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The Tax Battle Between India & Energy Giant: Story & Implications

By Vanshika Paharia

Cairn Energy plc is Europe’s leading oil and gas exploration and development company that is listed at the London Stock Exchange. It has operations set up in various countries and is an energy giant. But why is Cairn coming after India to collect a mammoth sum of $1.4 bn and what does this mean for India? The Story Cairn is trying to seize India’s overseas assets to collect this amount and the story dates back to 2005 2006 when Cairn restructured its business in India. Back then, Cairn owned all Indian assets through a web of Indian holdings and in 2006, Cairn decided to transfer all these assets to a new entity called Cairn India. Cairn India was not listed before 2007 and this transfer was made solely to prepare Cairn India for an IPO.

When Cairn had originally acquired these assets before transferring them to Cairn India, it had invested roughly Rs. 2000 crores in them. When Cairn India raised money from the public by using the assets as backing, they raised approx. Rs. 5000 crores. This led the tax authorities to believe that the said assets were worth way more than Rs. 2000 crores. According to valuations, the assets were of at least Rs. 26000 crores. Cairn UK had made a clear profit when they had transferred the assets to Cairn India. The tax authorities knew that they were well within their rights to levy capital gains tax (CGT) on the gain the company made on the assets.

The authorities did nothing regarding the matter in 2006-07 because they were scrutinizing the case of Vodafone, which was eerily similar to that of Cairn. They believed Vodafone made a huge monetary benefit by acquiring certain assets from a telecommunication company and wanted Vodafone to cough up the tax on the gains. They dragged Vodafone to the Supreme Court in hopes to get the money but the Supreme Court ruled in favour of Vodafone. In 2012, the government turned tables completely. They amended the Income Tax Act, 1961 with retrospective effect which meant that tax authorities were allowed to reopen old cases that had tax implications dating back to 1962. This amendment meant that the government was entitled to taxes due on cross border transactions in which the underlying assets are located in India, even if the transaction takes place on foreign soil. All this was done only to collect “alleged” dues from Vodafone. In this process, tax authorities ended up reopening the case of Cairn plc,and demanded that Cairn pay the dues. After some rounds of litigation when Cairn refused to pay, they then owed India Rs 24000 crores including penalties.

In 2015, Cairn plc held a 10% stake in Cairn India after selling around 50% of the stake to Vedanta Ltd. and was also entitled to a tax refund by the Indian Government. But, since Cairn refused to pay taxes, tax authorities sold off Cairn’s stake in Cairn India which was valued at $1 bn, seized dividends earned on Cairn’s stake in Cairn India and refused to give the tax refund. Cairn plc Goes Nuclear Cairn plc challenged this retrospective tax demand by India in the International Court of Justice at The Hague. In December 2020, the judgment was passed in favour of the company as it was believed India had violated the Bilateral Investment Treaty between India and the UK. The three member panel asked the Indian Government to return the value of the shares it sold, the tax refund and the dividends. The total amount was $1.4 bn after interest and expenses. They said that this was not a case of tax avoidance because it was prior to the listing of Cairn India and told the Indian Government to drop their demand of payment of past dues. The problem with an international ruling is enforcement as India has always believed that such a tax demand cannot be adjudicated by a foreign court. Cairn plc was very serious about getting compensated and had warned the Government of India that it will seize overseas assets of India.

After winning the arbitration award of $1.4 bn, Cairn plc tried to negotiate deals with the Ministry of Finance. But India has challenged the arbitration award at The Hague, appealing that the claims underlying the award are a deliberate tax avoidance scheme which violated Indian tax laws. Cairn plc also offered that they will reinvest the entire award money in India if India relents and pays $1.2 bn along with $500 mn of interest. But India strongly refused, as it meant acceptingmthe verdict against which they had appealed. India’s pride seemed to be clouding the decision making skills because this refusal made Cairn register the award in nine jurisdictions. Cairn has started a process to recover money from government owned entities in these countries.

Cairn was obviously not going to get their hands on Indian assets owned within India but they can very well seize the assets on foreign grounds. Hence, Air India comes into the picture. Cairn had filed a lawsuit in the US District Court for the Southern District of New York, hoping to make Air India liable for the compensation owed by India. But, India was adamant and not willing to budge. In fact, on May 7th, it was said that India had decided to withdraw funds from their foreign currency accounts abroad, because they feared the cash will be seize by Cairn plc soon.

While India has claimed that the government is open to an amicable solution to the dispute within the country’s legal framework, the internal settlement has had a slow progress. Cairn has sued Air India and can seek a seizure of any Air India asset that India may have in the US if the ruling is in their favour. When an Air India airplane lands in the US, Cairn can move the court and seize the asset before it flies out. The Ministry of Finance also said that the reports claiming that the government has asked state owned banks to withdraw funds from foreign currency accounts is false.

The Implications on India

This battle has been stretched too far and can have huge implications on the Indian economy and its assets. While the danger is limited to Air India for now, the day is not far when Cairn plc moves to vessels owned by the Shipping Corporation of India and other property owned by state banks. The loss that India can incur can become impossible to recoup and India also faces a danger of an embargo. Other than this, India is hurting its relations with all foreign investors and also harming the chances of any future foreign investments in the country. No foreign company will want to invest in India because of the blatant hostility displayed by the country. While India faces a COVID crisis that is emptying its pockets at an exponential rate and breaking down the healthcare system vigorously, spending so much in arbitration expenses in lieu of helping the country fight the crisis seems foolish.

The Government of India brought this upon itself when it refused to bury the ghost of Vodafone. It is a cause of concern and the time to settle is definitely here because India, by and large, cannot afford to fight Cairn plc in the long run. This unwillingness to concede paints an ugly picture of India in the eyes of not only the citizens but also the world leaders. Times are bad, the second wave of the pandemic has sullied the image of India to nothing in the eyes of the world and thus, it is time to cut the legs out from under the arbitration case. We cannot decide whether India is right or wrong. Even if we assume India is right and is entitled to a stay on the award, the opportunity cost of relentlessly pursuing the case must be considered. The opportunity cost that comprises India’s image, future investments and investor relations, a crippling healthcare system and time lost in the pursuit of a lost cause exceeds the amount India owes to Cairn plc.

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