The new model BIT seems to be a knee-jerk reaction to India's bitter experience with investor-state arbitration as enhanced regulatory supervision, by itself, cannot justify adoption of a wholly one-sided instrumentW ith the recent Permanent Court of Arbitration ruling against the Government of India in the dispute surrounding the annulment of the 'S-band spectrum lease contract' between...
The new model BIT seems to be a knee-jerk reaction to India's bitter experience with investor-state arbitration as enhanced regulatory supervision, by itself, cannot justify adoption of a wholly one-sided instrument
W ith the recent Permanent Court of Arbitration ruling against the Government of India in the dispute surrounding the annulment of the 'S-band spectrum lease contract' between Devas Multimedia and Antrix Corporation (ISRO's commercial arm), India finds itself again at the receiving end of an investor- state tribunal award. The award, issued on 25 July 2016, found the government to have committed expropriation of investment within the meaning of the Bilateral Investment Treaty ("BIT") between India and Mauritius. Even though the details of the award are not in public domain, reports suggest that India may have to shell out upwards of 1 billion USD in damages. This is the second formal award by a BIT tribunal against India, with the first one being the award passed by UNCITRAL in the case of White Industries v. The Republic of India back in 2011.
A Peep into the Past
The White Industries award was historic in the sense that the tribunal had awarded damages to the investor for the lackadaisical attitude of the Indian judiciary in enforcing a previous arbitration award. The fact that the actions of the Indian judiciary could come under the scrutiny of an international tribunal raised many an eyebrow.
It was also instrumental in emboldening a number of foreign investors to serve arbitration notices under BITs to the Indian government. Out of seventeen odd notices, most of them arose due to the Supreme Court of India's cancellation of 2G spectrum licenses held by telecom companies. Other prominent notices (viz. Vodafone and Cairn Energy) challenge the policy of retrospective taxation of capital gains introduced by the Finance Act 2012.
Alarmed by this 'uprising', the government decided to embark on a review of its investment treaties. Thus, it came out with a draft model BIT in March 2015. After a consultative process with the Law Commission of India ("LCI") and relevant stakeholders, the model BIT was adopted in December 2015. India now seeks to use this model treaty as the base draft for negotiations of India's existing and future investment treaties with countries around the world, including significant trading partners. Having burnt its hands in the past, India has now become more cautious in extending substantive and procedural safeguards under its model BIT. At the same time, it cannot turn a blind eye to investor concerns because of the present government's aggressive pitch for FDI in a multitude of sectors. The evaluation of key provisions of the model BIT in light of these policy objects provides an interesting analysis.
Evaluating the Key Provisions
The definition of 'investment' under the new BIT has drastically changed with India now moving to an enterprise-based definition from the previous asset-based definition. This would mean that the investment now has to satisfy the pre-requisites laid down in the case of Salini Costruttori S.p.A. and Italstrade S.p.A. v. Kingdom of Morocco (i.e. commitment of capital or other resources, certain duration, expectation of gain or profit, assumption of risk and significance for the development of host state) to qualify for protection under the treaty. Furthermore, certain assets such as money claims arising from trade in goods and services or from commercial transactions, goodwill, brand value, market share or similar intangible rights have been expressly left out from the scope of the definition.
The rationale behind insisting on the Salini test, being to afford protection to only those investments that have an enduring benefit to or a substantial impact on the Indian economy, is justifiable. However, by leaving out goodwill, brand value and similar rights from the scope of protection, the government has left out crucial assets that contribute to the value of the investment. Yet another prominent omission is that of money claims arising from trade in goods or services. This seems to have been a direct result of the White Industries award wherein the claimant successfully contended that such money claims as well as arbitration awards can come within the meaning of an investment.
The new model has also expressly excluded any taxation measures from the purview of the treaty. This provision has been made in view of India's experience with the imposition of retrospective tax on Vodafone and Cairn Energy. In the case of Vodafone, the Supreme Court of India dismissed the imposition of capital gains tax on the transfer of shareholding in a Cayman Islands company (which in turn held the controlling interest in Hutchison Essar Ltd.) to Vodafone. With a view to bypass the Supreme Court ruling, the Parliament introduced retrospective amendments with Finance Act 2012 so as to extend the tax net to transfer any share of a company outside India when such share derives its value substantially from the assets located in India. This provision was further used to slap a tax demand on capital gains made by Cairn Energy in 2006 on its transfer of Indian assets to its subsidiary - Cairn India. Pursuant to these tax demands, the companies have served notices to India under the respective BITs of an investor-state dispute settlement mechanism. It is with a view to insulate India from such challenges in the future that the Model BIT has carved out an exemption for all taxation maters.
However, as pointed out by the LCI, such a taxation carve out is wholly unnecessary as the power to tax is considered a part of the State's police powers in international law. By conferring such blanket immunity on all taxation measures, it is sending a wrong signal to foreign investors that the government can still have its way with retrograde taxation policies. The need for such an exemption is unnecessary given that the present NDA government has made its stance clear that it would not resort to retrospective taxation. Moreover, the utility of such a clause remains suspect since investor-state tribunals have previously whittled down such carve out clauses. Such clauses have been struck down on the ground that they cannot confer immunity to 'bad faith' taxation measures designed to cripple investments.
Another provision that has been panned by observers and major trading partners is the 'exhaustion of local remedies' rule. Such a requirement obligates the investor to exhaust its remedies before Indian judicial or administrative forums for a period of five years prior to invoking the dispute settlement mechanism under the treaty. Such a stipulation effectively delays recourse to arbitration by five years and amounts to undue harassment of the investor. For instance, take the case of Cairn Energy that has been served with a tax demand under the retrospectively applied charging provision. If the 2015 Model BIT was to apply to this dispute, the investor would be compelled to fight this demand before Income Tax authorities starting with the Assessment Officer and going up till appellate authorities. The futility of such litigation stems from the fact that these domestic bodies cannot strike down such a retrospective levy as they have to strictly abide by the language of the charging provision.
Yet another point of concern is the conspicuous absence of the most favored nation ("MFN") clause. This provision is a crucial component of most trade and investment facilitation treaties as it restricts the power of host states to discriminate between investors from different states. Such a deliberate omission is understandably a result of the White Industries award wherein the investor tapped into a safeguarding provision of the India-Kuwait BIT by using the MFN clause in the India-Australia BIT. However, such a complete omission may be unjustifiable and impact investor confidence. Rather, the drafters could have retained a narrowly drafted MFN clause that limits protection from discrimination to certain significant provisions.
A panacea for India's ills?
The new model BIT seems to be a knee-jerk reaction to India's bitter experience with investor-state arbitration. The government may, to a certain extent, be justified in conferring limited protection to investors in the interest of greater regulatory supervision. However, such enhanced regulatory supervision cannot, by itself, justify the adoption of a wholly one-sided instrument that effectively insulates the state from investor redressal actions.
Such an ill-advised move does not come without consequences. Firstly, it would undermine the government's efforts directed towards renewing investor sentiment. Secondly, it would pose severe roadblocks to negotiations with its trading partners. For instance, the USA, with which India has been negotiating for a BIT since 2009, has already flagged certain provisions in the new model BIT as sticky points.
Last but not the least, it would impair the protection available to Indian overseas investors, exposing them to high-handed, whimsical policies of foreign states. This alone is a good reason to rethink the provisions of the model BIT.
Disclaimer - The views expressed in this article are the personal views of the author and are purely informative in nature.