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Arbind Modi examines whether India's international tax regime explains the sharp fall in FDI, and why retrospective taxation is sometimes unavoidable but must be used sparingly.
Arbind Modi is an internationally respected tax policy expert with over 40 years of experience in tax reform, revenue strategy, and institutional development. He has advised numerous countries in Asia and Africa as a short-term expert for the IMF and World Bank. In India, he served as Member (Legislation), CBDT; Convener of the Task Force to Rewrite the Income Tax Act (2017–18); and Chairman of the GST Task Force (2007–09). He played a key role in designing the Direct Taxes Code (2009) and India’s GST. A former Senior Economist in the IMF’s Fiscal Affairs Department, he brings deep technical, legislative, and international reform expertise.
FDI into India has fallen sharply, from forty-five billion US dollars to 0.35 billion US dollars in the last year, prompting the question of whether India's international tax regime is to blame. Arbind Modi, who has served on the Central Board of Direct Taxes, authored the direct taxes code, helped rewrite India's income tax law, and played a key role in designing the GST, argues that tax is not the primary culprit behind the slowdown. Instead, he points to global shifts like the OECD's Pillar Two architecture and domestic macro stability concerns around the Rupee.
Arbind lays out a framework for understanding India's approach to taxing foreign capital, built on a balance between capital import neutrality (treating domestic and foreign investors alike) and capital export neutrality (taxing residents on global income with credit relief). He then walks through the history of retrospective taxation in India, using detailed examples from the late 1980s and 2000s to argue that an absolute ban on retrospective amendments is neither realistic nor desirable, while stressing that it must be exercised sparingly and with compensation where costs fall on citizens or investors.
The conversation closes with Arbind's view on what India should actually do to attract global capital: not cut rates further, but systematically eliminate uncertainty wherever it exists, in policy design, in administration, and in dispute resolution. The notes below trace his argument from the conceptual framework of neutrality, through the retrospective taxation debate and the Vodafone case, to his final prescription for reform.
Modi, Arbind, and Atibhi Sharma. "Taxing Capital, Attracting Investment: India's International Tax Puzzle." Episode 83 of Big Ideas. XKDR Forum. Video, 31:30. https://www.xkdr.org/viewpoints/taxing-capital-attracting-investment-indias-international-tax-puzzle-big-ideas-ep-83
Arbind opens by describing India's international tax posture as a conscious balancing act between two competing ideals. Capital import neutrality means treating domestic and foreign investors identically, so that a company like Tata or Adani investing in India faces the same tax burden as Microsoft or Amazon doing the same. Capital export neutrality, by contrast, is about treating a resident's income the same regardless of where it is earned, typically achieved through residence-based taxation of global income combined with tax credits for taxes paid abroad.
India, in his telling, leans on residence-based taxation to achieve capital export neutrality, while using MFN clauses and non-discrimination clauses in most of its tax treaties to achieve capital import neutrality. He adds that a well-functioning judicial system is the third leg that keeps the whole system honest:
"We have a residence-based taxation, so that in a way helps you to achieve capital export neutrality. And we have MFN clauses and non-discrimination clauses in most of our treaties. And a good judicial system which ensures that equity is maintained, parity is maintained between the domestic and foreign investors."
Asked why India has not captured more FDI even as global capital looks to diversify away from China, Arbind's first move is to rule out Indian tax policy as the cause. He notes that India's international tax regime has remained broadly stable in recent years, so it would be inconsistent to blame a stable regime for a sudden drop in investment flows.
Instead, he points to global churn created by the OECD's Pillar Two architecture, the new global minimum tax regime built around an income inclusion rule. He explains that investors worldwide are withdrawing from existing structures and reassessing their positions in light of this shift, which could be dampening flows into India along with everywhere else. On top of this, he flags India-specific macro stability concerns:
"If there is an expectation that the dollar rate will go down, the Rupee will fall further, then obviously investors will hold back investment for the time being till the Rupee stabilizes."
His overall conclusion is that policymakers should resist the temptation to react with sudden tax changes in response to the FDI slowdown, since the regime itself has not changed and a knee-jerk policy response risks losing revenue without fixing the underlying problem.
On retrospective taxation, Arbind starts from a firm premise: the sovereign has an unquestionable right to amend laws retrospectively. The real question is not whether this power exists, but how sparingly and carefully it should be used, and whether those who bear costs from retrospective changes should be compensated.
He illustrates this with three episodes from Indian tax history. The first, from around 1988-89, involved a Calcutta High Court ruling that dearness allowance (DA) paid to employees was not taxable. Since DA had always been treated as taxable and millions of potential refund claims would have followed, with no records to verify them, the government retrospectively amended the law from 1961 to confirm DA was always taxable, to avoid administrative chaos and fraudulent claims.
