CHAPTER 18
TAKINGS AND NATIONAL CONTROLS ON FOREIGN DIRECT
INVESTMENT
CASES IN THIS CHAPTER
INA Corp. v. Islamic Republic of Iran
National Thermal Power Corp. v. The Singer Co.
ADC Affiliate et al. v. The Republic of Hungary
Saudi Arabia v. Nelson
W.S. Kirkpatrick v. Environmental Tectronics Corp.
Bank of America Nat’l Trust & Savings Assn v. United States
Compaq Computer Corp. and Subsidiaries v. Commissioner of Internal Revenue
TEACHING SUMMARY
With the demise of the Soviet system in Eastern and Central Europe and the concomitant rise in
market-based economies and government privatization, opportunities for foreign investment
abound. Investment in foreign countries, however, is not without risks. These risks are not
confined to the normal risks attendant to any capital investment but also extend to political
aspects. When investing abroad, a U.S. company must always be aware that a foreign
government may, through nationalization or expropriation, take one’s investment without paying
full compensation for that property.
Furthermore, although central tax law concepts such as payment on gains, source of income,
and credits are seen in many countries, the application of those concepts differ. What may be
taxable or creditable in one country may not be in another. Thus, trans-national businesses
must not only be conversant in the tax regulations of their own country, but also in those of
every country in which they operate. Furthermore, to make doing business in another country
profitable, companies must be careful in managing these tax risks and benefits.
Additional Background: Planning For International E-Commerce Taxes
Historically, the power to tax was connected to the physical presence of assets and activities.
The Internet, however, has blurred these lines or separated assets from the source of income,
thus deviating from the traditional model. Nevertheless, e-businesses can minimize tax liability
by implementing an international tax plan. To address their double taxation, such plans should
address three issues: permanent establishment, character of income, and source of income.
The first concept, permanent establishment, had been incorporated into tax law prior to the
advent of e-commerce. It refers to a fixed place through which the business is carried on and
Chapter 18: Host-Country Regulation: Corporate Law, Taxation, and Currency Risk
assists in determining whether a country rightly has the power to tax a transaction that crosses
its borders. To determine whether a fixed place of business exists, a tax authority will consider
what the company owns and where (the asset test), whether the activities of a dependent agent
amount to a minimal threshold of activity in the country (the agency test), and the extent of
activities in the foreign country (the activities test). The second concept, character of income,
determines whether income is of a U.S. or foreign source. A company can control some aspects
of characterization through its contract terms (i.e., defining digital products as the sale of
copyrights). This aids in avoiding double taxation. The third concept, source of income, also
helps to avoid double taxation because foreign taxes are credited proportionally to the foreign
income of the taxpayer. If income is from a U.S. source, a taxpayer will obtain no credit. See Jeff
Olin, “Reducing International E-Commerce Taxes,” World Trade 64 (March 2001).
Additional Background: Cross-Border E-Finance. Although financial institutions can
commonly modify their business practices to overcome foreign governmental and legal barriers,
the same is not always true regarding the economic barriers to cross-border e-finance.
Economic barriers arise where the cost of completing an Internet-mediated cross-border
transaction outweighs its benefits, such as where the cost of market access or of constructing
the necessary technical infrastructure to support such transactions is significant. Nevertheless,
the standardization of European currency (through the euro) has reduced currency risk,
increased transparency, and facilitated cross-border transactions. Additionally, several EC
Directives encourage e-finance. These include the Directive on Certain Legal Aspects of
Electronic Commerce in the Internal Market (1998) and the Directive on a Common Framework
for Electronic Signatures (1999).
CASE QUESTIONS AND ANSWERS
INA Corp. v. Islamic Republic of Iran
1. What, according to Judge Lagergren, is the general rule relating to compensation for
nationalization?
2. Judge Lagergren notes that the Iranians had conducted a nationalization. Does he apply
the rule of compensation of nationalizations? Did he craft an exception to that rule?
3. If Venezuela nationalizes the petroleum industry, what measure of damages would Judge
Lagergren apply? Does net book value reward the foreign investor for the appreciation in
value of assets due to his entrepreneurial efforts?
Chapter 18: Host-Country Regulation: Corporate Law, Taxation, and Currency Risk
National Thermal Power Corporation v. The Singer Co.
1. Does this decision mean that foreign investors doing business in India cannot choose
international arbitration?
2. What would the result have been if the parties had chosen to have the contract governed
by the laws of England and Wales instead of the laws of India?
3. Does this result suggest that arbitration leads to faster results than courtroom litigation?
ADC Affiliate et al. v. The Republic of Hungary
1, The measure of damages was quite high because the case was deemed an unlawful
expropriation. Why was it unlawful? Would damages have been lower if it had been
lawful?
2. The panel found damages as of the date of the Award rather than the date of the taking.
Why? How can one tell whether to apply the Chorzow date of valuation rule or the rule in
this case?
Chapter 18: Host-Country Regulation: Corporate Law, Taxation, and Currency Risk
3. The panel chose the DCF method. Why was that necessary under the circumstances of
this case?
Saudi Arabia v. Nelson
1. Would the Nelsons have had a claim in U.S. courts if the employment contract Mr. Nelson
had signed in the United States had expressly agreed not to detain him in the absence of
criminal activity? Would such a clause have made his action one for breach of contract?
Would that have made a difference?
2. If his Saudi employer had failed to pay him the amounts he had contracted to pay, would
Mr. Nelson have been barred from suing in the United States by the FSIA? Would a U.S.
court have jurisdiction to hear such a suit?
3. What would have been the result in the case if Congress had adopted the “absolute”
theory of foreign sovereign immunity?
W.S. Kirkpatrick v. Environmental Tectronics Corp.
1. In light of Kirkpatrick, should Act of State doctrine ever be relevant in foreign corruption
cases?
Chapter 18: Host-Country Regulation: Corporate Law, Taxation, and Currency Risk
2. What is the policy favoring the Act of State doctrine? What policy does Justice Scalia note
against it?
3. How would the Act of State doctrine affect an attempt to challenge a Venezuelan
government official edict that breaches a commercial agreement to comply with the
modern-traditional doctrine?
Bank of America Nat’l Trust & Savings Assn v. United States
1. Do U.S. courts accept foreign nations’ designation of a tax as being on “gross” or “net”
receipts? Is this second-guessing a foreign judgment? Does the Act of State doctrine
apply?
2. Was the foreign law at issue structured like U.S. tax law? Did the court try to re–
characterize the foreign tax law so that it could be analyzed in terms of U.S. tax
categories?
3. How complicated would tax compliance be for a bank operating in many nations? Why?
Chapter 18: Host-Country Regulation: Corporate Law, Taxation, and Currency Risk
Compaq Computer Corp. and Subsidiaries v. Commissioner of Internal Revenue
1. What standard does a taxpayer have to meet in order to overcome the IRS
determination that the transfer prices were not arm’s-length? Does this give the IRS the
great benefit of the doubt?
2. Why was the IRS unable to show that its ruling against Compaq was not “arbitrary and
capricious”?
3. What does this tell the U.S. investor about playing games with inter-affiliate transfer
pricing to avoid taxes?