The Mumbai High Court has ruled that that the country's tax authorities have the right to pursue Vodafone over its estimated $2 billion tax bill.
The court dismissed Vodafone's petition that the tax authorities had no jurisdiction to tax Vodafone's $11.2 billion purchase of a 67% stake in Indian cellular phone operator Hutchison Essar from Hong Kong-based Hutchison Telecommunications in 2007.
Justices DY Chandrachud and JP Devadhar explained that as income from the transaction was accrued in India then the transaction is taxable in India and the authorities have jurisdiction over this deal.
They also stated that the transaction was not merely a transfer of shares but a composite agreement of various rights inside India.
The final order will not be released until November 16. Counsel for Vodafone has confirmed that an appeal will be made to the Supreme Court.
"Until the appeal is officially filed, no tax demand can be enforced," said Vispi Patel of Vispi T Patel & Associates, in Mumbai.
"The Supreme Court is the final level and so they will strip the principles of law threadbare," said Mukesh Butani of BMR Advisors – Taxand, in Delhi.
The transaction centres on the purchase of a Caymans Islands company that held the stake. Despite this, the tax authorities claimed that because the deal involved Indian assets, Vodafone was liable for withholding tax. The authorities argued that the transaction was structured to avoid India so that they could not claim jurisdiction over the deal.
Vodafone argued that since the transfer is of a capital asset situated outside India, the gains arising there from should not be liable to tax in India in the hands of the non-resident seller entity and that the Indian withholding tax provisions under section 195 of the Income Tax Act do not apply to offshore entities making offshore payments.
The authorities disagreed and said that since the transaction under consideration had a substantial nexus in India, it would result in an obligation being cast on Vodafone to deduct tax at source under section 195.
The court ruled that once territorial nexus is established, the provisions of section 195 would operate.
"Even though the revenue laws of a country may not be enforceable in another country, that does not imply that the courts of a country shall not enforce the law against the residents of another country within their own territories," said NC Hegde of Deloitte, in Mumbai.
There was some good news for Vodafone as it was held that no penalty would be applied to the tax bill.
"This decision of the court will have far reaching implications and could impact several cases of transfer of shares of foreign companies outside India involving control over Indian companies," said Ashwin Damania of GM Kapadia & Co, in Mumbai.
This is something Butani disagrees with: "It is hype to suggest that this decision will reduce investment in India. All it will do is force companies to factor in these costs when carrying out transactions in India."