The second episode concerned the investment allowance, an incentive that let companies deduct an extra twenty-five percent of new capital investment against profit, provided they created a reserve. A government circular had clarified that loss-making companies could create this reserve in a later year when they actually turned a profit. This was the accepted position for years, until the Supreme Court, in the Subbalakshmi Mills judgment, ruled the circular invalid and denied the deferral benefit, a ruling that would have brought thousands of crores in additional tax revenue to the government. Even so, the government made a retrospective amendment to restore the circular's position, because it believed that was the correct policy, despite the revenue loss.
The third episode, from around 2006, involved valuation rules for concessional housing provided by employers, rules that had existed since 1961. The Supreme Court ruled that such valuation could not be prescribed by rule. Arbind recounts the government's response:
"After 43, 44 years, if you have that kind of ruling, then what do you do? And again, people wanted their refund. We said, okay, this is what it is. Now that's not possible. So we had to put that same rule into the law and insert it from 1961."
Taken together, these examples are meant to show that retrospective amendments arise in varied and sometimes unpredictable circumstances, and that a blanket rule against them is impractical.
Turning to the Vodafone dispute, which made retrospective taxation a major public controversy, Arbind draws a distinction between what the Supreme Court decided and what the government believed the law was always meant to say. He notes that the Supreme Court itself has acknowledged, in other judgments, that its rulings are to be followed not necessarily because they are correct, but because judicial discipline requires finality once the highest court has spoken.
He suggests that had the case gone to a larger bench, the outcome might have differed. For the government, faced with a judgment it believed misread the underlying policy intent, the dilemma was whether to make a retrospective amendment at all, and if so, how to do it without undermining respect for the judiciary. His view is that the better approach, one followed in the Subbalakshmi Mills case, is to protect the specific litigant's benefit while reversing the position for everyone else going forward:
"The correct way to do it was to do a retrospective amendment but protect the Vodafone judgment, which means that Vodafone would have been entitled to the benefits given by the court, and not any other taxpayers, because of the retrospective amendment... That fight is in your favor, whatever the consequences, you get the benefit. But others don't."
This approach, he argues, lets the government correct what it sees as a policy mistake while still honoring the specific outcome the litigant won through the courts, thereby showing greater respect to the judicial process.
Pressed on whether retrospective taxation discourages global capital inflows, Arbind offers a more structural answer. Most global capital, he says, flows into investments with substantial rent, whether resource-based or location-based, rather than into marginal projects earning only normal returns. When a jurisdiction repeatedly makes retrospective changes, investors build in an uncertainty premium as part of their cost of capital calculation. Because the underlying rents in these investments are often large, investors continue to invest despite this premium.
However, he is clear that this tolerance has limits. If retrospective amendments become frequent, the uncertainty premium keeps rising, and investments with progressively smaller rent get priced out:
"You move from high rent to medium rent to low rent. So all those low-rent cases, investments will go away over time. And that can be very significant for you."
He also points to a compensation principle: if a nation decides a retrospective measure is important for social welfare despite the cost to investment, it should either accept the slower investment as a conscious trade-off or put in place mechanisms to adequately compensate affected investors.
Asked for a single tax policy change that could help attract global capital, Arbind does not point to rate cuts or treaty renegotiation. Instead, he argues that the priority should be eliminating uncertainty wherever it exists in the tax system, whether in policy or in administration.
He singles out the reopening of tax assessments as a particularly damaging source of uncertainty, since reopening even a small, unrelated issue can cause an entire assessment, including matters already settled through detailed scrutiny, to be reopened and revisited:
"You're creating uncertainty. There's no finality. And what makes it worse is that once you reopen an assessment for some small amount, the whole assessment opens up."
He extends this logic to policy announcements themselves, arguing that vague commitments to "reform the tax system" without spelling out details create their own uncertainty, since investors cannot tell whether the eventual changes will help or hurt them, and may simply hold back investment in the meantime.
As a remedy, he points to India's own 1985 long-term fiscal policy document, which laid out a five-year roadmap including the planned withdrawal of the investment allowance, giving investors enough notice to adjust their plans so that when the allowance was actually removed in 1986, there was no pushback. He also references the medium-term revenue strategy tool used by the World Bank and IMF, where governments publish multi-year tax plans so that investors can factor expected changes into their return calculations in advance.
Arbind frames this as a shift in the nature of reform itself as an economy matures:
You've reached a point where rates cannot be cut anything more... all the low-hanging fruits have already been harvested. So now you have to look for these small benefits and clean these up. The headroom is much less for you now.
The complete transcript file is available to download below.
05 Oct 2026
Abhishek Anand
21 Sep 2026
Sanjiv Shah
07 Sep 2026
Arvind Chari
2026, XKDR | GSTIN: 27AAACX3640C1ZN
by Sane Difference
