Indian Economy Review | September 2020

H I G H L I G H T S

•  Vodafone tax controversy back to haunt the Govt
•  No resolution of the tax case even after 13 years
•  What it actually means for Govt finances
•  A lot about investment sentiment and a political promise
•  The 2014 Budget and its treatment of the Vodafone tax
•  Future of bilateral investment treaties in limbo
•  Labour law reforms gain momentum
•  Freedom to hire and fire, no hike in payout
•  A liberalised regime for the contract labour system
•  A leg-up for gig economy workers
•  Farm sector changes create a new ecosystem
•  The politics over the minimum support prices system
•  Traders lose monopsony power, states lose revenue
•  More warehouses and contract farming
•  Transition to the new farm ecosystem critical
•  Decriminalisation marks company law changes

Vodafone tax controversy back to haunt the Govt
 
The ghost of the Vodafone tax, which many believed had been exorcised some years ago, is now back to haunt the Modi government. An international tribunal – the Permanent Court of Arbitration at The Hague – has ruled in favour of the British telecom major, Vodafone Group Plc, in its case against the Indian government’s income-tax department, which had imposed a tax liability of over Rs 20,000 crore on the company. The order of the tribunal, made available in the last week of September, is quite unequivocal in the manner in which it has given Vodafone a clean chit and blamed the Indian government for not acting fairly and equitably. The order read: “The Respondent’s (India’s) conduct in respect of the imposition on the Claimant (Vodafone) of an asserted liability to tax notwithstanding the Supreme Court judgement is in breach of the guarantee of fair and equitable treatment laid down in Article 4 (1) of the agreement (for promotion and protection of investments), as is the imposition of interest on the sums in question and the imposition of penalties for non-payment of the sums in question.” The order further noted that Vodafone was entitled to fair and equitable treatment in line with the bilateral investment treaty India had signed with the Netherlands and the United Kingdom.
 
No resolution of the tax case even after 13 years
 
The tax demand, made by the Indian government, arose out of a transaction in May 2007 in which Vodafone had bought Hutchison Whampoa’s controlling stake in Hutchison-Essar through an overseas deal. Hutchison-Essar at that point in time was one of the major mobile telephone service providers in India. In less than four months of the transaction, the income-tax department of the Indian government served a notice on Vodafone International, a company based in the Netherlands for tax purposes, demanding a capital gains tax payment of Rs 7,990 crore. Vodafone filed an appeal against the notice with the Bombay High Court, which ruled in September 2010 in favour of the Indian government, saying that the income-tax department did have tax jurisdiction over the deal. Vodafone duly challenged the High Court order in the Supreme Court, which in January 2012 ruled in favour of Vodafone, holding that the transaction was not taxable in India. The government in its Budget, presented in February 2012, amended the law with retrospective effect, which allowed it to tax overseas companies on their share transactions involving companies with substantial and operating assets within the Indian jurisdiction. That was the genesis of the Vodafone tax controversy. Vodafone did not take the retrospective amendment to the law lying down. It moved the Permanent Court of Arbitration in The Hague in April 2014. Its verdict in favour of Vodafone is now out, but the controversy does not appear to be ending.
 
What it actually means for Govt finances
 
The financial implications of the tribunal’s order are huge for the Indian government in terms of a potential revenue gain. The original tax demand on Vodafone was only Rs 7,990 crore and it rose to over Rs 20,000 crore only after including interest and penalty. But the fact is that Vodafone has not yet paid any amount against those claimed tax dues. If the verdict had gone in favour of the government, the exchequer would have got a revenue boost of over Rs 20,000 crore in a year when its tax collections have been falling. Equally true is the fact there would be no substantial financial obligation for the government to cough up money to Vodafone by way of refund, if it were to accept the verdict. It has to refund only an amount of Rs 45 crore including the cost of Sterling Pound 4.32 million and another Euro 3,000 imposed by the tribunal on the Indian government.
 
