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VODAFONE THE FACTS AND HIGH COURT RULING

Hutch Telecommunication International Ltd (HTIL) 100% CGP Investments Limited (CGP) Share Purchase Agreement (SPA) for shares of CGP

Decision of the Bombay High Court (HC)

Vodafone
Netherlands

Essence of the transaction was a change in the controlling interest of HEL, which constituted a source of income in India Transaction had significant nexus with India; hence withholding tax provisions applicable Several other rights transferred besides the CGP share - the consideration should be allocated over such rights also

Direct and indirect shareholding in HEL - 52%

Cayman Islands

12 intermediate holding companies

Mauritius / India

Direct and indirect shareholding of 52%

India

Other Indian entities

+ Options over the indirect shareholding of 15% of Other Indian entities in HEL = Economic interest of 67 percent (approx) in HEL transferred to Vodafone

Indirect shareholding in HEL 15%

Hutchison Essar Limited (HEL)

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All rights reserved | Preliminary & Tentative

VODAFONE THE FACTS (CONT)

The consideration of USD 11.08 billion paid by Vodafone was for the following
52 percent direct and indirect equity shareholding in HEL Control premium Use of rights of the Hutch brand in India A non-compete agreement with the Hutch group Value of non-voting, non-convertible preference shares Value of loan obligations Entitlements to further acquire 15 percent indirect interest in HEL

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All rights reserved | Preliminary & Tentative

Question before the Supreme Court of India (SC) Whether capital gains arise from the sale by a non-resident of the share capital of CGP, a foreign entity, which held underlying Indian assets?

HOLDING STRUCTURES
Vodafone Revenue In the absence of fraud, India to respect corporate identity and corporate veil cannot be lifted (unless the law is specifically provides so) Regulatory provisions mandate investment in telecom sector only through a corporate structure; it could not be disregarded by lifting of corporate veil Existing provisions to be construed purposively

SC

The transaction was an artificial tax avoidance scheme

Separate legal existence corporate structures ordinarily to be respected Reasonable business purpose test - holding structures to be ignored, if indirect transfer results from abuse of organization form / legal form Concept of participation in investment relevant, other considerations to be borne in mind to determine abuse The onus to identify and establish abuse lies on Revenue International holding company structures set up for commercial reasons Difference between having power and persuasive position on the subsidiary
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All rights reserved | Preliminary & Tentative

SCOPE OF SECTION 9 AND DETERMINATION OF SITUS OF SHARES

Vodafone Language of section 9 does not create look through provisions

Words indirectly and through appearing in section 9 do not make transaction taxable, unless capital asset situated in India (in this case the Cayman Islands Companys share was situated outside India)
In a transaction between two foreign entities source of income cannot be traced back to India to establish nexus with India Section 9 to be construed in a wide manner; intent of the transaction to be seen Consideration paid for property rights in India which created a source of income from India Situs of CGP share can only be in India as the entire business purpose of holding that share was to assume control in Indian telecom operations, the same was managed through board of directors controlled by HTIL
All rights reserved | Preliminary & Tentative

Revenue

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SCOPE OF SECTION 9 AND DETERMINATION OF SITUS OF SHARES (CONT)

SC Section 9(1) a legal fiction, and cannot be expanded by giving purposive interpretation It does not envisage look through provisions Scope of income arising from transfer of capital assets which is dependent on three elements - transfer, existence of capital asset and situation of such asset in India The word indirectly used goes only with income; not capital asset Specific provision in the Direct Taxes Code Bill, 2010 (DTC) deals with taxation of indirect transfers Source of income is where the transaction of sale takes place; and not where the value lies A share is situated where the company is registered and the register of members is kept; and not where the underlying assets are situated

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ROLE OF CGP IN THE TRANSACTION

Vodafone Hutch holding structure existed since 1994

Revenue SC

Complex corporate structure evolved for good commercial reasons, recognized by Indian tax and regulatory laws
CGP share was interposed at the last minute to avoid tax in India Principle of internal correlation: Every multinational company reconfigures itself into a corporate group by dividing itself into a number of subsidiaries which are financially interlinked Court(s) have evolved doctrines like piercing the corporate veil, substance over form etc; however, genuine tax planning cannot be ruled against by the Court(s) CGP was an investment vehicle; sale of shares of CGP was more efficient way of ensuring a smooth transition of business. It cannot, therefore, be said that CGP had no business or commercial purpose
All rights reserved | Preliminary & Tentative

