Arbitrary tax treatment, retroactive claims
cutting into investment enthusiasm
India’s
recent federal budget measures, including anti-tax-avoidance proposals and
others which allow for retroactive tax claims on overseas deals are coming home
to haunt the government of Prime Minister Manmohan Singh and poisoning the
climate for badly needed foreign direct investment.
FDI
soared upward in 2011 by 31 percent, from US$21 billion to US$27.5 billion,
giving an upper hand to officials who advocate tightening tax regulations on
multinationals and Indian companies doing business overseas. Nonetheless, the
latest moves have exasperated the US-based Business Roundtable, the Confederation
of British Industry, the Japan Foreign Trade Council and Canadian Manufacturers
& Exporters, which together represent more than 250,000 companies. They
have written the prime minister saying the measures are prompting a widespread
rethink “of the costs and benefits of investing in India."
"The
sudden and unprecedented move...has undermined confidence in the policies of
the Government of India towards foreign investment and taxation and has called
into question the very rule of law, due process, and fair treatment in
India," the groups said in the communique.
The
letter is the most direct warning yet of global corporate frustration, adding
to the groundswell of negative opinion building up against India in terms of
its viability as an investment destination. After years of assiduously wooing
foreign investors, companies are baffled as to how Singh, the architect of
India’s globalization drive in the 1990s could allow things to come to such a
pass.
It
doesn’t take a rocket scientist to conclude that discouraging foreign
investment after spending decades to build credibility in the international
market would whittle down tax collection over the long term, worsening the
fiscal scenario. While amendments in tax laws can be made applicable for the
future, inserting retrospective clauses is tantamount to committing economic
hara-kiri. Amendments and clarifications that apply retrospectively would
undermine the credibility of the legal framework and discourage investors.
Turbulence
in global markets has already pulled down India’s FDI flows to less than half
their previous levels in relative terms. Further, the ruling UPA combine is
buffeted by a raft of scams leading to a policy paralysis. Its flip-flop on FDI
in retail and endless roadblocks that delay major investments, including that
of South Korean giant Posco’s 12-billion steel plant in the eastern state of
Odisha, have badly shaken investor confidence.
The
latest global outcry follows close on the heels of a protracted tax struggle
between London-listed Vodafone Group Plc, India's largest overseas investor,
and the Indian government, and underlines the risks and ambiguity foreign
investors are exposed to. Vodafone was subjected to a protracted five-year
legal battle that finally ended in January when India's Supreme Court dismissed
a US$2.2 billion tax demand over the British company's acquisition of Hutchison
Whampoa Ltd's Indian mobile assets in 2007.
Policy
confusion in India's telecom sector over the tainted allocation of mobile
licenses in 2008 recently saw Abu Dhabi's Etisalat announce the winding down of
its Indian operations. Norway's Telenor has also been embroiled in a dispute
with its Indian partner, Unitech Ltd, and has said it would seek to migrate the
business to a fresh pasture with a new partner.
As
pointed out by Reuters, the freshly proposed tax measures could also adversely
impact Kraft Foods Inc's 2010 acquisition of Cadbury's Indian business and
deals involving Indian assets sold by AT&T Inc and SAB Miller Plc's
purchase of Fosters.
The
measures are likely to be challenged in court as the trade bodies’ letter has
elevated the issue from a bilateral dispute between Vodafone and the Indian
government to a multilateral row that could end up in international courts.
Following industry protests, the Indian government has decided to set up an
advisory panel on international taxation and transfer pricing, which would
include discussions with industry representatives. The trade groups have
welcomed this step and said they want an ICC nominee to be included in this
group as well.
What
was the reason behind this desperate move? Possibly India’s current struggle to
close a whopping Rp4.94 trillion budget deficit and the general ominous fiscal
scenario with GDP growth at a three-year low of 6.1 percent.
Responding
to the strong reaction by the foreign lobby, Finance Minister Pranab Mukherjee
has emphasized that the legislative intent behind the recent tax measures is
“not vengeful.” The law, in fact, does not allow reopening of corporate tax
cases older than six years, he said.
“Perhaps
his intent was to target the most high-profile deal in this league to convey
the message that foreign capital is welcome provided it comes through regular
channels,” says an industry source.
However,
despite the drumbeat of anti-India sentiments, many analysts take the view that
India needn’t be defensive about its tax measures as it has all the rights to
get choosy about inbound investments and craft rules which vet overseas
candidates rigorously. Besides, India is the market of the future, they say.
Global businesses are tired of the prolonged drought in western markets and are
keen to shift operations to India. Industry surveys point out that FDI will
climb to an estimated US$2 trillion in 2012 in emerging Asian markets and India
will be a primary gainer from this windfall.
“India
can afford to insist that foreign capital be subject to a suitable tax regime,”
said Shriram Desai, formerly with Federation of Indian Chambers of Commerce
& Industry (FICCI). “Britain recently plugged its own tax-haven loopholes.
China has also been wary of foreign businesses in the high-end manufacturing
sector. Several other Asian economies similarly employ safeguards to protect
their national interests. So why should India’s move attract such an adverse
reaction?” he added.
Vested
interests, say industry sources, are loathe to any additional form of scrutiny
from Indian authorities, more so as India is one of the few frontiers of high
growth left in today’s age of economic gloom.
However,
this is not to discount the discomfiture foreign investment firms have been
lately facing in India. Since January the government has been served a raft of
legal notices by multinational companies in the telecom and coal sectors.
Telenor of Norway and Russia’s Sistema have already moved gone to court. The
Children’s Investment Fund, a UK-based hedge fund, too has asked its lawyers to
move against public sector Coal India.
India
has also recently lost a case involving White Industries of Australia against
Coal India in the International Court of Arbitration. All of these are under
one or other of the 50-odd bilateral investment treaties that India has signed
with its major trading partners.
Perturbed
by threats from these foreign companies to drag India to international courts
over breach of investment promises, the commerce ministry is now scrambling to
erase a key clause in bilateral investment treaties that allows for
international arbitration in order to protect itself. Currently, India has
treaties with Singapore and South Korea, among others, that allow companies
coming under their jurisdiction to challenge any adverse policy action by New
Delhi as a breach of investment promise in international tribunals.
The
government is also in direct talks with several countries to amend the
investment treaties so that any supposed violation of an investment promise
through Indian government action can be challenged only in Indian courts.
But
will these preemptive measures be enough to gloss over the UPA’s poor
governance and shoddy business administration record? Only time will tell.
Neeta
Lal
Asia
Sentinel
Business & Investment Opportunities
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