A lot about investment sentiment and a political promise
 
Financial implications of the verdict, however, are not the substantive issues here. If it does not challenge the tribunal’s order, then it might encourage a few other foreign companies to claim similar relief in their tax cases with the Indian government by following the arbitration route. At the same time, if it chooses to contest the verdict, the sentiment among foreign investors might become adverse. The Vodafone tax controversy, triggered by the retrospective amendment to the direct tax laws, was one of the major grievances of industry against the Manmohan Singh government and it had even become a political issue during the campaign before the general elections in 2014. Tax terrorism became a talking point during the election campaign. If industry was enthused by the prospects of the BJP winning the elections, it was largely because it expected the new government to usher in industry-friendly policies and drive away tax terrorism. Indian industry and foreign investors are eagerly waiting to see what kind of response the government adopts in the wake of the tribunal verdict on the Vodafone case.
 
The 2014 Budget and its treatment of the Vodafone tax
 
In the Modi government’s first Budget, Finance Minister Arun Jaitely made no changes to the law, but held out the promise that it would not introduce any further retrospective amendment to tax laws and let the ongoing tax cases reach their logical conclusion. Jaitley had said: “This Government will not ordinarily bring about any change retrospectively which creates a fresh liability. Hon’ble Members are aware that consequent upon certain retrospective amendments to the Income Tax Act 1961 undertaken through the Finance Act 2012, a few cases have come up in various courts and other legal fora. These cases are at different stages of pendency and will naturally reach their logical conclusion. At this juncture I would like to convey to this august House and also the investors community at large that we are committed to provide a stable and predictable taxation regime that would be investor friendly and spur growth. Keeping this in mind, we have decided that henceforth, all fresh cases arising out of the retrospective amendments of 2012 in respect of indirect transfers and coming to the notice of the Assessing Officers will be scrutinised by a High Level Committee to be constituted by the CBDT before any action is initiated in such cases. I hope the investor community both within India and abroad would repose confidence on our stated position and participate in the Indian growth story with renewed vigour.”
  
Future of bilateral investment treaties in limbo
 
With early signs of the government reviewing its options to challenge the arbitration tribunal’s order that has favoured Vodafone, it now seems that the promised “logical conclusion” is still some distance away. Once the government does appeal against the tribunal’s verdict, two more questions will arise: One will pertain to the prospects of foreign investment in general and in the telecommunications sector in particular. The travails of Vodafone may discourage future investors in new or existing projects. Two, any hope of a revival of India’s bilateral investment treaties with different countries, which had been either not renewed or kept dormant, will become even more bleak. Remember that at the heart of the Vodafone verdict is the investment treaty India had with the Netherlands at that time. Many such treaties have not been renewed and some of them have remained dormant. Expect no change in that sphere in the coming months.
 
Labour law reforms gain momentum
 
With Parliament passing three labour bills on September 23, the Modi government has completed a major reform initiative by collating as many as 35 different labour laws in four simplified labour codes. The three codes, approved by Parliament, were the Industrial Relations Code, the Occupational Safety, Health and Working Conditions Code and the Social Security Code. Earlier in 2019, Parliament had passed the Wages Code. That code had replaced four labour laws – the Payment of Wages Act, the Minimum Wages Act, the Payment of Bonus Act and the Equal Remuneration Act. Expanding the definition of an employer and an employee, the Wages Code had covered the workers in both the organised and unorganised sectors. Similarly, the rules for minimum wages (to be determined nationally, but allowing the states to fix any other level as long as it was not below the national benchmark) and payment of wages covered all establishments under the new Code.
 
Freedom to hire and fire, no hike in payout
 
What Parliament approved in the third week of September would have far more significant implications for the employers and employees. Under the Industrial Relations Code, companies with manpower strength of up to 300 workers would be allowed to retrench or lay off without seeking prior permission of the government. Earlier, this facility could be enjoyed only by firms with a maximum of 100 employees. Similarly, firms hiring more than 300 workers will not be obliged to frame standing orders for the workforce, easing considerably the compliance burden for such companies. There is also a provision for a re-skilling fund to be set up to provide financial help to those employees who get retrenched under the relaxed norms. Rules on mass casual leave as a protest instrument have also been made more stringent and such abstention would now be treated as equivalent to striking work. There is, however, some disenchantment and disillusionment among trade union representatives over the Industrial Relations Code’s silence on the need for enhancing the retrenchment benefits. The National Labour Commission had suggested the trebling of the compensation amount for retrenched employees from 15 days of wages for every year of service rendered to 45 days, but that recommendation has not been accepted.
 
