Impact of axing retrospective tax

In a welcome, albeit delayed, step to end to this longstanding controversy, the Taxation Laws (Amendment) Bill 2021 (the Bill) has now been passed by the Lok Sabha, to withdraw the retrospective effect of these amendments.

By Rajeev Dimri & Hariharan Gangadharan

The retrospective amendments that sought to tax capital gains made by non-residents on sale of foreign companies with underlying Indian assets were always controversial. Disputes continued to rage over their validity and scope since their introduction. More recently, two arbitral awards were issued under India’s BITs that ruled the amendments to be violative of India’s obligation to provide fair and equitable treatment to foreign investors. This led to steps being taken to enforce the arbitration award against some of India’s assets overseas.

In a welcome, albeit delayed, step to end to this longstanding controversy, the Taxation Laws (Amendment) Bill 2021 (the Bill) has now been passed by the Lok Sabha, to withdraw the retrospective effect of these amendments. As early as September 2012, an expert committee set up by the government recommended that these amendments should only be applied prospectively. This recommendation was however not acted upon at that time.

As a result, the controversy festered, necessitating the current proposal to do away with the retrospective applicability entirely. Despite this long history, the present move is undoubtedly a bold decision on the part of the government.

The proposal in the amendment Bill addresses two distinct situations. The first is forward-looking and provides that no order will be passed or demand raised going forward in respect of indirect transfer transactions that took place before May 28, 2012, (i.e. the date of enactment of the Finance Act 2012). This bar is broad-based and will apply to assessment, re-assessment, rectification as well as withholding tax related proceedings. This will benefit pending cases that have not yet culminated in a final order or demand.

The second part relates to cases where orders of assessment, re-assessment, rectification or in withholding proceedings have already been passed in respect of pre-28 May 2012 transactions. In such cases, the orders are sought to be nullified. In such cases, the taxpayer is also entitled to a refund of taxes already paid in respect of such transactions, but without any interest being paid thereon by the government. However, such nullification and grant of refund is not unconditional.

For this to happen, the Bill requires the taxpayer to fulfil certain conditions, some set out in the Bill and some to be prescribed later. The conditions set out in the Bill include withdrawal of all proceedings initiated by it in respect of such tax (including arbitration proceedings initiated under investment treaties) as well as waiving rights to claim costs, interest, damages or other relief from the government.

This is where the Bill will have the maximum impact. The Statement of Objects and Reasons mentions that demands under these retrospective provisions have been raised in 17 cases, out of which arbitration proceedings under investment treaties had been initiated in four. In such cases, the order can be nullified and taxes paid can be refunded, subject to the above conditions.

Taxpayers in such situations can either withdraw their pending proceedings and give up their claim to interest and costs, or alternatively, they can choose to continue their legal proceedings before the courts or arbitral panels. In case they choose the latter, the orders passed in their case will not be nullified, and the outcome will be decided in judicial or arbitration proceedings. To some extent, this choice will also depend on what further conditions get prescribed in this regard.

Even if the amendments operate only prospectively, some provisions relating to indirect transfers where taxpayers face uncertainty and potential litigation include aspects of valuation rules, compliance obligations as well as clarifications on the scope of the exemption for group reorganisations. These must be urgently addressed. Another important fallout of the 2012 amendments was India’s termination of most of its BITs in 2016-17. It may perhaps be time to reconsider this aspect as well.

Respectively, partner and head of tax, and partner, tax, KPMG in India