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CONTROLLING INTEREST AND OTHER RIGHTS AND ENTITLEMENTS

Vodafone No transfer of controlling interest independent from transfer of shares

Revenue SC

Controlling interest cannot be taxed in the absence of express legislation

The entire purpose of transferring the CGP share was to transfer control in HEL Controlling interest is a property right the transfer of which is taxable in India The Vodafone transaction held to be an investment to participate instead of a tax avoidance transaction; difference between power and persuasive position Reason for execution of the SPA was to provide exit to Hutch
All rights reserved | Preliminary & Tentative

Controlling interest in the management of the company - not an identifiable or distinct capital asset independent of the holding of shares Tax is to be levied on the transaction ie share sale and not on its effect Method or basis of valuation of shares cannot be a basis of taxation

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CONTROLLING INTEREST AND OTHER RIGHTS AND ENTITLEMENTS (CONT)

SC Bargain was for sale of CGP share and not an itemized sale transaction

Options entitling Vodafone to 15 percent indirect holding in HEL do not constitute a property right or equity interest until exercised

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AZADI BACHAO ANDOLAN REGARDING TAX AVOIDANCE

Vodafone Indian Parliament has legislated on form; the Court(s) cannot look into the substance of the transaction Concept of substance over form has been rejected by SC in case of Azadi Bachao Andolan (ABA) Tax planning is legitimate

Revenue

Real intention should be looked into

Reliance to be placed on SC decision in the case of McDowell ABA incorrectly decided, should be reconsidered
All rights reserved | Preliminary & Tentative

SC

There is no conflict between McDowell and ABA and the latter did not require any reconsideration Court(s) not compelled to look at a document or transaction in isolation and the legal nature of the transaction should be discerned by looking at the entire transaction as a whole and not by adopting a dissecting approach the look at approach guidance taken from English cases

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VALIDITY OF MAURITIUS TAX RESIDENCY CERTIFICATE

Vodafone Revenue Reliance placed on ABA Tax Residency Certificate (TRC) conclusive evidence even for third country investors who invest through the Mauritius route Right to enquire whether capital gains beneficially and legally belong to a Mauritian entity or to a third party ie whether the Mauritian company is a mere faade Per Justice Radhakrishnan Valid TRC, in the absence of a Limitation Of Benefits (LOB) clause, conclusive as regards the residence and beneficial interest / ownership However, Revenue entitled to look at the transaction as a whole and deny treaty benefits in the following cases: - round tripping - if treaty is abused to fraudulent purpose of tax evasion - form of the structure is abused - if Mauritius entity is interposed at the last minute just before exit

SC

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All rights reserved | Preliminary & Tentative

WITHHOLDING TAX
Vodafone Section 195, referring to withholding from payments to non-residents, cannot be enforced on a non-resident not having any taxable presence in India The words any person in section 195 should be used sensibly, else the enforcement of the provision would be impossible In the absence of income chargeable to tax, tax not required to be withheld

Revenue

The term person widely defined to include a foreign company

Section 195 applicable when the taxpayer has some nexus with India, irrespective of deductor being a non-resident
All rights reserved | Preliminary & Tentative

Once the nexus is shown to exist, the provisions would operate SC Applicability of section 195 depends on the tax presence of the non-resident payer in India - tax presence must be construed in the context of the transaction under question Per Justice Radhakrishnan section 195 does not apply to non resident payors; does not have extra territorial applicability

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WITHHOLDING TAX (CONT)

SC Investment by a group company in an Indian company does not create a tax presence of all companies of that group in India In the absence of chargeability to tax, nothing could be recovered from the deemed agent under domestic tax laws Merely treatment as an agent, would not lead to an automatic liability to pay taxes on behalf of the non-resident

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All rights reserved | Preliminary & Tentative

NEED FOR LEGISLATION AND CERTAINTY

SC observations Tax avoidance is a problem faced by almost all countries following civil and common law systems and all share the common broad aim to combat it Vodafone case an eye-opener of what India lacks in regulatory laws and what measures India has to take to meet the various unprecedented situations without sacrificing national interest The DTC envisages to create an economically efficient and effective direct tax system by proposing a GAAR Certainty is integral to rule of law - the basic foundation of any fiscal system
All rights reserved | Preliminary & Tentative

Tax policy certainty is crucial for taxpayers (including foreign investors) to make rational economic choices in the most efficient manner

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BMR ANALYSIS
Binding nature of the concurring but separate judgment of Justice Radhakrishnan Substance vs form - will TRC remain a conclusive proof of residency? Future for Mauritius investors Applicability of withholding tax provisions in future M&A/Private Equity deals

Applicability of this ruling to other similar transactions

Relevant guidance by the SC on the need, scope and application of GAAR
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Provisions of the DTC relating to indirect transfers a game changer? What to expect in the Finance Bill, 2012?

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