A liberalised regime for the contract labour system
 
An important feature of the new labour law regime is the liberalisation of the contract labour system, which now gives companies greater freedom to hire workers on contract. The Code on Occupational Safety, Health and Working Conditions has allowed companies to hire workers on contract for seasonal work or on a fixed-term basis. Contract workers would be outside the purview of the rules on retrenchment, even though they would be entitled to all statutory dues available to other regular employees. A key relaxation is that a single license for companies to hire contract workers in different projects across different states would be needed, compared to the earlier requirement of obtaining approvals for each project separately. There are restrictions in the liberalised contract workers regime as well. Firms hiring more than 50 employees will not be ordinarily permitted to hire workers on contract for their core functions. Similarly, contract workers cannot be hired to replace existing regular employees.
 
A leg-up for gig economy workers
 
The Social Security Code has extended the coverage of social safety schemes to include workers in the gig economy. As the service sector expands, there are more employees in sectors such as transportation, e-commerce deliveries and outsourcing businesses. Workers in such outfits will now qualify for insurance benefits and other social security schemes like provident funds and gratuity provisions. Workers in the construction sector and migrant labourers can now enjoy the existing social safety net. With workers hired on fixed-term contracts also enjoying such provident fund and gratuity facilities, the new labour laws have a larger sweep that makes hiring easier for companies and at the same time extends more benefits to those segments of unorganised workers, who were earlier outside the purview of labour laws.
 
Farm sector changes create a new ecosystem
 
Three major changes in laws that govern India’s farm sector have triggered a wave of protest rallies mostly in north Indian states. These changes have also embroiled the country in a controversy over whether the Centre has encroached upon a domain preserved for the states under the Constitution. The three laws were initially changed through ordinances and have now received the go-ahead from Parliament and the assent from the President. The first change in the law frees the Indian farmers to sell their produce anywhere within the state or in other states, thereby breaking the near-monopsony powers of the Agriculture Produce Marketing Committees (APMC) in purchase of farm produce. The second change removes many agricultural items from the list of produce which under the Essential Commodities Act cannot be stored in warehouses. The third change in the law permits farmers to enter into contracts with any other party for the sale of their produce at pre-determined prices before sowing.
 
The politics over the minimum support prices system
 

The reforms in the agriculture sector, which are to be introduced through these three laws, were overdue for many years. According to the government, consultation with states and other stakeholders had been held for many months. Indeed, even the Congress manifesto before the 2019 general elections had by and large promised similar reforms in the farm sector. Yet, the protests in many Congress-ruled states are puzzling and highlight the political motivation behind them. Almost 86 per cent of Indian farmers have a land holding of less than two hectares and are net buyers of food grains and other crops in the market. Thus, small farmers are not affected by the elimination of the monopsony power of the APMCs. The only way they may be affected is if the government stops procuring from the markets for maintaining its buffer stock to meet its obligations under the right to food law and if the system of minimum support prices (MSP), which acts as an anchor for market prices and helps shore them up, is abolished. However, the government has made it clear that the MSP system is not to be abolished. In any case, it has to keep procuring food grains to honour its commitment under the right to food law.  
 
Traders lose monopsony power, states lose revenue
 
The protests against the changes in the farm laws are largely being inspired by big farmers, commission agents, traders and arhatiyas, who finance the trade in farm goods. In many states, big farmers are also big traders. The loss of the APMCs’ monopsony power has hurt them. This could be a possible reason for their anger and frustration. The states too lose some of their revenues as they collect taxes from the APMCs levied at about 6 to 8 per cent of the total value of transaction. Should the government have made it clear in the law itself that there was no intention of scrapping the MSP, as the Bharatiya Kisan Sangh has demanded? In retrospect, that is an idea to which the government should have given a more serious thought. The government’s repeated assertion that the MSP system will continue has not yet succeeded in dousing the fire of farmers’ protest in different states.
 
