5/2/2015

MrunalExplained:NokiaTaxRow,Chennaiplantcontroversy

Mrunalhttp://mrunal.org

[Economy]NokiaTaxRow:RoyaltyPayment,Chennai
Plant,FinlandDTAA,MicrosoftTakeover,UNICITRAL,
TDS,WithholdingTaxexplained
PostedBySupportStaffOn15/05/2014@11:54pmInEconomy|81Comments

Prologue
Royalties:Drainofwealth
#1:Quantitativerestrictiononroyalties
#2:TaxonRoyaltiespaid
Royalties:TDS(Taxdeductionatsource)
WhatHappenedinNokiaRoyaltycase?
Timeline:NokiaRoyaltyCase
Nokiasexcuses
Nokiascurrentlegalstrategy
UNCITRAL/NokiaBIPA
JayaLalithasproblem?
MockQuestions

Prologue
UpdateIhadtomakesomefixesinthesitetheme.IFthesiteisnotdisplayedproperlyin
yourbrowserclearcache(control+shift+delkeytogether).
formoretroubleshootclickme
UPSC(Mains)GeneralStudiesPaper2:
WriteanoteonthestructureandfunctionsofUNCITRAL.
Interviewquestions:
WhatdoyouknowaboutthetaxcontroversyofNokiasChennaiplant?
HowisNokiastaxdisputedifferentorsimilartoVodafoneHutchcontroversy?
WillthisaffecttakeoverbyMicrosoft?

Royalties:Drainofwealth

WheneverMNCssetupsubsidiarycompaniesin3rdworldcountries,theykeepdesign
patentsinfirstworldHeadquarterinUSA,UKetc.
Example,incaseofNokia,alldesignpatents,softwarepatentsareheldbymainboss
companyinFinland.
So,wheneverNokiassubsidiarycompaniesinIndia,PakistanorSomaliamanufactureany
handset=>royaltyispaidtoitsparentcompanyinFinland.
Aftersubtractingsuchroyaltypayment,staffsalary,lightbill,officerent,rawmaterialcost
etc.=>profitleft.
Highertheroyalty=lessprofitforsubsidiary(Indian)company=lesscorporatetaxfor
IndiangovernmentanddividendtoIndianshareholders(ifany.)
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TopreventthisDrainofwealththroughroyalties,IndianGovernmentusestwomethods:
Quantitativerestrictiononroyalties
taxonforeignparentthatearnsroyalties
Letscheckthemonebyone:

#1:Quantitativerestrictiononroyalties
ProductSalesoccurring

maximumroyaltythatcanbepaidtoforeignparent
ifforeigncompanygaveustechnology

ifnotechnology

transfer

transfer

Indiansoil

5%

1%

Exportedabroad

8%

2%

on

Inotherwords,ifforeigncompanytransferstechnologytoitsIndiansubsidiaryweallow
themtotakebackmoreroyaltiesasagestureofgoodwill.
Maximum8%meansifoneNokiaphonesellsforRs.1000,thenNokia(India)cansentupto
80rupeestoitsFinlandparent,asroyaltypayment.

#2:TaxonRoyaltiespaid
WhenIndiansubsidiarysendsroyaltyca$htoforeignparent,Theforeignparentcompany
hastopay(direct)taxonit.(becausethisisonetypeofincomeearnedfromIndia.)
TDSonRoyaltiesvariesasperDTAA
Royaltytaxonforeign
company
ifIndiahasDoubletaxationavoidanceagreement(DTAA)with 10%(IncaseofFinland)
thatcountry

1520%(incaseofUSA)

IfIndiadoesnthaveDTAAwiththatcountry

25%

Royalties:TDS(Taxdeductionatsource)

TaxonRoyaltyPayment(intheory)
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LetsassumeNokiaIndiasoldhandsetsworthxyzcroreandhastopayRs.25,000croreto
Finlandparentasroyaltyforthesoftwarepatentsinthosemobilephones.

