Decoding India’s New Model BIT (III)
The concept of expropriation has always been, and continues to be, a controversial issue in international investments. In particular, most problematic is the interpretation of the concept of “indirect expropriation” which has been widely used by international investors to challenge a wider range of regulatory measures on health, environment and public safety that infringe on their investment rights. For instance, a number of private corporations have used regulatory expropriation provisions under Chapter 11 of NAFTA to sue governments and demanded cash compensation for government regulations that have incidentally or marginally affected their investments.
India’s new model BIT does not allow nationalization or expropriation of an investment except for reasons of public purpose, in accordance with procedures specified in the domestic laws and on payment of adequate compensation. In order to prevent foreign investors from bringing frivolous claims, it adopts a case-by-case test approach to determine whether government actions have led to permanent and complete or near complete deprivation of the value of investment. It further clarifies that an action taken by a government in its commercial capacity will not constitute expropriation.
Additionally, India has inserted carve-outs and reservations clauses to maintain regulatory space. The new model BIT explicitly states that non-discriminatory regulatory measures taken to “protect legitimate public welfare objectives such as public health, safety, and the environment, shall not constitute expropriation.” It further states that the arbitral tribunal “shall not have authority to review the host state’s determination of whether a measure was taken for a public purpose or in compliance with its laws.”
The new model permits payment of compensation keeping in view the fair market value of expropriated investment as well as public interest. The compensation will include simple interest at the LIBOR rate from the date of expropriation until the date of payment.
Transfers
The new model BIT permits investors to freely transfer funds related to their investments into and out of the host country. It provides a list of funds which are eligible for unrestricted transfer. These include contributions to capital, profits, dividends, capital gains, interest, royalty payments, technical assistance fees, payments related to contracts and loans.
Nevertheless, the new model permits the imposition of temporary restrictions on transfer of funds in the event of serious balance-of-payments difficulties or in cases where capital movements pose serious difficulties in the management of monetary and exchange rate policies. Similar to Japan-Korea BIT (2002), the new model treaty allows the host country to delay or prevent a transfer related to bankruptcy, insolvency or compliance with judicial decisions and awards.
India needs to adopt a more cautious approach toward free transfer of capital because of its external sector vulnerabilities. Due to heavy reliance on external funding, India is among the countries that are most vulnerable to capital outflows. In the aftermath of global financial crisis, many countries imposed restrictions on both capital inflows and outflows to maintain financial and macroeconomic stability. Even the IMF these days endorses the use of capital controls in capital inflows and outflows, albeit temporarily, and subject to certain circumstances. In a post-crisis world, financial stability must be treated as a public good just like the maintenance of law and order and national defence.
Of late, India is facing a high quantum of fund outflows on account of royalty payments, technology transfers, know-how, use of brand names and trademark fees. Such outflows accounted for 16-33 percent of the FDI inflows into India between 2010 and 2013, thereby reducing the benefits of FDI. The higher outflows are the result of liberalization measures introduced in 2009 whereby the caps for royalty and fee payments were removed in order to create a conducive environment for FDI. Once the caps were removed, many foreign companies increased their royalty rates and other fees. A recent report by Institutional Investor Advisory Services notes that royalty and related payments by 25 multinational corporations increased 23.8 percent in 2012-13 while the growth in their earnings as net sales and profits grew at 15 percent and 13.1 percent respectively. Given India’s inherent vulnerability to external sector shocks, the government should have at least removed royalty payments and other fees from the list of funds to be freely transferred.
In the new model text, the government should have included additional provisions to deny protection to cross-border flow of illicit money (derived from corruption, money laundering and other illegal means) which is sent from India to low tax jurisdictions via hawala (an informal system of money transfer across borders) and then sent back home in the guise of foreign investment to earn profits and tax benefits. The Indian tax authorities are grappling with this process – popularly known as round tripping – which is carried out to conceal the identities of actual investors and for tax avoidance purposes.
This is the third in a series of five articles that will analyze the new model text for Indian bilateral investment treaty.
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