Due to its 2012 blunder, India’s Cairn challenge at The Hague is likely to fail

Towards the end of 2020, an investor-State dispute settlement (ISDS) arbitration tribunal, in a case involving the British oil and energy giant, Cairn, and the Republic of India, found India guilty of having violated the India-United Kingdom (UK) bilateral investment treaty (BIT).

The dispute arose when the Indian government, armed with the retroactive 2012 amendment in the Income Tax Act, demanded that Cairn pay taxes on the alleged capital gains it made due to a 2006 internal corporate restructuring. The tribunal held that India’s conduct breached the fair and equitable treatment (FET) provision of the India-UK BIT, and ordered India to pay more than $1.2 billion to Cairn.

Although an ISDS award is binding on the parties, it does not bring the dispute to an end. There are two more obstacles. First, the award could be challenged at the seat of arbitration. Second, the host State could contest the enforcement of the ISDS award in its jurisdiction or in any other jurisdiction where the investor tries to enforce the award.

India has challenged the award in a court in The Hague — the seat of arbitration. The award can be contested on limited grounds such as procedural irregularities or jurisdictional matters. India’s challenge is based on the ground that the ISDS tribunal lacked jurisdiction. India considers that taxation matters are outside the scope of the application of BIT. Therefore, the case brought by Cairn falls outside the subject-matter scope of the tribunal.

While India has a legal right to challenge the award, this challenge is likely to fail. As the Cairn tribunal has explained, the dispute between Cairn and India is not a tax dispute but a tax-related investment dispute.

The tribunal held that a tax dispute is a row related to the taxability of a specific transaction. On the other hand, in a tax-related investment dispute, the tribunal’s task is to determine whether the host State has violated the substantive protection standards given in BIT by exercising its authority in the field of taxation.

In other words, the question was whether the manner in which India taxed the 2006 transactions, including the application of the 2012 amendment, fell short of the substantive standards given in BIT or not.

India’s jurisdictional challenge will fail also because tax-related matters are not excluded from the purview of the India-UK BIT. Taxation matters are listed as an exception in Article 4(3) of the India-UK BIT only for two substantive standards — most-favoured nation treatment and national treatment. Taxation-related sovereign measures could still be tested on the touchstone of other substantive standards in BIT such as FET provision.

The Indian government is correct in asserting that taxation powers are an indispensable part of a country’s sovereign power. However, this does not mean that the exercise of this power cannot be a subject matter of arbitration unless BIT unequivocally excludes taxation matters from its ambit.

The very purpose of having a BIT is to impose reasonable restrictions on the exercise of sovereign powers, including taxation that may affect foreign investment.

Cairn has already initiated proceedings to enforce the ISDS award in several jurisdictions. It is eyeing the possibility of attaching Indian assets in these jurisdictions, including the assets owned by Indian public sector undertakings, to recover the money. All this is a horrible advertisement for India’s reputation as an attractive destination for foreign investment and as a country governed by the rule of law.

India will definitely resist the enforcement of the award in foreign countries, citing the fact that it has challenged the jurisdiction of the tribunal or by invoking sovereign immunity. However, these measures, at best, will help India in buying time, not solving the problem.

To put an end to this dispute, India should comply with the ISDS ruling and undo the horrendous error made in 2012 by making the amendment in the Income Tax Act prospective in nature.

Prabhash Ranjan is a senior assistant professor at the South Asia University’s faculty of legal studies

The views expressed are personal