The Bombay High Court has come out with two landmark judgment against the tax authorities in the last two months on two transfer pricing cases against Vodafone and Shell. The rulings are landmark because it has axed an "absurd" demand by the Indian tax authorities. In no other country infusion of share capital is treated as a transaction on which tax can be raised. Foreign companies and their tax advisory firms have cried foul for a long time, which vitiated the business environment in the country. While doing business in India may not become easier after this ruling, tax specialists and law firms believe, the ruling gives the government an opportunity to show its commitment to improving business conditions in India by accepting the Bombay High Court's ruling.

Ketan Dalal, senior tax partner at PwC India believes that the original issue was a real stretch in the context of the fact that transfer pricing adjustment requires to have income, which in the case of share capital infusion cannot apply. He says: "One hopes that the government will accept the Bombay High Court decision, which will put an end to the painful litigation and send out a signal to investors that such types of stands by tax department are not encouraged by the government."

Taxation is one of the many considerations that determine the ease of doing business in any country, but in India the issue has preoccupied the minds of foreign companies far more than necessary in recent times. Thanks to a series of tax disputes with foreign companies, the business environment has gotten vitiated in the last couple of years. The attempt by the tax authorities to apply transfer pricing rules to share capital infusion by the parent into local operations of multinationals is one of the many such instances. A senior tax advisor claims that the claims on these foreign companies were absurd. The tax authorities has made tax claims on tax on the Indian arms of several companies for transferring shares to the parent at cheaper valuations.

Given the "terror" tactics adopted by the authorities in recent times, the rulings are a positive, but it does not improve the business climate in India significantly as there are plenty of other issues that are equally vexing. For starters, the previous government was not known to respect the court's ruling. Rohan Phatarphekar – Partner and Head, Global Transfer Pricing Services, KPMG in India -- is of the opinion that the court ruling by itself may not be sufficient to apply the principles to wider cases. He adds: "It would be helpful if the CBDT issues a circular on the lines of the High Court Ruling to provide guidance to the field officers on this matter. This will help to build consensus, provide certainty and ensure consistent approach is adopted across all taxpayers."

In addition, there are several other taxation issues that are also vexing and need to be addressed. Another issue, is the retrospective amendment pertaining to transfer of business and the implementation of General Anti-Avoidance. Rules (GAAR), which continue to give jitters to foreign investors. Mahesh Kumar at Nishith Desai Associates believes there are several systemic issues that have to be addressed by the government to boost taxpayer confidence. He says: "Some of the challenges faced by investors include ambiguous tax provisions deviating from international standards, extra-territorial taxation, amendments aimed at overriding judicial precedent supporting taxpayers, retrospective changes, disproportionate penalties, high pitched assessments solely aimed at meeting revenue targets, disregard for tax treaties, high risk of long drawn and expensive litigation, lack of effective advance ruling infrastructure and a generally aggressive and adversarial tax environment."

Even when the government has taken steps to ease the situation, the implementation has not been efficient. For instance, the Advance Pricing Arrangement, which is an arrangement between the taxpayer and the tax authority covering future transactions, with a view to solve the potential transfer pricing disputes in a cooperative manner is a positive step, claim experts. But the pendency is huge in all these cases. Ketan Dalal, tax partner at PwC India, says: "For international investors transfer pricing is a big issue and the Advance Pricing Arrangement has given them some comfort in terms of certainty. But the huge pendency in APA is causing concern. Some 400-500 cases are pending under the APA regime and only four have been cleared. Also characterisation of income, such as software, is a problem."Mahesh Kumar believes that India needs to overhaul its tax structure, reduce tax and compliance costs, guarantee taxpayer rights and respect tax treaty commitments.

A more professional and pro-investor attitude has to be ensured at lower levels of the tax department. Also, the approach and implementation at the field level needs to be consistent and positive for tax payers to get confidence and certainty in doing business.

Ketan Dalal, senior tax partner at PwC India believes that the original issue was a real stretch in the context of the fact that transfer pricing adjustment requires to have income, which in the case of share capital infusion cannot apply. He says: "One hopes that the government will accept the Bombay High Court decision, which will put an end to the painful litigation and send out a signal to investors that such types of stands by tax department are not encouraged by the government."

Ease of doing business: In my whole life never seen a more absurd tax structures. The tax dept said the parent should have put more money. They passed the order saying that they should have put more money by valuing the shares at a higher. The issue was a created one.

It cannot enthuse for investors. The absurd levy has been reversed. Less discouraged by the ruling. People were stunned by the development. How can the government go and appeal? The companies are hoping the government will not appeal against this. It appeared that the government would not appeal. In the CBDT only two members are present and Anita Kapoor will take the decision. By not appealing and FM makes a statement saying that the government states that the government will not appeal. PWC's Dalal sums it up well by saying: "In any country, tax is an important consideration for foreign investors, but in India the concern is disproportionate given the huge litigation and virtually the inability to close issues. The issue is compounded by the fact that administration and accountability of the tax department is a matter of serious concern for international investors. Things seem to be improving but it is early days and a lot needs to be done."

What

* Tax authorities had accused Vodafone India and Shell of under-pricing shares issued to the parent and demanded tax of Rs 3000 crore and nearly Rs 18,000 crore, respectively.

* The Bombay High Court High Court on October 10 struck down the claim against Vodafone and on 18 November against Shell

Why

* The court has ruled that transfer of shares does not fall under the purview of transfer pricing rules as there is not profit derived from the transfer. Transfer pricing is the value at which goods and services are transacted between different countries. Considering the shares were allotted to the parent company and no profit was derived from trading on them, the court struck down the claim

Impact

* India now joins league of other countries where transfer pricing rules are not applicable to transfer of shares. This ruling puts an end of a long-standing dispute between foreign companies and Indian tax authorities, which had eroded business confidence of foreign investors

What next?

* While this is a positive development, plenty of other tax-related bottlenecks continue to exist in India, which are yet to be resolved.

Other changes in tax policies foreign investors want to see

* Change amendments aimed at over-riding judicial precedent as in the case of amendment on transfer of business

* Effective advance ruling infrastructure

* Guarantee taxpayer rights

* Implementation of General Anti-Avoidance Rules

* Lower pendency of cases under the Advance Pricing Arrangement

* Clarity on amendments aimed at overriding judicial precedent supporting taxpayers

* Retrospective changes and disproportionate penalties

* High pitched assessments solely aimed at meeting revenue targets