The FT has reported that:

The Mumbai High Court on Wednesday dismissed a challenge by Vodafone against a $2bn tax [charge]. Vodafone had challenged whether Indian tax authorities had the right to assess the tax on the UK group's $11bn acquisition of a local mobile company, Hutchison Essar. In February last year, Vodafone bought a 67 per cent stake in Hutchison Essar from Hutchison of Hong Kong. India's tax department argued that even though Vodafone was the buyer and Hutchison was the seller, the UK group should have withheld an estimated $2bn of capital gains tax on the deal on the government's behalf.

Vodafone countered by saying the sale of shares took place between foreign companies, which under past practice would normally have exempted the transaction from taxation in India. Under the Hutchison Essar sale, a Dutch company controlled by Vodafone paid the $11bn to a Cayman Island entity run by Hutchison, for another Cayman Island company that indirectly held a controlling stake in the India-based mobile operator.

The substance of this issue is, of course, simple in essence. An asset whose value was created in India by the existence of Indian customers (because no business has value without customers) should, when sold, in the eyes of the Indian tax authorities give rise to a capital gain chargeable in India. It seems an entirely reasonable proposition, and one that Hutchison clearly tried to avoid through the use of an offshore structure, a process in which Vodafone were quite obviously a willing participant or the deal could not have been structured in that way.

India has chosen to strike back. Hutchison has gone, but Vodafone owns a continuing asset within India, and India has therefore say that Vodafone should have ensured that the tax liability was paid by withholding the likely liability from Hutchison and accounting for it to the Indian tax authorities.

There are many nuances to this, I am aware, one of which is whether the relevant legislation was in place to require Vodafone to do this at the time, albeit that it definitely is now. But the point of principle is the issue that concerns me, and that is that India is saying that capital gains can be taxed on the source or arising basis in the jurisdiction where the asset which gives rise to the value is located, whatever the legal form of the entity in which it is wrapped for transactional purposes and where ever that legal form of transfer takes place.

I warmly welcome India's approach. I sincerely hope it is adopted elsewhere. It would have profound implications of the private equity business and hedge funds, for a start.