TaxonRoyaltyPayment(inRealLife/TDS)
INTHEORY

INREALLIFE(TDS)
NokiasIndiancompanywithholdstheRs.2500
croreroyaltytax.SendsitdirectlytoourIncome

FinlandCompanyreceivesRs.25,000
crore.
FinlandCompanysends10%royaltytax
toIncometaxdepartmentofIndia.
(=Rs.2500crore)

Taxdepartment.
Theremaining25000minus2500=Rs.22,500
crorerupeesaresenttoFinlandparentasroyalty
payments.
ThisTDStaxdeductionatsource.Americans
callittaxwithholding.
Newspapersusethesetermsinterchangeably
sometimesTDS,sometimeswithholdingtax.

WhatHappenedinNokiaRoyaltycase?
NokiaFinlandownsthepatentformobilesoftwareusedinNokiaGSMhandsets.

Between2006to2013,NokiaIndiasent5billionDollars(=~25,000crorerupees)toits
Finlandparentasroyaltypaymentforthatsoftware.
ObviouslyIncometaxdepartmentdeserves10%TDSonthis=Rs.2500crores.(asper
DTAAwithFinland.)
Numbersnotimportant.Hindusays2080,Hindusometimesevensays21000crore(i.e.
approx.totalamountsent).DeccanChroniclesaysRs.25,000croredisputeand10%=
2500asTDSliability.Ipick2500becauseitseasytoremember.
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Anywayswhoneedstopaythisamount?NokiaIndia.(recalltheTDSconceptwejust
learned,senderhastowithholdmoney.)
ButNokiaIndiadidntcutTDS.NokiaIndiadidntpayourIncomeTaxdepartment
Rs.2500croresastaxonroyaltypayment.hencethiscontroversy.
SinceNokiadidnotpaytaxesontime,ITdepartmentputs100%penalty+interestrate=
nowmorethan6500croreneedstobepaid.(asofDec2013)
Timeline:NokiaRoyaltyCase
1995 NokiabeginsoperationsinIndia.SetsupofficesinMumbai,Chennaietc.
2006

NokiastartsFactoryinTamilnadusSriPerumbudurSEZnearChennai.(hence
newspaperscallitChennaifactoryorChennaiplant.)

2010 IndiaandFinlandsignsDoubleTaxationavoidanceagreement(DTAA)
IncometaxofficialsraidNokiasfactoryinSriPerumbudurSEZ.
2013, TheydemandRs.2080croreastaxonroyaltypayments.
Jan.

Nokiadidnotcomply.
ITdepartmentfreezesthebankaccountsofNokia

2013,
Sept.

MicrosoftagreestobuyNokiafor7.2billionUSD.
DelhiHCfreezesNokiaIndiasassets,inotherwordstheycannotbetransferredto
Microsoft.ButNokiaIndiacomeswithJugaad,wellkeepChennaiplantoutofthe

2013, Microsoftdeal
Dec. ITdepartmentdigsdeeperandfindsanotherTDSfraudincopyrightspayments.
Totalliability:6500insoftwareroyalty+4500incopyrightpaymenttoanother
corp.ofNokia
2014, NokiasendslettertoMohanforresolvingthismatterunderFinlandIndiaBilateral
May

InvestmentTreaty(BIT).

Nokiasexcuses
yes,IndiaFinlandDTAApermits10%TDSonRoyalties
BUTMobilesoftwarearenotlistedinthatRoyaltydefinitionunderDTAA.
Forus,mobilesoftwareisarawmaterial,sohowcanyoudemandtaxonmoneypaidto
purchaseitfromFinland?
SinceourfactoryisinSEZ,wedontneedtocutTDSonroyaltypaymentstoFinland.
AtmaxwellpayyouRs.3000crorestoresolvethistaxdispute.
WevealsoplayedroleinIndiasgrowthstory.Wegaveemploymenttomorethan30,000
Indians.InChennaiplantalone,8000peoplework,20%ofthemwomen.(Againnumbers
notimportant,sometimesHindusays8000,sometimesitsays6500.)
Weveinvestedmorethan650millionEurosinIndia.Wearenotascamcompany.
ButIFyoucontinuetreatingMNCgiantslikeNokiaandVodafoneasscamcompanies,then
itllreduceincomingFDItoIndia.

