International Tax Panorama

Axiata Group’s Nepal operator Ncell settled a long-drawn disputed capital gains tax bill with the government, under public protest. Ncell paid an outstanding amount of NPR22.4 billion ($183 million) along with NPR990 million in interest to the Large Taxpayers Office (LTO). The bill covered capital gains tax relating to Malaysia-based Axiata’s acquisition of an 80 per cent stake in the Nepali operator in 2016.

However, Axiata said it disputes the tax and argued Nepal’s imposition of the fee in relation to the transaction is unlawful. It added the company and its partners will seek remedies which could include restitution of the amount already paid, a permanent injunction against further attempts to collect capital gains tax and damages for all losses suffered.

Background

On December 21, 2015, Telia Sonera, a Swedish-Norwegion company announced 60.4 percent Stake divestment in Ncell to Malaysian Telecom Operator Axiata for USD 1.03 billion with the aim to reduce their market presence in seven Eurasian countries and focusing on their operations in the Nordics and Baltics. It was followed up in April 2016 when Teliasonera exited from Nepal, by selling all its 80 percent stake to Axiata at Rs 144 billion. This deal was concluded abroad through purchase of the Reynolds Holding company (registered at Saitn Kitts and Nevis, a tax haven), owner of Ncell, by Axiata, from Teliasonera.

Issue of Capital gains taxation

The buyout exit deal came under intense public scrutiny due to the alleged tax evasion associated with the capital gains taxes(CGT) of Ncell. In 2017, the 54th annual report of the Office of the Auditor General said the deal was taxable in Nepal under Clause 57 of the Income Tax Act and hence the government needs to raise Rs 32 billion as capital gains tax from the buyout deal worth Rs 144 billion for 80 percent stake. As per the rule u. Clause 57, the capital gain taxes sums at 25% of the total gains in the deal. This report led to the the belief that the deal is taxable and encouraged an anti-Ncell campaign.

Supreme Court verdict

The matter ultimately came before the Supreme Court where the CGT issue was discussed. The moot question was whether the buyer or seller is liable for the taxes with the deal in ownership transfer. Globally the practice is to tax the CGT in the hands of the seller. As the seller Telia Sonera was allowed to leave the country without paying the tax, the ultimate onus was put on the buyer. The judgement was touted as setting a precedent for the buyer to be also responsible for capital gains tax. 

The court decided that Reynolds Holdings Ltd was a shell company which means that the real owner of Ncell was Axiata, and hence it was liable to pay the tax along with Ncell. Hence, Both Ncell and Axiata were liable to pay the capital gains tax as Ncell was under effective control of Axiata. 

On Nov 21, 2019, the Supreme Court held that Ncell was liable to pay 21.10bil rupees (about US$175mil) in allegedly outstanding capital gains tax (including interest and penalties). Also the SC dismissed LTO’s claim that Ncell owed NPR39 billion after previously paying about NRP23 billion. The court reduced the original amount, leaving it with the NPR22.44 billion to pay.

However Axiata and Ncell were not pleased with the earlier Apex court’s decision to make them accountable for the capital gain taxes. That’s why Ncell moved to International Centre for Settlement of Investment Disputes (ICSID) claiming “the Nepal government contravenes the bilateral agreement with the imposing of the CGT”.

Conflict between ICSID and domestic law:

After a month of SC decision , the ICSID issued an interim order for the arbitration process. In this arbitration, Ncell and Axiata UK would likely dispute the entirety of the capital gains tax allegedly payable by Ncell in connection with the transaction and will argue, among other things, that the imposition of capital gains tax by Nepal in relation to the transaction is unlawful. Also they might seek remedies which could include restitution of the amount already paid or a permanent injunction against further attempts to collect capital gains tax from Ncell in connection with the transaction and any other damages for all losses suffered in consequence of Nepal’s unlawful conduct.

