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SC sets legal benchmark,rules in favour of Vodafone in Rs 11,000-cr tax battle

SC: Rules I-T has no jurisdiction to tax $11-bn Voda-Hutch deal; says need certainty in tax policy

Written by Krishnadas Rajagopal | New Delhi |
January 21, 2012 2:25:23 am

Noting that foreign direct investment inflows depend on good governance,the Supreme Court today declared that the Indian income-tax department has no jurisdiction to tax the $11.076-billion Vodafone-Hutchison offshore deal.

“FDI flows towards location with a strong governance infrastructure which includes enactment of laws and how well the legal system works. Certainty is integral to rule of law. Certainty and stability form the basic foundation of any fiscal system. Tax policy certainty is crucial for taxpayers (including foreign investors) to make rational economic choices in the most efficient manner,” a majority judgment delivered by Chief Justice of India S H Kapadia said.

With this majority judgment,which the CJI co-authored with his companion judge,Justice Swatanter Kumar,Vodafone wins a case it had partially lost in the Bombay High Court.

The income-tax department had quantified Vodafone’s tax liability at a possible Rs 11,217.95 crore in October 2010,based on a direction from the Supreme Court. The British telco was also staring at the prospect of having to pay a penalty of Rs 7,900 crore,the tax amount due.

Vodafone had acquired Hutchison’s 67 per cent stake in a joint venture with the Essar Group in a May 2007 deal. Indian tax authorities have been interested in the deal since March 23 of that year. Vodafone International Holdings (BV),a Dutch subsidiary of British telecom operator Vodafone Plc,acquired Hutchison Telecommunications International Limited’s (HTIL’s) Indian business operations through the sale of a Cayman Islands company called CGP Investments (Holdings) Ltd,a subsidiary of HTIL,also a Cayman Islands company.

By virtue of this transaction,Vodafone entered the Indian mobile telecommunications market. HTIL was listed on the Hong Kong and New York Stock Exchange and was owned by Hong Kong-based Hutchison Whampoa Limited,the Hong Kong-based multi-sectoral conglomerate owned by billionaire Li Ka-shing.

“We hold that the Offshore Transaction herein is a bonafide structured FDI investment into India which fell outside India’s territorial tax jurisdiction,hence not taxable. The said offshore transaction evidences participative investment and not a sham or tax avoidant preordained transaction,” the CJI read out their 95-page judgment.

The court said the deal was way outside the line of control of the Indian IT department: “The offshore transaction was between HTIL (a Cayman Islands company) and VIH (a company incorporated in Netherlands) and the subject matter of the transaction was the transfer of the CGP (a company incorporated in Cayman Islands). Consequently,the Indian Tax Authority had no territorial tax jurisdiction to tax the said Offshore Transaction.”

The court sends a clear message to the government with its observation that certainty of tax policy would send a positive invitation to foreign investors.

“Tax policy certainty is crucial for taxpayers (including foreign investors) to make rational economic choices in the most efficient manner. It is for the government of the day to have them incorporated in the Treaties and in the laws so as to avoid conflicting views,” the court said.

“Investors should know where they stand. It also helps the tax administration in enforcing the provisions of the taxing laws,” the bench added.

Taking for example the Hutchison “structure” – a long term investor which has marked its presence in the country since 1994,the court said certainty in tax policy would also prove beneficial in the long term for the government.

“According to the details submitted,we find that from 2002-03 to 2010-11 the Group (Hutchison) has contributed an amount of Rs 20,242 crore towards direct and indirect taxes on its business operations in India,” the court noted.

The Bombay High Court had on September 8,2010 qualified that though the IT department did not have control over the Cayman Islands transaction,it did have jurisdiction over taxable assets in India featured in the deal.

Delivering Vodafone a clean sweep over the IT authorities,the court directed department to return Rs 2,500 crore,deposited by the British telco with interest at the rate of 4 per cent per annum within two months from today.

“The interest shall be calculated from the date of withdrawal by the Department from the Registry of the Supreme Court up to the date of payment. The Registry is directed to return the Bank Guarantee given by the appellant within four weeks,” the court ordered.

Referring to lack of clarity in tax avoidance rules,the court held that the onus is on the Revenue authorities to allege and establish abuse when it comes to taxation of a Holding Structure.

“In the application of a judicial anti-avoidance rule,the Revenue may invoke the ‘substance over form’ principle or ‘piercing the corporate veil’ test only after it is able to establish on the basis of the facts and circumstances surrounding the impugned transaction is a sham or tax avoidant,” the court set the guideline.

The court said that every strategic FDI coming to India as an investment destination should be seen in a holistic manner. Revenue authorities should adopt the “look-at principle”,by which the entire transaction is seen as a whole. The department,as found in the Vodafone case,should not “dissect” a transaction to test its legality.

Applying the look-at principle,the court said revenue authorities and courts should keep in mind the concept of participation in investment,the duration of time during which the Holding Structure exists,the period of business operations in India,the generation of taxable revenues in India; the timing of the exit,the continuity of business on such exit.

“In short,the onus will be on the Revenue to identify the scheme and its dominant purpose,” the court said.



Vodafone acquires Hutch’s 67% stake in its Indian telecom joint venture with Essar Group. Vodafone International Holdings BV,a Dutch firm,acquires Cayman Islands firm CGP Investments Holdings,with Hong Kong firm Hutchison Whampoa marking an exit from the Indian venture

March 2007: TAXMAN COMES KNOCKING I-T dept issues a notice to Hutch-Essar which says it has no tax liabilities accruing out of the transaction; questions jurisdiction. Tax dept issues notice to treat Vodafone as an “assessee in default” for failure to withhold tax.

October 2007: VODAFONE APPROACHES HC Files writ in Bombay High Court. Court rules that the tax department has jurisdiction to tax capital gains in the case. In Sept 2010,HC rules I-T has jurisdiction. Vodafone appeals in SC.

November 2010: SC ASKS FOR DEPOSIT SC asks Vodafone to make a deposit of Rs 2,500 crore and Rs 8,500 crore of bank guarantees.

January 2012: SC RULES that Vodafone has no tax liability,tax department asked to return Rs 2,500 crore with 4% interest.

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