Why the Cairn India tax case doesn't deserve the attention it's getting

The Cairn India case is not a fresh retrospective tax but an old one which has come back to the limelight

This article has been modified. Please see the clarification at the end.

The recent tax claim raised by the income tax authorities on Cairn India has revived memories of retrospective tax, which had prevented foreign direct investments (FDI) from coming to India in the final year of the UPA-II government.

Finance Minister Arun Jaitley had claimed in his Budget speech that there will be no more cases of retrospective tax. But the move by the Income Tax department led to Britian’s Foreign Secretary Philip Hammond taking up the issue with Jaitley when he was visiting the UK.

The UK-based Cairn Energy plc was the promoter of Cairn India, and sold its majority stake in Cairn India to Vedanta group. Cairn Energy plc is now a minority shareholder in Cairn India. 

Cairn India has received an order from the I-T department for its alleged failure to deduct withholding tax on capital gains arising during 2006-07 in the hands of Cairn UK Holdings Ltd, its erstwhile parent company and a subsidiary of Cairn Energy Plc. A demand of Rs 20,495 crore, comprising tax of Rs 10,248 crore and interest of Rs. 10,247 crore is to be paid by the company.

Since the case pertains to 2006-07, raising tax demand in 2015 does seem like going back to the retrospective tax era. Foreign fund managers have voiced their anxiety over the issue. A Reuters report quotes David Cornell, a London based fund manager at India focused Ocean Dial Asset Management, saying "The new government has been keen to improve the ease of doing business for foreign investors in India...including how it deals with historic (tax) cases. There is no indication yet that it is changing, apart from rhetoric."’’

Retrospective tax cases on withholding tax are triggered by the 2012 amendments to the Income Tax Act, 1961 which makes indirect transfer of Indian assets including those executed in previous years taxable in India. Using this amendment income tax official had filed cases against Vodafone, Shell, SABMiller amongst others.

Cairn plc responded to the demand by filing a dispute notice, which is essentially going through the same route as Vodafone. The company has invoked the India-UK bilateral investment protection treaty.

The Finance Minister on his part maintained that the new government would not move in the direction of any retrospective legislation on tax issues. Any fresh notices can only be done after taking clearance from the Central Board of Direct Taxes (CBDT). As far as the earlier notice and legacy issue, like the Cairn issue is concerned they would be sorted out through the legal process. Cairn apparently had been informed about the issue in January 2014, before the present government came in. Jaitley also said that wherever a judicial process has decided an issue, like in the case of Vodafone, the government has not challenged it.

The case of Cairn Energy cannot be considered as a fresh case of retrospective tax but an old ongoing one which has come back to the limelight. To quote the finance minister, this is no retro tax but a legacy issue.

CLARIFICATION
An earlier version of this article had mentioned Cairn Energy plc as the promoter of Cairn India, which is incorrect as Cairn Energy plc sold its majority stake in Cairn India to Vedanta in 2011. This has been rectified. There were some other instances where Cairn Energy and Cairn India were used interchangeably, which too have been corrected. The errors are regretted.