Shome Committee Draft: Retrospective To Prospective

This week, the Shome Committee submitted a draft report on retrospective amendments relating to indirect transfers. To put that in simple English, the Committee was asked to analyse the amended Section 9 of the Finance Act 2012 – which says transactions between non-residents involving underlying assets in India should be taxable in India with retrospective effect from April 1, 1962.  This amended Section makes several transactions such as the Hutch-Vodafone one taxable in India. 

The Shome Committee said; in brief

• Retrospective application of tax should occur in exceptional or rarest of rare cases and with particular objectives
• It should not be done to expand the tax base, nor done without stakeholder consultations
• That the retrospective amendments in finance act 2012 - relating to indirect transfers, are not clarificatory and  instead an effort to widen the tax base
• These amendments should be applied prospectively after introducing clear definitions
• If the government must impose them retrospectively then they should apply only to the seller and not to the buyer & no interest should be charged nor penalty levied

The committee has also made recommendations on what types of indirect transfers should be taxed, whether retrospectively or prospectively; for instance

• Only those transactions where at least 50% of the underlying assets are in India should be considered
• Only capital gains attributable to the India assets should be taxed
• Transactions involving the transfer of less than 26% voting power should not be considered
• Foreign companies listed on a recognised stock exchange and whose shares are frequently traded should be exempt
• FII and some types of private equity transactions should be exempt
• And treaty exemptions should be respected

