Relevance: GS-2: Government policies and interventions for development an effective tax regime.

Key phrases: Retrospective Tax, Tax Evasion, Tax terrorism, Income Tax Act, 1961, Capital gain tax, cairn energy

Why in News?

• In what should be the last act of a long and winding tax dispute drama, British firm Cairn Energy has said it has concluded all steps prescribed by the Indian government in order to be eligible for the refund of a contentious retroactive tax levy.

What is Retrospective Tax?

• A retrospective tax is one that is charged for transactions in the long past. It can be a new or additional charge on transactions done in the past. Ideally, retrospective tax is to make adjustments when policies in the past and the present are so vastly different that tax paid before under the old policy could be said to have been less. Retrospective tax could correct that situation by charging tax under the existing policy.
• Retrospective taxation allows a nation to implement a rule to impose a tax on certain products, goods or services and deals and charge companies from a time before the date on which the law is passed.
• Countries use this form of taxation to rectify any deviations in the taxation policies that, in the past, allowed firms to take benefit from any loophole. Retrospective tax affects companies that had unknowingly or knowingly used the tax rules differently.
• Not only India, but many other countries like the US, UK, Australia, Netherlands, Belgium, Canada, and Italy have retrospectively taxed firms.

History of the controversial Retrospective tax in India

• "Retrospective Taxation", these two words have roiled foreign investors looking at India over the years, and led to multiple disputes between the Indian government and global majors like Vodafone and Cairn. The retrospective tax provision was introduced by the United Progressive Alliance (UPA) government in 2012. It was an amendment to the Income Tax Act, 1961, allowing the government to ask companies to pay taxes on mergers and acquisitions (M&As) that happened before that date. This goes back to the time when UK-based telecom giant Vodafone bought a 67% stake in Hong Kong-based Hutchison Whampoa for $11 billion to which the Indian government raised a demand of Rs 7,990 crore in capital gains saying the company should have deducted the tax at source before making a payment to Hutchison. The company took the matter to the Supreme Court which eventually turned in favour of Vodafone.
• One such indirect transfer was also made against the 2006 internal corporate restructuring carried out by UK-based Cairn Energy.
• In September 2007, the Income tax department slapped Vodafone International BV with a tax demand of $2 billion. Five years later, SC set aside the I-T department's claim, saying transactions carried out in India cannot be taxed. Then Finance Minister Pranab Mukherjee brought in a bill, which was eventually passed by the Parliament that would force companies like Cairn and Vodafone to be liable to pay taxes based on retrospective changes to the law. I-T department slapped Rs 3,100 crore tax notice on Vodafone India.

What is the impact of this Amendment?

• The amendment could provide more clarity to the international investors regarding all the prospective or already existing investments.
• Provide a stable and predictable tax regime which is necessary to promote private sector investment. Measures taken by the government resulted in an increase in FDI inflows in the country.
• The scrapping of the retrospective tax regime will instil confidence of the private investors in India’s regulatory and tax framework.
• The bill is also an opportunity for addressing some stressed sectors like the telecom and oil exploration sectors.

Way forward:

• As part of the Government’s compromise formula worked out belatedly last August through amendments in the tax law, Cairn had to drop all legal proceedings seeking to enforce the arbitration award against India, forgo the damages and indemnify the Government against all future claims or liabilities.
• Last month, Vodafone also availed these provisions. The Government should, on its part, work swiftly to process their paperwork and preferably remit their dues before the financial year concludes.
• While this will be a necessary first step towards restoring some of the damage caused to Brand India, it may not be immediately sufficient — from labelling it as tax terrorism while in the Opposition, this government dithered on corrective action till its eighth year in office.
• Whether this was an outcome of bureaucratic bravado, official obstinacy, political paralysis or a combination of all three, India needs to abandon such fickleness and demonstrate greater certainty and predictability across economic policy, be it about GST or global trade engagement, in order to bolster its credentials as an ideal investment destination.

Source: The Hindu

Mains Question:

Q. “After Abolishment of retrospective tax, India finally has an investor-friendly image after almost a decade and should strive to maintain it” Critically Analyse the statement.