The Bombay High Court’s verdict in the Vodafone case has cleared some of the fog surrounding taxation of cross-border corporate acquisitions. By ruling in favour of the taxman, who is claiming as his $2.6 billion of the $11.08 billion purchase of Hutchison’s stake in the country’s third largest telecom service provider, the court has closed a widely used tax dodge by inbound foreign investment. If the verdict is upheld by the Supreme Court, the law and the government will be on the same page when it comes to treaty shopping — the practice of routing investments through letter-box companies in havens like the Cayman Islands to avoid paying taxes in India. The direct tax code, which has just entered the legislative circuit, is clear that local taxes will have to be paid if a large chunk of assets being transferred is Indian no matter which tax haven the money is coming from.
Clarity on this score is welcome. But the delay in arriving at a settled position raises the discomfiting prospect of the taxman turning his gaze on other such acquisitions. Deals originating in mainland America or Europe would have priced local levies into the cost of purchase and corporations that came in through this route have little to be worried about. However, others that chose offshore points of entry into India will need to redo their math. The sums involved are large: the last decade alone witnessed $116 billion of foreign equity inflow. By targeting the largest deal in this genre — Vodafone’s 2007 purchase is by far the biggest acquisition by a foreign company in India — the government is sending out the message that foreign capital is welcome, as long as it comes through regular channels.
It’s high time the message went across. According to a survey of multinational companies conducted by the United Nations Conference on Trade and Development, India has replaced America as the most important destination for foreign investment, second only to China. Corporations facing a prolonged slowdown in Western markets are planning to shift their capital expenditure to emerging ones like India’s as foreign direct investments climb from $1.2 trillion this year to an estimated $2 trillion by 2012. If the next investment wave is centred on Asia, a frontline emerging economy like India can afford to tone down the welcome it accords foreign capital. China has begun signalling that it intends to cherrypick foreign investment that fosters high-end manufacturing. India is well within its rights to ensure the playing rules are followed.