Australia: Expropriation through taxation – in which circumstances might there be a remedy under international investment law?

Last Updated: 12 September 2012

By Donald Robertson, Partner, Leon Chung, Senior Associate and Anne Hoffmann, Senior Associate

Background

The latest chapter in the Yukos saga has just been written. This saga concerns the relationship between the Russian Federation and the foreign investors in Yukos. The decision of the arbitral tribunal summarised in this note identifies the way in which international law can be used to protect foreign investors from unwarranted interference by state interests. This chapter reveals the subtle ways in which that interference can occur through otherwise legitimate processes (the taxation regime) and how international law can be used to combat that interference (if sufficient thought has been put into the structuring of the investment to start with).

The arbitral tribunal in Quasar de Valores et al v The Russian Federation, Award dated 20 July 2012, has handed down its decision on the merits of a claim by Spanish investors into the Russian oil giant Yukos against the Russian Federation for expropriation under the Spain-Russia bilateral investment treaty. After Mr Khodorkovsky's arrest, the Russian tax authorities re-examined Yukos' tax payments for 2000-2001 and found that Yukos had allegedly unlawfully underreported income by streaming it through Russian tax havens. The Russian tax authorities claimed that these were unlawful tax-avoidance schemes and that Yukos had to pay some 99.4 billion Roubles (ca US$3.5 billion) in tax arrears. When Yukos could not pay the debt, the company was liquidated and its prime asset ended up in the State-owned Rosneft.

The majority of shares in Yukos were held by a Russian entity, Menatep, which had no rights to pursue under international investment treaties. The claimants in these proceedings were Spanish investors which owned American Depository Receipts (ADRs) of Yukos and had contractual relationships with the Deutsche Bank affiliate incorporated in New York which was the formal shareholder/depository of the Yukos shares. In an award on preliminary objections (dated 20 March 2009), the Tribunal held that the ownership of ADRs by the Spanish investors was sufficient to constitute an investment into Russia for purposes of the Spain-Russia investment treaty.

The Spanish investors alleged that the Russian tax authorities' measures amounted to an indirect expropriation under the investment protection treaty and that they were due adequate compensation.

The Tribunal found that the investment treaty had indeed been breached and awarded some US$2 million in compensation to the Spanish investors.

This result is remarkable for a number of reasons and the whole 'Yukos affair' has and–it is suggested–will continue to attract a lot of media attention. The issue which will be highlighted here is that the Tribunal has confirmed that in international law taxation can amount to indirect expropriation.

In which circumstances might taxation amount to expropriation?

The Tribunal established the following test to determine whether tax, which by its nature involves the taking of the taxpayer's money, amounts to expropriation under international standards: 'if the ostensible collection of taxes is determined to be part of a set of measures designed to effect a dispossession outside the normative constraints and practices of the taxing authorities' (para 48), these could amount to expropriation for purposes of the investment protection treaty.

The Tribunal was led by the following considerations:

  • Yukos had already paid its taxes for the relevant year and, whilst being aware of Yukos' tax 'optimisation' scheme, did not question it at the time
  • Yukos' usage of the tax havens was not illegal and the tax authorities' claim that it was done in bad faith and disproportionately could not make it illegal–the authorities could and should have used other mechanisms to arrive at the appropriate tax (eg arm's length standard in transfer pricing) rather than the intangible concepts of bad faith and disproportionality which were not found in the tax legislation
  • there were indicia for the deliberate targeting of Yukos (although the Tribunal pointed out that expropriation is an objective standard; subjective intent is irrelevant): no other large company was subjected to a similar test of disproportionality; Yukos was not allowed to benefit from tax refund and the way in which enforcement of the newly assessed tax liability was carried out was unreasonable (inter alia, by imposing an asset freeze which made it impossible for Yukos to pay its debt); the quick and haphazard way in which Yukos' assets were subsequently liquidated.

The Tribunal, however, also highlighted that the starting point for an enquiry should be that taxation is not expropriation. 'Yet there is a world of difference between incidental detriment, even of a substantial nature, and purposeful dispossession.' The label of 'taxation' cannot be sufficient to remove a taking from the scrutiny of international tribunals under relevant investment treaties.

Based on the facts, the Tribunal found that the Spanish investors were expropriated and were entitled to adequate compensation.

Practical implication of this decision

This decision, although not of binding precedent value in international investment arbitration, highlights yet again the importance of investment structuring. It is clear that expropriation can be both direct and indirect.

Concerns about the regulatory environment of an investment country can be addressed by making the investment through a state with a suitable investment treaty with the host state so that the investor can benefit from its protections. A tailored approach is required in each circumstance and it is important to consider carefully the terms of any investment treaty prior to making an investment because the scope and nature of protection can differ. Some recent treaties seek to set out expressly which test is to be applied in determining whether a measure constitutes indirect expropriation. The Model USA bilateral investment treaty (2004), for example, states that 'except in rare circumstances, non-discriminatory regulatory actions by a Party that are designed and applied to protect legitimate public welfare objectives, such as public health, safety, and the environment' do not constitute indirect expropriations.

Footnotes

1For more information, please see Freehills articles, Protecting your investments in foreign courts–an Australian mining company secures bilateral investment treaty remedy for local court delays, Enforcing awards against States and State-owned entities, Are all foreign transactions protected by international investment treaties?, International investment: smart structuring of foreign investments.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

 
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Mondaq Advice Centre (MACs)
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.