More warehouses and contract farming
 
Two other changes in farm sector laws are expected to give a boost to the creation of more warehouses and storage facilities to help both farmers and traders. With the stock-holding curbs lifted on many agricultural crops, farmers can store their produce in the hope of securing a better price instead of being obliged to sell the produce soon after they are harvested. Another legislative change has now facilitated contract farming, under which farmers can enter into long-term arrangements for the sale of their produce. This will once again free the farmers to explore alternative modes of selling their produce, secure better price discovery and book higher returns.
 
Transition to the new farm ecosystem critical
 
However, the success of the three legislative changes would largely depend on the creation of a healthy ecosystem to help farmers realise the benefits from their freedom to sell in trading areas other than APMC-controlled markets, keep their produce in warehouses and enter into supply contracts with companies and food processors. The changes are fundamental and the benefits would flow over a period of time. During the transition period, it would be necessary to create greater awareness among farmers about the need to be mindful of the risks and gains associated with selling to non-APMC markets and corporate entities. The creation of more farmer producer cooperatives, which can give the farmers a greater collective clout in dealing with the new ecosystem, would be crucial. Both financial and technological support to farmers would be necessary during this transition period so that they can secure higher returns on their produce, which at present are low, by eliminating the intermediaries, which corner a good chunk of the price at which their produce is finally sold to the consumer. Finally, it would be important for the Centre to engage in constructive consultations with the states, which feel aggrieved that their domain of internal trade in farm goods within the states has been encroached upon.
 
Decriminalisation marks company law changes
 
Providing relief to India Inc, the government during the short monsoon session of Parliament, brought about significant changes in the Companies Act. The amendments decriminalised as many as 48 sections under the law by either removing or reducing the penal provisions and excluding imprisonment as a punishment for certain offences. In effect, 35 penal provisions have been totally decriminalised, 11 penal provisions have omitted imprisonment as a punishment for the offender, while retaining the power to levy fines, and 6 provisions now attract reduced penalties. For instance, the amended law has done away with imprisonment under nine offences relating to non-compliance with orders of the National Company Law Tribunal. Similarly, there will be no imprisonment, only fines, for any violation of provisions under the Companies Act, pertaining to public offering of securities or non-compliance with procedures for share buyback. In short, companies can heave a sigh of relief on their criminal liabilities on account of the Companies Act.
 

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(The views expressed are personal)
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About the Author

A K Bhattacharya
Distinguished Fellow, Ananta Centre
Editorial Director, Business Standard

After a 10-year long stint with Financial Express from 1978-1988, in different capacities in the areas of news gathering and news management, A.K. Bhattacharya joined The Economic Times in 1988 and functioned as its Chief of Bureau from 1990 to 1993. In 1994, he became its Associate Editor. He joined The Pioneer as Executive Editor in September 1994, stabilised the newspaper before becoming its Editor in 1995. He joined Business Standard in 1996 as Editor, News Services. Was its Resident Editor in Mumbai from July 1996 to September 1997 and helped the newspaper launch its Mumbai edition. From October 1997 to May 1998, he functioned as National Editor leading the paper's news operations. As Managing Editor of Business Standard between June 1998 and April 2000 and as its Group Managing Editor between May 2000 and October 2011, he oversaw the newspaper's news operations and editorial administration. From November 2011 to July 2016, he was the Editor of Business Standard. Since August 2016, he has been the Editorial Director of Business Standard on a part-time basis. He has been writing a regular column - New Delhi Diary - commenting on government affairs, since 1990 - that appeared in The Economic Times, Pioneer and now in Business Standard. Since 1997, he has been writing another column - Raisina Hill - commenting on developments/issues concerning bureaucracy.