Nokiascurrentlegalstrategy
IfNokiasChennaiplantisauctioned=itllbarelyfetchRs.20003000crores.
ButIfNokiahonestlypaysTDS(penalty+interest)toITDept=morethan6500crores.
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Therefore,Nokiaispreparedfortheworstpossiblescenario:letthecasecontinueincourt
taarikhpetaarikh.Ifwearedefeated,wellonlylosetheChennaifactory.Stillour6500
MINUS3000=3500croreswillbesaved.
Therefore,NokiahaskeptChennaiplantoutsidetheMicrosoftDeal.
Meaning,MicrosoftwilltakeoverNokiasallfactories,offices,staffBUTnotChennaiplant.
Nokiahasevenofferedvoluntaryretirementscheme(VRS)toChennaifactoryworkers.
TheyllalsogetentrepreneurshiptrainingunderNokiasBridgeprogram.
ChennaiplantwillcontinueproductionasSubcontracter/outsourcedfactory.Theyll
supplyhandsetstoMicrosoftownedNokiabrand.
So,evenifNokiaisdefeatedinIndiancourt,Microsoftwillhavenolegalliabilities,no
obligationtogivethetaxmoney.
Andfinally,somemiracle(orsuitcasebaazi)couldhappenandnewlyelectedgovernment
maygiverelieftoNokia,andwholematterwillbeputincoldstorage.

UNCITRAL

May2014:NokiasendslettertoMohanforresolvingthisroyaltytaxmatterunderFinland
IndiaBilateralInvestmentTreaty(BIT).ThisBITtreatyprovidesthatifdisputecannotbe
resolvedinthreemonthsafternoticeTHEN
Option Partycanapproachlocalcourt=>wealreadylearnedNokiaspresentstrategyhere.
A
Option
B

(akaTaarikhpeTaarikh,atmaxauctionthefactory).AND/OR
PartycanapproachforarbitrationunderUNCITRAL.

UNCITRALisalsoinnewsbecauseofVodafonesneverendinglegaldisputes.Therefore,
UNCITRALbecomesimportantforUPSCgeneralstudiespaperIIlastpointofsyllabus
ImportantInternationalinstitutions,agenciesandforatheirstructure,mandate.

MockQuestion
Q.WriteanoteonthestructureandfunctionsofUNCITRAL(200words)
UnitedNationsCommissiononInternationaltradelawisthecorelegalbodyofUNsetupin
late60s.(1966)
Structure:
60memberselectedfromUNGA(GeneralAssembly)
Term:sixyears.Halfofthemembersexpireeverythreeyears.
ElectionQuotastoensuregeographicalrepresentationfromentireworld.
Indiaisalsoamember.Itstermwillexpirein2016.
UnlikeIMF,heretheMembersdonthavetobearadditionalfinancialburden.UNCITRALs
budgetisentirelypaidbyUNGeneralAssembly.
EvenNonmemberstates,international/regionalbodiescanparticipate
Annualsessions@NewYorkandViennaalternatively.
Decisionbyconsensusratherthanvoting.
Functions
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Reducelegalobstacles,facilitatesmoothflowofinternationaltradeandinvestment
harmonizetradelawsofallcountries
Draftsmodeltradelawsonimportexport,internationalpayment,ecommerce,
internationalarbitration,publicprocurementetc.Helpsmembercountriestoadoptthem.
Coordinationwithotherinternational,regionalandnationalbodiesfortradelaws.
Draftsrulesforarbitrationfordisputeresolution.Parties(companiesorstates)canuse
theserulesasguidingprinciplestosettletheirdisputes.
Otherthanthat,UNCITRALitselfdoesntappointarbitratorsorprivatejudgestosortany
disputes
~210words.

Sidenotes
QuotasysteminUNCITRALelection
GEOGRAPHICALREGION QUOTASEATS
Africa

14

Asia

14

EastEurope

WestEurope

14

LatinAmerica+Caribbean 10
Totalmembership

60

JayaLalithasproblem?

