Analysis: How rich oil firms are using secretive court to fight capital gains tax in developing world
At a little known but powerful international court of arbitration, so secretive that senior officials decline to disclose even the dates of hearings, a new case has been filed that will pitch a mighty US oil major from Houston, Texas, against one of the world’s last Communist-run countries.
On the face of it, this battle between ConocoPhillips and the Socialist Republic of Vietnam is as dry as it gets. Hardly anyone has yet heard of it.
But the result could mark a significant shift in the way huge multinationals fight off the threat of taxes from desperate revenue authorities in developing countries.
For ConocoPhillips is using the not-so-glamourous Bilateral Investment Treaty Mechanism of the UN to launch a pre-emptive legal strike against Vietnam’s intention to levy an estimated $179m capital gains tax charge on oil fields sold by one of its UK subsidiaries.
Capital gains: A new frontier
Think of any of the major tax avoidance scandals that have dominated headlines in the last ten years: Google, Facebook, Apple, Nike, all have focused on profit shifting, the art of moving money out of profitable markets and into tax havens as a means of avoiding corporate income tax.
Most commonly, profit shifting happens when companies move revenues abroad, for example by billing their customers from an offshore company, or by invoicing a local business for fees and costs from an offshore company.
However, there is another important form of tax avoidance which multinationals frequently abuse but which has received little attention from the media: avoiding tax on capital gains.
Over the next few years, as more countries claim their resources have been bought and sold by foreigners tax free, this issue is likely to become a new frontier in the anti-tax avoidance campaign.
A capital gain is where a company or an individual sells an asset and makes a profit on that sale due to an increase in value of the asset being sold. Think of selling a house. The money you make by the virtue of your house increasing in value is your capital gain.
When it comes to major multinational mergers and acquisitions the capital gains can be enormous, and tax can easily be avoided if deals are structured offshore.
Capital gains tax: Made in Vietnam?
In 2012, a UK subsidiary of ConocoPhillips sold two other UK companies it owned, ConocoPhillips Gama Limited, and ConocoPhillips Cuu Long. It sold them to a UK company owned by Perenco, the Anglo-French oil firm. Perenco is also a party to the arbitration.
The only assets held by ConocoPhillips Gama and Cuu Long were Conoco’s oil interests in Vietnam.
According to accounts filed at UK Companies House, ConocoPhillips sold the companies for $1.3bn making a profit of $896m. Buried in the detail of those accounts, a small note states that the company paid no taxes on that capital gain.
Why? Because Britain operates a loophole known as a “substantial shareholder exemption”. This means that profits on the sale of shares in subsidiary companies are not subject to capital gains tax in the UK.
But although the UK may choose not to levy any capital gains tax, that has not prevented Vietnam’s policymakers from trying to do so.
Under the terms of the UK-Vietnam tax treaty, Vietnam has the right to tax any capital gains made by UK companies that originate in Vietnam. If the profits on the deal were subject to the standard corporation tax rate in Vietnam, then ConocoPhillips could have to cough up an estimated $179m to the Vietnamese government.
So the question therefore becomes, what and where is the source of the profits?
If you are ConocoPhillips, the value is all in the shares, and the profit should be located in the UK. When we asked the company about the deal a spokesman said: “The sale was between two UK incorporated and resident entities with no taxable presence in Vietnam. The target companies are also UK companies. As a result, no taxes were owed on the sale in Vietnam.”
The Vietnamese government takes a different view, claiming the profits really arise out of the transfer of the oil assets. As these were located in Vietnam, it says that’s where they should be taxed.
Indeed, Vietnam has signalled its intention to tax the transaction – and that has alarmed not only the US oil giant, but also in all likelihood other similarly powerful corporations.
The potential precedent for multinationals
If Vietnam is successful, there could be profound implications for other developing countries, which have often seen Western companies make huge profits on their investments, only to walk away with them tax-free.
It is an issue that has concerned policymakers at the highest levels of the United Nations and the Organisation for Economic Cooperation and Development. In essence, the argument is: if multinationals make fortunes from a poorer country’s resources, then surely the host should have the right to levy the appropriate tax on the gains.
But ConocoPhillips is holding firm, telling Finance Uncovered that it would “pursue all available legal remedies to challenge any attempt by Vietnam to tax the transaction”.
And that is exactly what the company is doing with this new legal move: it wants to stop the threat in its tracks.
ConocoPhillips and Perenco have quietly filed a petition in the secretive investment tribunal, requesting it orders Vietnam not to levy the tax.
Unusually, the case is being brought under the UK-Vietnam Bilateral Investment Treaty, which is subject to an arbitration process run by a little known corner of the United Nations System, The United Nations Commission on International Trade Law.
The use of the Bilateral Investment Treaty Mechanism is itself controversial. Such disputes are expensive, opaque and are not usually used to settle tax disputes.
Neither ConocoPhillips nor Cavinder Bull (pictured, left), a senior Singaporean barrister and chairman of the arbitration panel looking into the case, would disclose the location, or the dates, of the hearings.
And this case is thought to be the first to look at the issue of capital gains tax. If it goes ahead, that itself could act as a deterrent to developing countries trying to levy taxes because such battles cost fortunes in legal fees – about $5m a case, on average.
Michael Lennard is the Chief of the UN International Tax Cooperation Section who is currently on sabbatical as a visitor at the Oxford University Centre for Business Taxation. He has negotiated many tax and investment agreements, and speaking in a personal capacity he told Finance Uncovered: “The proceedings are held in secret, with expensive Western law firms often having to be hired to deal with arcane procedures.
“Most of the potential arbitrators in tax-related cases are not tax experts or else are tax advisers to corporations, with insufficient experienced and non-partisan arbitrators from the developing world (such as academics), not enough women and not enough younger experts.
“As a result it is extremely difficult for developing country governments to secure the expertise they need to defend these cases.”
For many, this reeks of injustice: big multinationals using the sledgehammer of a secretive and prohibitively expensive court to deprive developing countries of the revenue they feel is theirs.
Jayati Ghosh, a renowned professor of economics at Jawaharlal Nehru University in New Delhi, said: “Developing countries’ experience with the outcomes of such cases does not inspire optimism, as it is well known that the panels tend to be more investor friendly and generally support the claims of firms over the rights of governments or even the human rights of their citizens.”
Perenco declined to comment.
Our story on the dispute between ConocoPhillips, Pereeco and the Government of Vietnam was published in the Guardian on 15/08/2018 – that article can be viewed here.