Also the ICSID issued an interim order to stop the tax collection from Ncell. Despite the order, LTO (Large Tax payer’s office) asked Ncell to submit the tax within 15 days.

Here the issue could be whether any ruling of the ICSID, requested by the Ncell and Axiata (UK), prevails over domestic law and the Supreme Court verdict. Nepal is a signatory to the conventions for the establishments of both ICSID and the Multilateral Investment Guarantee Agency that guarantee protection of investments against non-commercial risks and can help investors obtain access to funding sources with improved financial terms and conditions. In that case it is not easy to override the ICSID ruling, 

At the same time ignoring the ICSID ruling could be counter-productive for Nepal, which has committed to protecting foreign investment to the international community by endorsing related conventions. Defying or ignoring the ICSID could send out a negative message about Nepal’s investment climate and discourage foreign investors.

However, the matter could have been less ambiguous if the issues related to taxation of offshore buyout deals were clearly outlined under the domestic law as well as under the tax treaties concluded by Nepal. Following were the major issues identified in that respect:

1. Insufficient domestic law on taxation of offshore indiect deals

Tax officials have always blamed the ambigous income tax law provision which couldn’t tax the seller Teliasonera before it exited Nepal. However, the Income Tax Act includes no clear provisions on offshore indirect deals, as it is unlikely that such transactions were envisaged at the time the legislation was drafted. According to clause 57 of the act, foreign investors are liable to pay CGT at a rate of 25%; and as the physical assets of Ncell changed ownership and these assets were based in Nepal, the case seemed clear to some. Under Section 57 of Income Tax Act if the ownership of any entity changes by Fifty percent or more as compared to its ownership until before the last three years, the entity shall be deemed to have disposed the property under its ownership or the liability borne by it. 

Thus, there is a need for domestic legal provisions regarding offshore deals.

2. Treaty shopping issue under the Norway-Nepal Tax treaty

Telia, the seller company, argued that under the tax treaty between Nepal and Norway tax should be paid in Norway. However, it fails to give the full picture, as the immediate shareholder of Ncell seems to have been the St Kitts and Nevis-based Reynolds Holdings Ltd, rather than a Norwegian entity. Also the final seller is the Telia’s Swedish headquarter company, citing the Norway-Nepal Tax Treaty is an issue of abusive treaty shopping. Reynolds Investment’s location in St Kitts and Nevis would most likely allow it to benefit from a low-tax environment; while concluding the sale of Ncell’s assets in the Netherlands would mean that it would most likely be exempt from CGT according to Dutch law. The DTA between Norway and Nepal dates back to 1996. Clause 13.5. of the DTA does not explicitly seek to tax indirect offshore capital gains and exempts any taxes not foreseen in the treaty. This clause should be reconsidered by both Norway and Nepal from the perspective of its extraterritorial impact on a third party in these two or other countries through a so-called ‘tax spillover’ analysis. Not to mention this provides opportunities for tax abuse. 

Conclusion

It is evident that the settlement of capital gains taxation by Ncell was made under protest. However, the ruling of ICSID will determine if the tax claim by Nepal’s Tax authority was lawful or not. Also the imposition of capital gains tax irrespective of the ICSID interim ruling creates an environment of uncertainty amongst investors. 

A far as tax abuse is concerned, the offshore deal must be thoroughly reviewed under the domestic law as well as under the tax treaty. It would be prudent to clarify whether CGT is applicable to all transactions, irrespective of the location of assets in a holding structure on paper. In fact, this change was requested by the Supreme Court decision to look into clarifying tax treaties Nepal has in these cases. While this change to international tax laws and norms could ideally solve the situation, it is important for both Nepal and other treaty partners in tax, investment or trade agreements to conduct so-called spillover analysis to understand extraterritorial obligations of their treaties against abuses. This should lead to renegotiating tax, trade and investment treaties with partners where harmful clauses are identified so that international treaties should not be used to overturn tax rulings in Nepal