JayalalithademandstaxsayingNokiadidnotfurnishExportPROOFs!
SofarwelearnedwhatsChindusproblem(=NokiaIndiadidnotcutTDSonRoyalty
paymenttoFinland)=>UNCITRAL.
ButevenTamilnadugovernmenthassentaseparatenoticetoNokiaIndia.
So,whatsJayalalthasproblem?Ans.VATevasion.
WelearnedthatNokiasfactoryislocatedinSriPerumbudurSpecialeconomiczones(SEZ).
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InSEZ,factoriesaregiventaxreliefforafirstfewyears.
Accordingly,Nokiawasgivenfollowingtaxreliefs/conessions:
(Central)TAX IFHANDSETSAREEXPORTED
Exciseduty

0%

ExportDuty

1%

ButthesetaxreliefsapplyONLYifNokiaIndiashandsetsareexportedabroad.
IftheyresoldindomesticIndianmarket,thenTamilnadugovernmentcandemandValue
Addedtax(VAT).
Jayalathia

NokiaIndiahasnotgivenusproofthatallhandsetswereexported.We

(TN

believemanyweresoldindomesticIndianmarket.Thereforewedemand

government) ~2400croresasVAT
Nokias

documentproofs=nearly16lakhpages.Obviouslywecantsendthemall.

excuse

Bettersendyourofficialstoinspectitinouroffice!

April2014,MadrasHighcourtorder
NokiaIndiawillhavetodeposit10%=240crores.
Tamilnaducommercialtaxdepartmenthavetoinspectrecordsandpassorder.

GK
RajivSuri

NOKIACEOfromManipaluniversity.

SatyaNadella MicrosoftCEO.Bytheway,hisfatherwasanIAS.
Helsinki

capitalofFinland

MockQuestions
Q1.WhichofthefollowingisanillustrationofTaxwithholdingNorms?
AfterreceivingroyaltiesfromitsIndiansubsidiary,NokiaFinlandsendstaxproceedsto
Indiangovernment.
WhilesellingABCCompanytoVodafoneLondon,HutchHongkongwithholdsxyzcroresas
Capitalgainstax(CGT)andpaystoIndiangovernment.
WhilebuyingABCCompanyfromHutchHongkong,VodafoneLondonwithholdsxyzcrores
asCapitalgainstax(CGT)andpaystoIndiangovernment.
Noneofabove
Q2.WhyareNokiaIndiaandIncometaxdepartmentinvolvedinacourtlitigation
justbeforetakeoverbyMicrosoft?
BecausewhilesellingthecompanytoMicrosoft,Nokiadidnotpaycapitalgainstax(CGT)
toITDepartmentofIndia.
BecausewhilebuyingthecompanyfromNokia,Microsoftdidnotwithholdcapitalgainstax
(CGT)forITdepartmentofIndia.
BecauseNokiaFinlandsolditssharesofNokiaIndialtd.toMicrosoftviaapostoffice
companyinCaymanIslandstoevadecapitalgainstax(CGT)fromITdepartmentofIndia.
NoneofAbove.
Q3.ConsiderfollowingstatementsabouttheTaxonRoyaltiespaidtoforeign
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entities.
ItisanexampleofIndirectTax
Inreallife,itiscollectedfromthereceiverandnotfromthesender.
Itis100%exemptedincaseofroyaltiessenttocountriesthathaveDTAAagreementwith
India.
Itis100%exemptedincaseofroyaltiessenttoNRIauthorsthatpayregularIncometax
inIndia.
Answerchoices
only1and3
only2and3
Only1,3and4.
None
Q4.CorrectstatementsaboutUnitedNationsCommissiononInternationaltrade
law.
AllthememberstatesofIMFareexofficiomembersofUNCITRAL.
IndiasmembershiptoUNCITRALexpiredinJanuary2014.
OnlysovereignstatescanapproachUNCITRALforarbitration.
Noneofabove.
Q5.WhenNokiaorVodafonesayswewantarbitrationunderUNCITRALtosettle
ourtaxdisputewithIndiangovernment,itmeans___.
WewantourcasetobeheardatUNCITRALsinternationaltradelawcourtlocatedin
Vienna.
WewantUNCITRALappointedForeignJudgetoresolvethedispute.
WewantUNCITRALsexecutivebodytosettlethiscase.
Noneofabove

Officialanswers
C:thebuyerhastowithholdtax&paytogovernment.TDS=taxwithholdingnorm.
D:Noneofabove.Nokia=royaltyTDSmatter
D:None.Allstatementsarewrong
D:Noneofabove
D:Noneofabove
VisitMrunal.org/EconomyFormoreonMoney,Banking,Finance,TaxationandEconomy.

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paymentchennaiplantfinlanddtaamicrosofttakeoverunicitraltds
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