outflow of Rs 80 billion. This is a small price to pay considering the funds required for economic recovery. Third, by reversing the retrospective application, the government has now got an upper-hand in economic diplomacy generally and particularly in the ongoing negotiations for larger economic partnerships with the EU and the UK, considering both Vodafone and Cairn are from these jurisdictions. The move will give a fillip to FDI, Gift-City, Sovereign-Wealth Funds, Pension Funds, and other prominent investments avenues. Notwithstanding the delay in the change of stance, there appears to be no perceivable downside, and it is certainly a harbinger of economic activity and growth.

The author is Partners, BMR Legal
Views are personal