Don't appeal ruling on Vodafone

The Bombay high court’s judgment in a Vodafone case last week has made an important and welcome clarification on a vexatious issue of the difference between investment and income in tax computation. The income tax department had charged the telecom company of evasion of tax by under-pricing the rights shares it transferred to a subsidy of its UK-based parent company. The funds, which were raised through the share transfer, were used for the company’ operations in India.  The judgment will have an impact on 26 similar cases in which other companies are involved. The amount involved in the Vodafone case is about Rs 3200 crore and the total in all such cases might come to about Rs 27,000 crore. Transactions between companies of the same group based in different countries involve transfer pricing of shares and are fairly common.

The company issued the shares at over Rs 8,500 per share but the income tax department assessed them at Rs 53,000 per share. The department sought to treat the differential as taxable income of the company, which was hidden by the under-pricing of the shares, and made a tax demand on the company. This was based on a retrospective amendment of the law. A section of the Income Tax Act was amended in 2012 to include share transactions in transfer pricing. This was used by the department to make a tax demand for 2009-10. The illogicality and unfairness of using retrospective changes in laws to make tax demands is clear.  In fact,  there is another and bigger case involving a tax demand of Rs 17,000 crore on Vodafone which is yet to be finally settled. In the transfer pricing case, the court did not go into the legality of the retrospective amendment. Even without that, it decided that capital transactions could not be taxed even under the amended section of the Act.  Therefore, it felt that the premium at which the shares were priced was irrelevant. In any case, the claimed income of the company through the transaction was only notional.

The ruling will give a boost to the investment psychology and climate in the country. It is expected to make it easier for foreign companies to bring capital into their Indian units and give them greater confidence to do so. The new government has been keen to attract foreign investment. But it is known that many tax laws and their administration are not conducive to it. The ruling has reminded the government that it has reiterated a simple principle of taxation. It will send out a wrong signal if the government appeals the ruling in a higher court.