India: Taxes On Acquisitions

Multiyear tax disputes with multinational companies have damaged India's business-friendly reputation.

Japan’s second-largest global bank, Sumitomo Mitsui Financial Group (SMFG), faces a $670 million capital gains tax bill from India on the bank’s nearly $2 billion acquisition of nonbanking financial company Fullerton India Credit. SMFG holds a 74.9% stake in Fullerton India; Fullerton Financial Holdings, a wholly owned company of Singapore-based Temasek, has the remaining 25.1% stake.

SMFG had kept aside $170 million for tax purposes for the deal completed in July 2021, marking a Japanese bank’s first entry into India’s retail finance business. The income tax authorities demanded an additional $500 million on behalf of the seller, which Sumitomo had not expected.

A 2012 decision by India’s supreme court categorically stated that the country’s income tax authorities are not authorized to tax capital gains that arise from the indirect transfer of shares of an Indian company that is majority-owned by a foreign  company, when the foreign parent is acquired by another foreign company.

The taxes forgone by the tax department were so huge that the 1961 Income Tax Act’s provisions were amended retroactive to 1962 by India’s Finance Act in 2012. This amendment struck at the core of the supreme court ruling and made Vodafone liable to taxation retroactively for an earlier deal.

India’s Bharatiya Janata Party-led government applied this amendment to raise tax demands on various companies, including Capricorn Energy and Vodafone. But the multiyear tax disputes with these multinational companies damaged the reputation of India as a business-friendly nation.

In 2021, to attract foreign investments and to position India as a business-friendly nation, the current National Democratic Alliance government brought a bill in the Lok Sabha (the lower house of India’s parliament) to scrap the retroactive taxes. However, the capital gains tax for deals done after 2012 remained, without any change, resulting in the capital gains tax bill of $670 million for SFMG.

As of now, it is not clear whether the Japanese bank will comply with or contest the taxation. If it does the latter, it will drag the government to another drawn-out tax dispute.