That said, this is a draft report! The question is what can and will the government do with it? And to answer that I have with me well known Tax Advocate Dinesh Vyas, Rohan Shah of ELP and joining me in Delhi, SR Wadhwa, Advocate & Former Chief Commissioner, Income-Tax. Below is the verbatim transcript of the discussion on CNBC-TV18 Doshi: I know from our previous conversations that you broadly agree with the proposals laid out by the Shome Committee, so I won’t examine every single point in detail, but I want to start by asking you don’t you wish this exercise had been undertaken way back in February- we would have been saved several months of pain, agony and chaos? Shah: I agree with you. I wish it had. But I don’t think that this thinking had crystallized at that point in time and it seemed almost inevitable that we had to live through the anguish, but I am glad this is here even at this point in time.
Vyas: And in fact these very views, which have been now put forward by Mr. Shome and the Committee were already put forward even at that time and it was said it was a tragedy that the then Finance Minister did not listen to it, forced himself to do this and now you have the Committee report, which completely matches in its thought and its reaction with what the public perception was. It is an agony. It is a painful thing that we have gone through and really very refreshing document coming virtually from a government source. So, let us see how this is going to be taken forward, way forward is the real question.
Doshi: So before I get to that question, I will just get Mr. Wadhwa’s view on this. Mr. Wadhwa, don’t you wish these were the consultations that government and Revenue had undergone way back at the beginning of the year before they imposed that retrospective amendment on us and caused all the chaos that we have seen over the last 6 months?
Wadhwa: As a matter of fact, if you see the history of tax legislation such serious recommendations or amendments used to be through the Direct Taxes Amendment Bill and not through the Finance Bill where a lot of discussion, analysis used to be obtained. In my opinion, we should revert back to that system whereby the public and other people, interested groups- they can express their views if there is an Amendment Bill and the government also doesn’t have to face this sort of situation where the Finance Act, having been passed by the Parliament, would need to be amended seriously.
Doshi: Let us now get onto the issue of how the government is going to implement this if it decides to implement it. I think the first proposal that the Shome Committee makes is that such an amendment should be prospective. If the government was to accept that, how would it take what they have done with Section 9 in the Finance Act of this year and turn that into a prospective amendment i.e. would they do it via a circular or will they have to do it via legislation?
Vyas: They will have the option; no doubt.
Doshi: Yes of course, but what do you that that they should opt for?
Vyas: According to me, it should be only through a legislation – similar retrospective amendments have been reversed- it's not going to happen for the first time. Even in the past, in the year 2001-2002 or earlier 1987-1989, there were retrospective amendments and within a matter of year, they were completely reversed with a complete U-turn.
Doshi: So, there is a history of Parliament changing its mind, which is fine?
Vyas: Yes, absolutely. So that according to me will be the safest way for the government to put its weight on and not go via the Circular route because as far as the Circulars are concerned, there is a difference of opinion as to whether they can deviate from law or not. Yes, most of the Supreme Court decisions have taken the view that Circular can deviate from the law, but there is one solitary judgment in the case where Justice Sabyasachi Mukherjee- speaking from the Supreme Court and Justice Ranganath Misra agreeing- saying that the Circular cannot deviate from the law and if therefore you do not want further litigation on this aspect, which can be again very lengthy and you want that certainty, which is what you want to offer to the international public, it will be always better to avoid the Circular route and go straight by the amendment through the legislation and as I said there are precedents in the past, within one year complete U-turn.
Doshi: You agree Rohan?
Shah: The way I see it, there are two parts to it. One part is this whole situation on retrospectivity or not and there you will need a process through Parliament. But if you see the remainder of this which is really in the nature of clarification or opinions, on the taxability of different transactions, position under the DTA- now if that comes separately through a Circular, then quite honestly much of the venom of what has happened will already be drawn. And I think in the current situation, where how this might pan out in Parliament, what sort of a winter session you will have is uncertain, I think a good course to go will be- yes place the retrospectivity issue before the Parliament; the rest of it can get delivered as a Circular and if that Circular is delivered and that is not deviant from the nature of the law, then that circular itself I think would serve a very large purpose because almost 95 percent of transactions, just in terms on the clarifications, would be beyond the tax net.
Doshi: So you are saying that that would reduce the burden on most of the cases out there that are pending and yet not create a situation where a Circular takes an opposite view of what the existing law says and hence is challengeable in a court of law. So the circular doesn't take a position on retrospectivity or prospective, it just puts down the conditions as proposed by the Shome Committee and because those conditions are a narrow bunch of transactions would fall out of the tax slab.
Shah: Yes.
Doshi: So when do they fix the retrospective aspect?
Shah: They fix the retrospective aspect and as has been said, particularly given the Validation Clause, you will have to take it back to the Parliament. But how quickly you will make passage through Parliament is uncertain. And if after all these efforts you have an uncertain Parliamentary process and we are all waiting for that process before there is any effective relief, I think you will undo much of the good that you have now attained. So what is critical is look at that retrospectivity. If that effectively goes through the Parliamentary process and is unchallenged thereafter, 100 percent of the transactions are out of the tax net in this controversy.
Doshi: Except Vodafone because - or let me put it this way, not the Hutch- Vodafone transaction. I mean Vodafone gets away because the Shome Committee says don't impose tax on the buyer.
Shah: Yes so all non-treaty will remain - typically treaty like Indo-US, Indo-UK will remain and those which remain again will have to go through the 26 percent threshold, the proportionality threshold, the substantial value threshold. So what will effectively remain taxable is very small and within what remains taxablel, you again have a challenge of enforcement because you need to reach across jurisdictions to try and enforce. But if you isolate all this which is ultimately taxable, it is very small.
Doshi: What do you think is the best way ahead for the government in terms of how they proceed with this Shome Committee report?
Wadhwa: I will agree with Mr. Vyas that we should solve this problem through legislative amendment.
Doshi: But are you saying all the proposals must go through legislative action or only the retrospectivity part?
Wadhwa: Retrospectivity has to be undone by legislative amendment.
Doshi: Alright so all three of you agree on that?
Wadhwa: Yes. Now another thing. As regards this point whether non-treaty countries applications etc- no doubt these are small points but my experience has been sometimes the officers do not obey the Circular, they go against the Circular and then the problem starts whether Circular is binding or the court says 'no it is not binding we have to interpret the law.' So in order to set at rest the entire controversy whatever is proposed to be done through a Circular should be done through a legislative amendment. So that there is a confidence in the people, in the foreigners who are coming in for investments and  bringing technology, they should have confidence in the country's law.
Vyas: This is very important issue, very sensitive issue. Everybody has recognized and it has international ramifications. We cannot have a further round of litigation; say for next 5-7 years- whether Circular binding, not binding. And Mr. Wadhwa is also right, we have the same view that it must be straightway up, all this must be done through legislation.
Doshi: In which case is this going to ever happen because now you spent 4-5 years chasing Vodafone, you made a big deal out of it, you passed a retrospective amendment that Parliament approved of, you are going to see considerable political opposition if today you are going to go back to the Parliament and say we are willing to cede whatever Rs 40,000 crore that we had expected to earn from this series of amendments because we think this has not done the country’s image good and we want to reverse the entire law and we let Vodafone and the likes go free, is it going to work?
Shah: And which is why I believe while it maybe ideal to go the legislation route. You will have to be much more practical and there are clearly three aspects to it – one is retrospectivity and your innings in Parliament. The other is delivering the rest of this agenda as quickly as possible and the third is tax administration at the level of assessments and are we going to respect what we have said because we could have the most impeccable policy document out there, but if it is not administered in the spirit that it is supposed to, you are still going to take the downside of all of this negative investor sentiment. So if you are looking at this practically, take what you must to Parliament; the rest of it can come through a Circular, but you have to ensure that beyond delivering the Circular you will have to ensure discipline in terms of administration if you truly want to deliver the whole package.
Doshi: Revenue has been very opposed to this from what we hear. They, for the longest time believe that transactions like Hutch-Vodafone must be taxed in India and since it is difficult to extract that tax from Hutch, let us go after Vodafone. If the other proposals of the Shome Committee are brought in via a Circular as Rohan is suggesting, while Vodafone might stay in the net because it is a non-treaty country, it might escape the net also because the Circular suggest that you shouldn’t expect the buyer to pay the tax, go after the seller in which case revenue will have to chase Hutch, which has I think almost no presence in India if a minimal one at all. So, how is revenue going to respond to this?
Wadhwa: You are right. Although, revenue will feel quite bad, having to lose both Rs 12,000 crore or so. Yet in the interest of justice and the State of law that is at present and then to cut down all uncertainty on this subject and to bring about confidence of the investing foreign community, it is better forgo the revenue, which is of doubtful validity rather than fight out another round of litigation; that’s how I believe.