May 10, 2012, 10:00 AM
The Treaty That Could Decide the Vodafone India Tax Case
By HEATHER TIMMONS, MALAVIKA VYAWAHARE and NEHA THIRANI
Dhiraj Singh/Bloomberg News
A man combs his hair beside a Vodafone India Ltd. advertisement in
Mumbai, Maharashtra in this Feb. 3, 2012 file photo.
As the British telecommunications company Vodafone Group and India’s
finance ministry edge ever closer to a full-blown confrontation over
taxes related to Vodafone’s $11.1 billion acquisition in India, a key
issue may be the India-Netherlands Bilateral Investment Treaty, signed
between the two governments in 1995.
The 10-page treaty pledges “to strengthen the traditional ties of
friendship between their countries, to extend and intensify the
economic relations between them,” particularly when it comes to
acquisitions that a “contracting party” in one country makes in another.
Vodafone said in an April filing with the London Stock Exchange that
its Dutch subsidiary, Vodafone International Holdings BV had served the
Indian government with a “Notice of Dispute” invoking the treaty, which
is the first step towards demanding international arbitration over the
issue. The deal was technically done between Vodafone’s Dutch
subsidiary and a Cayman Islands company that controlled the Indian
operations of Hong Kong’s Hutchison Whampoa.
India’s finance ministry contends that the treaty does not apply. “The
deal is not held in Holland, it was done in the Cayman Islands,”
explained D.S. Malik, the ministry’s spokesman, in an interview.
Here are some potentially relevant articles of the India-Netherlands
treaty:
Article 2:
This Agreement shall apply to any investment made by investors of
either Contracting Party in the territory of the other Contracting
Party including an indirect investment made through another company,
wherever located, which is fully owned by such investors, whether made
before or after the coming into force of this Agreement.
Article 3:
Each Contracting Party shall encourage and promote favorable conditions
for investors of the other Contracting Party to make investments in its
territory in accordance with its laws and policy. The admission of such
investment shall be subject to the laws and policies of the Contracting
Party in whose territory the investment is made.
The treaty also lays out rules of arbitration. Any issue that cannot be
solved by negotiation between the two parties after six months can be
referred to a three-person arbitration body made up of one person each
side has selected, and a third person from a third country who is
selected by the first two arbitrators.
The tax battle between Vodafone and the Indian finance ministry hinges
on an amendment to the Income Tax Act proposed during this year’s
budget, which would retroactively tax acquisitions involving companies
or assets in India. The amendment was approved by the Lok Sabha, or
lower house of Parliament, this week.
In a front-page story that cited unnamed “finance ministry officials”
the Economic Times said Thursday that other deals “under the scanner”
include SABMiller’s acquisition of Foster’s India in 2006; Vedanta
Group’s 2007 acquisition of a controlling stake in Sesa Goa and an
internal deal between two Unilever subsidiaries that involved shares of
Hindustan Lever, the company’s Indian arm. Tax notices have already
been served to these companies, the article said. SABMiller and
Unilever declined to comment.
The finance ministry spokesman said Thursday that it was premature to
single out particular deals for retroactive taxation. “The bill needs
to be approved in the other house,” Mr. Malik said, referring to the
upper house of Parliament. “After that only the department will decide
the position on these deals.”
Tax experts in India predict that the authorities could cast a wide net
when applying the amendment. “The income-tax authorities have only
looked into a dozen or so until now,” said Dinesh Kanabar, deputy chief
executive and chairman of tax at KPMG India, who has represented
Vodafone on the India tax issue. “They have not yet gone all out, but
my guess is that many more will be discovered as we go along.”
“In each of these cases the stakes involved are fairly significant,” he
said. If a foreign company has operations in India that are significant
in relations to the overall value of the company, “then the overseas
company will be regarded as a company in India,” he said, and an
acquisition of that entity’s shares will be regarded as a transfer in
India and will be taxed accordingly
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