The ruling of the Permanent Court of Arbitration based in Hague, in Vodafone Vs Income Tax (IT) Department (India) dispute on the demand of withholding tax on the acquisition of Hutch Essar Ltd, is in favour of Vodafone Group PLC. The dispute has attracted attention of investors and tax authorities for the last 13 years.

The Court of Arbitration ruled in favour of Vodafone Group Plc declaring that the claim for tax liability on Vodafone is a breach of the investment treaty signed between India and the Netherlands. It described the act of India’s Income-Tax Department as a breach of ‘fair and equitable’ treatment. As per the ruling, India must stop seeking dues from Vodafone and   pay over Rs. 40 crore as partial compensation for legal costs. The IT Department is bound to refund about Rs.45 crore that has already collected as tax from Vodafone.

What is the background of  Vodafone Vs IT Department dispute?

The dispute between Vodafone and  IT Department began with the acquisition of Hutch Essar Ltd (HEL), an India based company by Vodafone Group PLC, the UK based company, through its Netherlands based firm, Vodafone International Holding BV. . The acquisition happened in 2007. 67% of stake in HEL was held by Hutchison Whampoa, a Cayman Island company. Hutchison Whampoa was a wholly owned subsidiary of Hutchison Telecommunication Ltd, a Hong Kong based company.  The deal was concluded through cash for shares transaction.

Click the below video for better clarity

The target company, HEL was an India based company. However, the parties to the transactions were overseas entities as far as India is concerned. Transactions took place outside India and from the view points of the parties to the transactions, they were not liable to pay any tax to the Government of India.

What was ground for raising tax demand against the company, on  Vodafone Vs IT Department dispute?

The IT Department claimed tax on capital gains under section 9(1)(i) of the Income-Tax Act (the Act) for the following reasons.

The transaction involved

• transfer of an Indian asset and
• profit made by HTIL from the sale of shares to Vodafone was generated in India.

Therefore, according to the IT Department, Vodafone had an obligation to deduct tax on capital gains of HTIL and pay India government while transferring purchase consideration to HTIL.

Options before India in the dispute between Vodafone Vs IT Department

The amendment to the act with retrospective effect had caused huge hue and cry causing the repeated postponement of the implementation of the clause. Though  there was government change in India in 2014, the new government too preferred to go ahead with the added clause rather than cancelling the clause. The retrospective amendment for tax collection has been seen as a negative on the country and many investors have been hesitating for fresh investment in the country despite making earnest efforts for attracting foreign investments.  The Arbitration Tribunal has ruled that the act of claiming the tax was a clear breach of the ‘fair and equitable treatment’ protections offered in the bilateral investment treaty between the two countries.  Hence, from the perspective of attracting Foreign Investment, it may be ideal for the country to learn a lesson from the ruling. If decided not to proceed further, the country may have to drop further push in the already initiated few cases.

Else, the country may go ahead with further litigation in the dispute with substantial associated costs.  Such an action may result in undermining the confidence and faith of foreign investors in India’s commitment to international treaties and the rule of law.  Click  Vodafone Vs IT Department Tax Dispute-Timelines for further details.